Media Global Economy 2018.08.28
Will the Japanese automobile industry really be adversely affected?
The Trump administration is examining raising the automobile tariff from the current 2.5% to 25%.
According to the report by the Asahi Shimbun on August 4, for the Japanese automobile industry, it is estimated that the cost to export a finished car from Japan would increase by 660,000 yen (6,000 dollars) while the cost for a Japanese car locally produced in the US would also increase by 2,000 dollars because imported parts would be tariffed. This increment equals a third of that of the cost for a finished car. Even for a locally produced car, an additional tariff of approx. 8% (22.5%×1/3) would be imposed (Both costs for an exported car and a locally produced car are estimated with both cars being the same in price. As will be discussed later, if the price of a locally produced car is lower, 2,000 dollars corresponds to a higher tariff rate).
The newspaper presented the voice of Toyota Motor Corporation executive who said that: "If the tariff is imposed on cars, we would have no choice but to raise prices, meaning that sales would decrease. It would be difficult to maintain the 3.00 million level of domestically produced cars."
It is said that Prime Minister Abe instructed Minister Motegi that it would be difficult to lower tariffs on the US agricultural products or expand access of them to the Japanese market by more than the compromise set in the TPP, and to avoid automobile tariff increases by the United States in the Japan-US trade talks, which will start on August 9.
However, will the Japanese automobile industry really be affected as much as they fear? Indeed their profits in the US market will decrease, but another view has opened.
Japanese cars aren't only exported from Japan
First, let's analyze which would be more strongly affected in the US market by Trump's tariff increases, the Japanese automobile industry or the US automobile industry (Though figures are all different in source or year, they are intended to provide a rough understanding).
According to the Asahi Shimbun, Japanese cars sold in the US market account for 40%, numbering approx. 7.00 million. Out of this number, 1.70 million cars are exported from Japan and 1.54 million cars are exported from countries others than Japan, including Mexico. Cars produced locally in the United States number 3.76 million, accounting for more than half of the Japanese cars sold in the U.S. market (2017).
Locally produced cars have come to occupy such a large portion of this because the Japanese automobile industry began to construct automobile factories in the United States since the 1980s to avoid trade friction with the United States. This is why the Japanese government has stressed to the Trump administration that the Japanese automobile industry has been a positive contributor to job creation in the United States.
How is the US automobile industry? The number of cars produced domestically by the three major auto makers in the United States is 6.56 million (2016). Of the approx. 2.40 million cars imported from Mexico, 60% are produced by US companies, numbering approx. 1.40 million. This means there are a considerable number of American cars produced overseas and exported to the US market.
The cost for a car produced locally by a US company would also increase
Even for domestic production in the United States, imported parts will be tariffed. If US companies procure parts from overseas at the same rate as Japanese companies, their costs will increase by 8%.
The part procurement rate of U.S. companies from overseas manufacturers may be lower than that of Japanese companies. However, the Japanese parts industry has also penetrated the United States with the Japanese automobile industry's increase in local production in the United States. It is thinkable that the gap in the part procurement rate from overseas between Japanese companies and US companies has been reduced.
Anyway, there is no doubt that costs would increase even in the case of US companies' domestic production. Here let's assume US companies cost increase as 5%, lower than 8%.
Automobile factories in the United States that became unable to import black painting ink from a factory in Tohoku Region due to the Great East Japan Earthquake were forced to shut down operations. US companies are also integrated into the global supply chain. Now, 60-70% of all world trade is in the parts trade.
And, though it is not pointed out, this is not the only cause of increasing costs in local production.
The Trump administration raised steel tariffs by 25%, which has brought about an increase in the cost of automobiles made of steel. In addition, due to an increase in tariffs on imports from China, costs for materials and instruments other than automobile parts are likely to increase as well. If the percentage of these, including steel used in automobile production, is 20%, the imposition of a 25% tariff would thus bring about an additional 5% increase in the cost of a finished car. The cost for a locally produced car would increase by 10-13% in total.
US companies would also be affected in not only cars imported from Mexico, but also domestically produced cars. If companies cannot shift these cost increases onto consumers through higher prices, the increment will be a burden on the companies. That is why not only Japanese companies, but also US companies such as GM, have opposed increasing automobile tariffs at the public hearing.
How different is the cost increase between imported finished cars and locally produced cars?
As a matter of course, an increase in tariffs on steel, etc. does not take place in Japan. Mexico has also raised tariffs on steel products by 15-20% as a retaliatory measure, but Mexico is a steel exporting country, so domestic prices are unlikely to rise. The additional tariff on finished cars exported from Japan or Mexico to the US market is 22.5%, but the actual cost disadvantage is no more than 9.5-12.5% compared to cars domestically produced in the United States, which would be affected by the increase in tariffs on automobile parts, steel, etc. The advantage of producing cars domestically in the United States is not much more than half of the additional tariff.
As for exported finished cars, Japanese cars exported from Japan or countries other than Japan to the US market, number 2.20-2.30 million, and American cars exported from Mexico, etc. number 1.40 million. In the case of exported finished cars whose cost would increase by 22.5%, Japanese cars would exceed American cars by 60%. In the case of domestically produced cars whose cost would increase by 10-13%, American cars would exceed Japanese cars by 70%.
Judging from these figures alone, US companies would also suffer a blow, but Japanese companies are likely to suffer a more severe blow. In a sense, this is a natural conclusion because Trump intended to protect the US automobile industry from the Japanese or European automobile industries (but he must not have thought that locally produced cars by US companies would also be affected by the cost increase).
However, it is not appropriate to judge the impact on Japanese and US companies from the cost increase alone. The problem is how much earnings and profits companies in both countries would eventually be affected.
A mutually painful draw in the US market
The rate of cost increase is not equal to the rate of price increase. Both Japanese and US companies would try to shift the cost increases due to tariff increases on prices. It depends on car quality or consumer evaluation how much the increase can be shifted onto prices (From here, it is economics that kicks in).
If a car displays good performance in ride quality, gas mileage and failure rate, and there are few alternative cars, consumers will accept price increases reluctantly. In this case, the car company can shift the considerable cost increment onto the price, so that the burden from tariffs would be effectively reduced.
In contrast, in case there are a lot of cars that display similar levels of performance, even with a slight rise in price, the car company may lose consumers to rival companies. In this case, the company can hardly shift the cost increment onto the price, so that burden will be increased (In terms of economics, the former is an inelastic case in price and the latter is an elastic case. Of course, price shifts also relate to supply elasticity in theory. Judging from large yearly fluctuations in export volume, the supply of Japanese cars seems considerably elastic, when shifting becomes easy).
Japanese companies produce popular cars, such as Toyota's Corolla and Camry brands locally in the United States. Supposing these Japanese cars are highly evaluated in the United States and American cars inferior in gas mileage, etc. are not seen as legitimate alternatives (consumer trust in, and loyalty to Japanese cars is high), shifting the price is easy. On the opposite end, US companies that might lose consumers to Japanese cars will bear the costs of increases for themselves.
On the other hand, cars exported from Japan are luxury cars such as the Toyota Lexus. These are differentiated commodities, so price shifts would be relatively easy (Of course, even if price shifts are possible, sales will decrease. However, if the demand for them is price inelastic, the decrease will be small. In addition, the degree of decrease in profit rather than decrease in sales would be important for any company).
In light of price shifts, the blow to Japanese companies is not necessarily bigger than that to US companies. It could be described as a mutually painful draw.
Furthermore, in this case, price shifts affect consumers in the United States. Both US companies and consumers in the United States will become victims of Trump's tariff increases.
Japanese companies do however have another solution. It is to increase the ratio of local production with small cost increases. The ratio of domestic production would decrease, but Japanese companies could give the profit from production in the United States back to themselves.
A showdown in the Chinese market
Trump's trade war brought about increases in tariffs against the United States in another big market as well; the Chinese market.
American cars in the Chinese market number 2.96 million (2016). Finished cars exported from the United States number approx. 0.1 million (2017) and cars produced by local joint enterprises number approx. 2.80 million (2016). Japanese cars exported from Japan number 0.17 million (2016), and those produced locally number 4.63 million (2017).
Both Japanese and US companies export few cars to China, instead producing most of them locally. This is because China's automobile tariff was as high as 25%, making local production advantageous.
To avoid a trade war with the United States, China lowered its automobile tariff from 25% to 15%, and its automobile parts tariff from 10% to 6%. After that, as a retaliatory measure against the United States' tariff increases against China, China raised tariffs on imports from the United States, including automobiles, by 25% (The tariff on American cars became 40%).
When US companies export finished cars to China, the 40% tariff on finished cars is combined with the 10% cost increment due to the imposition of tariffs on parts, etc. in the United States, meaning that the total cost will actually increase by 54% (1.1×1.4=1.54). The difference from Japanese cars, on which just the 15% tariff is imposed, is as much as 39%. With this, it becomes increasingly difficult to export finished cars from the United States.
German companies such as BMW and Daimler (Mercedes Benz), which exported approx. 0.15 million cars from factories in the United States to China, have been actually affected. These companies are moving their export bases to China, from the United States to Thailand, etc. At this rate, jobs in the United States will be lost.
On the other hand, Toyota, exporting Lexus from Japan, could increase exports by as much as 37.5% from the same month the year before in July with the tariff lowered.
In addition, an additional tariff of 25% is to be imposed on automobile parts US joint enterprises import from the United States. This also plays a great role in cost increases for US joint enterprises.
Japanese joint enterprises only have to pay the parts tariff lowered to 6% and can rather reduce costs, so that the competitive conditions with US joint enterprises will be significantly improved. If considering this, US joint enterprises have no choice but to procure parts from other countries than the United States. When they do that, US parts companies will be forced to shrink.
Moreover, in terms of competitiveness with cars from US joint enterprises penetrating China, the tariff on finished cars exported from Japan as well will be substantially lowered, so that the disadvantages in competitive conditions due to the past high tariff can also be considerably compensated.
Thanks to Trump's trade war, Japanese companies can substantially improve competitive conditions with US companies in the Chinese market.
As of 2016, car sales in the Chinese market are 28.00 million, which far exceeds the 18.00 million cars in the US market and 5.00 million cars in the Japanese market. Furthermore, the Chinese market is expanding. The United States will be left behind in this huge market. On the other hand, a new frontier will be open to Japanese companies. Both Toyota and Nissan have announced to increase their production capacity in China by 20 to 30%.
Ironically, the biggest loser due to the US President's policy is not only consumers in the United States but also the US automobile industry, which his administration apparently intended to protect.