Tariffs could fuel inflation, shock supply chain, experts say

Tariffs left unchecked could fuel inflation and cause cracks in a supply chain that has been stretched to its limits over the past five years, according to a leading economist and supply chain experts.

Economists are closely watching what comes of President Donald Trump’s new 10 percent tariff on China and threatened tariffs on Canada and Mexico, 25 percent levies that were postponed by the administration for a month but have already risked damaging international relationships.

Experts are putting a microscope on the automotive industry, anchored to one of the most complex supply chains on the planet, to understand the impact of tariffs and what it could mean for inflation, said Austan Goolsbee, president and CEO of the Federal Reserve Bank of Chicago.

“Almost half of U.S. imports are intermediate goods, that is, parts, components and things that are not final goods going to the consumer,” Goolsbee said. “Tariffs on intermediate goods raise the cost of production for domestic manufacturers, period. So, the inflation impact from tariffs like that are unlikely to stay only in the directly affected products.”

Those extra costs—often compounded as parts and components cross borders multiple times—are charged to suppliers, which generally are in no financial shape to eat the costs, said Mike Jackson, executive director of strategy and research at the Original Equipment Suppliers Association.

“They’re doing everything they can to try and cut costs,” Jackson said, adding that many are reeling from stranded capital and sunk costs on electric vehicle programs that haven’t generated promised volumes.

Suppliers, then, would attempt to pass the buck on to auto makers, which surely wouldn’t absorb such a hit to the bottom line, added Stephanie Brinley, associate director, research and analysis, for S&P Global.

“It has to be passed onto the consumer, ultimately,” Brinley said. “We’re talking about tariffs that are high enough that no one can absorb them. They just can’t.”

The discussion took place Wednesday at the Fed’s annual Automotive Insights Symposium in Detroit, where industry leaders and experts converged to talk about regulatory policy and its impact on industry.

There was no debate about this: Tariffs would bring considerable pain to suppliers and OEMs craving stability after years of disruption. The microchip shortage is barely in the rearview mirror, and the next force majeure could kneecap supply again at any moment.

The question is how big of an impact tariffs will ultimately have on the supply chain, and moreover, what impact that could have on inflation.

The post-pandemic supply chain crisis offered many lessons. Chief among them is that the supply chain is more fragile than everyone thought, and disruptions could cause not-so-transitory inflation around the globe, Goolsbee said.

“The more complex the supply chain is, the longer it takes to work through shocks,” he said. “Shocks that may start as transitory … and at worst, turn into permanent. What matters for tariffs and their impact on inflation is that degree of substitution.”

In other words, can a purchaser swap suppliers or move production to avoid being hit by tariffs? Theoretically, the COVID-19 pandemic forced companies to build a more resilient supply chain, and Trump’s tariffs in 2018 during his first term as president inspired a more diversified supply approach.

But that remains to be seen, Goolsbee said: “We learned it’s dangerous to ignore these supply chain impacts."

Then, if inflation does increase after tariffs are impacted, it will be tougher to distinguish the root cause—i.e., if tariffs are fully to blame—or if the economy might be overheating. That would create challenges for the Federal Reserve in combatting it.

“It's that fuzziness of the data that we’re going to have to untangle," Goolsbee said.