Petrochemicals face tariffs if trade war begins

Source: ECN

2018/03/09

US fuels, plastics, petrochemicals and agriculture could be a primary target for retaliatory tariffs if the US follows through on president Donald Trump’s promise to target global tariffs of 25% for steel products and 10% for aluminium.

If other countries target US crops, such as corn, then this could have a ripple effect on agrochemicals and fertilizers. As foreign demand for US crops declines, farmers would respond by planting fewer crops, lowering demand for agrochemicals as well as fertilizers.

Cal Dooley, the president of the American Chemistry Council (ACC), raised the prospect of retaliatory tariffs during a question-and-answer session with US Senator Ted Cruz (Republican-Texas) during a forum his trade group was hosting in March. Speaking on 8 March China’s foreign minister, Wang Yi, promised “a justified and necessary response” to a trade war.

Trump appears more likely to pursue these tariffs now following the resignation of Gary Cohn as White House chief economic advisor. Cohn reportedly resigned because he disagreed with the administration’s pursuit of the tariffs. His departure could remove a moderating voice from the Trump administration. On 8 March, however, there were reports that exemptions might be granted to Canada, Mexico and other allied countries, possibly in Europe.

PETCHEM CONSTRUCTION HIT

Steel tariffs would cause immediate harm to the US petrochemical industry because it is in the midst of a construction boom based on low-cost ethane. Rising oil production is now providing even more ethane, and companies are considering another wave of new plants to take advantage of this additional feedstock.

Higher steel costs may cause some firms to cancel their plans, since the metal makes up a significant cost of a petrochemical plant. Dow Chemical estimates that steel made up roughly 20% of its previous $6bn investment. Midstream companies rely on steel for much of the infrastructure used to extract ethane and ship it and other natural-gas liquids (NGLs) to petrochemical companies.

Their construction costs would also increase if steel prices rise. Those costs could filter down to NGL prices, eroding the cost advantage that made the US petrochemical boom possible. Margins could erode even further if the world responds with their own retaliatory tariffs on petrochemicals.

EXPORTS IN DANGER

The new petrochemical plants being built in the US were always premised that much of their output would be exported, given the nation’s cost advantage. Even if companies wanted to sell their output locally, the amount of new capacity coming online would overwhelm the US.

Many of these exports will go to Asia, home to many of the largest steel exporters to the US. US petrochemicals are an attractive tariff target because of the country’s cost advantage, plus it already exports a lot of resins and chemicals. It exported $174bn of goods in 2016, accounting for 14% of all US exports, the ACC said. It represented 23% of all US shipments. The industry had a trade surplus of $28bn in industrial chemicals that year.

The US is also a large exporter of gasoline and diesel, which may become a target for tariffs. The US also exports ethane and liquefied petroleum gas (LPG). If countries decide to target these products, it could cause exports to decline, leading to more material becoming available to US petrochemical companies. That could take some pressure off feedstock costs, although the industry would probably prefer other policies to achieve this end.

The tariff proposals point to a more worrisome trend. Such protectionist measurements can have the opposite effect intended by policy makers.

The Economist magazine reviewed the history of the US Jones Act, a law from 1920 that requires all trade between domestic ports to be carried by ships built by the US, manned by US crews and flagged in the country. In 1960, the US shipping fleet accounted for 17% of the global total. By the time The Economist published its article in October, the fleet accounted for just 0.4% of the total.

The law encouraged container lines to concentrate on the inflated profits at home, The Economist reported. As a result, they neglected their foreign operations and lost the scale needed to compete with overseas rivals.

The same could happen to the nation’s steel and aluminium industries. Coddled by protectionist measures, they could lose the incentive to become more efficient. Far from strengthening these industries, tariffs could very well make them even weaker, while hurting the companies that truly have a competitive advantage.

Trumps’ protectionist tendencies have always posed a risk to the US economy. Within days of taking office, he signed an order withdrawing the US from the Trans-Pacific Partnership (TPP). With negotiations still ongoing over the North American Free Trade Agreement (NAFTA), Trump has still more opportunities to threaten the chemical industry.