By Peet Serfontein
Analysing income statements
Trade policy refers to the set of regulations, agreements, and practices that govern how a country engages in international trade. These policies determine the terms under which goods, services, and capital crosses national borders. The goals of trade policies typically include promoting economic growth, protecting domestic industries, fostering international cooperation, and ensuring fair competition.
Trade policies play a fundamental role in shaping global economic interactions. Through mechanisms such as tariffs and trade agreements, nations influence the movement of goods, services, and capital across borders. The effects of these policies ripple across industries and markets, driving changes in prices, production costs, corporate profits, and even consumer behaviour.
Tarrifs
The role of tariffs in an economy One of the most used trade policy instruments is the tariff - a tax imposed on imported goods. Governments impose tariffs for various reasons, including protecting domestic industries from foreign competition, raising revenue, and sometimes as a bargaining tool in international negotiations. The immediate consequence of a tariff is to increase the price of imported goods, making them more expensive relative to locally produced alternatives.
For domestic producers, tariffs can be a boon, as higher prices on imports allows them to compete more effectively. For instance, a tariff on imported steel might benefit local steel producers, giving them an advantage in their home market. However, the flip side is that industries reliant on steel as an input-such as automotive manufacturers-will face higher costs. They must either pass these increased costs on to consumers in the form of higher prices or absorb them, which can reduce profit margins.
For consumers, the impact of tariffs can lead to inflationary pressures. Higher import costs typically lead to increased prices for goods, reducing purchasing power and potentially slowing economic growth. Moreover, tariffs can disrupt global supply chains, particularly in industries where materials and components are sourced internationally. For example, in industries such as electronics or manufacturing, where production is highly integrated across borders, tariffs can cause significant disruptions, affecting not only pricing but also the availability of products.
Market reactions to tariff announcements Financial markets often react swiftly to the announcement of new tariffs, especially when they are unexpected or affect major trading partners. Shares of companies that rely heavily on imported goods may suffer as investors anticipate higher costs and lower profit margins. A classic example is when the United States imposed tariffs on Chinese goods during the US-China trade war. The share prices of companies with significant exposure to Chinese imports, such as technology manufacturers, dropped as investors braced for higher costs and disruptions to supply chains.
In contrast, companies that stand to benefit from protective tariffs might see their stocks rise. Domestic producers in industries shielded from foreign competition by tariffs can experience increased demand for their products, boosting revenues and stock prices.
Long-term economic effects of tariffs While the immediate impact of tariffs is often visible in market movements, the long-term effects can be more subtle but equally significant. Over time, tariffs can lead to inefficiencies in the economy by distorting resource allocation. In an ideal free-market scenario, resources such as labour and capital are allocated based on comparative advantage-nations or industries focus on producing goods where they have the most significant efficiency. However, when tariffs protect less efficient domestic industries, resources may be diverted away from more productive sectors, ultimately slowing economic growth.
Moreover, tariffs can provoke retaliation from trading partners, leading to a spiral of trade barriers that restrict global trade. When countries engage in tit-for-tat tariff wars, both sides typically suffer from reduced market access, higher costs, and economic slowdown. The global steel and aluminium tariffs imposed by several countries in recent years provide a clear example of how trade barriers can escalate, harming industries and consumers on both sides.
Trade agreements
The role of trade agreements in market movements While tariffs tend to restrict trade, trade agreements aim to facilitate it by reducing or eliminating barriers between countries. Trade agreements can take various forms, from bilateral agreements between two countries to multilateral agreements involving many nations. These pacts often address issues such as tariffs, intellectual property rights, labour standards, and environmental protections, creating a more predictable and stable trading environment.
By lowering tariffs and other barriers to trade, trade agreements can significantly increase market access for businesses. For example, a free trade agreement between two countries might eliminate tariffs on a wide range of goods, allowing companies to sell their products in foreign markets without the added cost of import taxes. This can lead to expanded sales, higher revenues, and increased profits, which can positively influence stock prices and investor sentiment.
In addition to enhancing market access, trade agreements often encourage investment by providing greater certainty and reducing the risk of sudden policy changes. Companies are more likely to invest in foreign markets when they have confidence that trade relations will remain stable and predictable. This increased investment can spur economic growth, create jobs, and drive up demand for local resources and services, leading to positive market outcomes.
Case study: The African Continental Free Trade Area (AfCFTA) The African Continental Free Trade Area (AfCFTA) is an excellent example of how a trade agreement can impact market movements. Launched in 2021, the AfCFTA aims to create a single market for goods and services across 54 African countries by eliminating tariffs on most goods and fostering economic cooperation. By reducing trade barriers, the agreement is expected to boost intra- African trade, enhance industrialisation, and attract foreign investment.
For businesses operating in Africa, the AfCFTA offers new opportunities to expand into neighbouring markets without facing high tariffs or regulatory hurdles. This could lead to increased cross-border trade, higher production levels, and greater economies of scale, all of which could contribute to higher profit margins. For investors, the AfCFTA represents a potential catalyst for growth in African markets, as companies that are well-positioned to take advantage of the agreement might see their valuations rise.
Moreover, the AfCFTA could attract foreign direct investment (FDI) as companies from outside Africa look to establish a presence in a continent-wide free trade area. This influx of FDI can lead to the development of infrastructure, new industries, and job creation, all of which are positive for economic growth and market performance.
Challenges and risks of trade agreements Despite the potential benefits, trade agreements are not without risks and challenges. One of the main concerns is that liberalising trade can expose domestic industries to increased competition from more efficient foreign producers. While consumers may benefit from lower prices and more choices, some domestic companies may struggle to compete, leading to job losses and economic dislocation in certain sectors.
Additionally, trade agreements often come with stringent rules and regulations that businesses must comply with, such as labour standards, environmental protections, and intellectual property rights. While these provisions are designed to promote fair and responsible trade, they can increase costs for companies, particularly small and medium-sized enterprises (SMEs) that may lack the resources to navigate complex regulatory environments.
Finally, trade agreements can be politically sensitive, as they often require countries to cede some control over their trade policies in exchange for greater market access. This can lead to opposition from domestic industries or groups that feel they will be negatively impacted by increased foreign competition. Negotiating and implementing trade agreements can be a lengthy and contentious process, with potential disruptions to markets during the negotiation period.
The bottom line
Trade policies, including tariffs and trade agreements, have a profound impact on market movements. Tariffs can protect domestic industries but at the cost of higher prices for consumers and potential inefficiencies in the economy. They can also lead to market volatility as investors react to changing cost structures and trade barriers. Trade agreements open up new opportunities for businesses by reducing barriers to trade, enhancing market access, and promoting investment. However, they also introduce challenges, such as increased competition and regulatory compliance burdens.
For businesses and investors, understanding the nuances of trade policies is critical to navigating the complexities of global markets. By analysing how tariffs and trade agreements shape the competitive landscape, market participants can make more informed decisions, anticipate potential risks, and identify opportunities for growth in an increasingly interconnected world.
