The impact of tariffs and price premiums of locally manufactured products on global manufacturers' sourcing strategies

Abstract

The past decade has seen significant pressure to return manufacturing to developed countries. Such movements call for import tariffs to be raised and consumers' valuation of products made from locally sourced components increased. These factors are believed to stimulate firms operating in a single market to source components locally. However, it is not clear that they are equally effective for multinational firms that produce and sell products in multiple markets. To enrich the understanding of this issue, we build a game-theoretical model to analyze the sourcing decisions of a global manufacturer that maintains production sites and sells products in both domestic and foreign markets in a competitive environment. The firm can choose either to source components from suppliers located in the same markets as the manufacturing sites to gain tariff savings and a price premium from consumers' higher valuation, or to source all components from a single foreign supplier to obtain a lower sourcing cost. We find that the structure of the global supply chain plays a critical role in the firm's sourcing strategy. Consumers' higher valuation of locally manufactured goods always promotes local sourcing. Raising tariffs, however, might backfire and discourage local sourcing because of the firm's global supply chain structure and the foreign supplier's strategic response to higher tariffs. Finally, local sourcing may reduce the consumer surplus even though consumers place a higher value on locally manufactured goods. This paper sheds light on recent movements to return manufacturing to developed countries and demonstrates the importance of taking the manufacturer's global supply chain structure and vertical interaction with suppliers into account.

Tariff Hedging with a New Supplier? An Analysis of Sourcing Strategies Under Competition

“…In contrast, we consider a competition setting and find that ex ante symmetric firms may adopt different supplier development strategies; moreover, competition intensity plays a key role in influencing the development equilibrium. Xu et al (2018) and Chen et al (2022) are among the few papers that consider competition when studying how tax rules and tariffs affect a MNF's decision. With tax rules giving differential treatment to products serving different markets, Xu et al (2018) study a MNF's choice between consignment and turnkey strategies for component procurement.…”

“…They find the MNF's preference between consignment and turnkey may switch twice as the domestic market grows, driven by a multimarket structure with different sizes and competition from a local firm. Chen et al (2022) investigate the impact of tariff increase on the sourcing decision of a global manufacturer that sells products in both domestic and foreign markets. They identify the nonmonotonic impact of tariff on the manufacturer's choice between domestic sourcing and global sourcing.…”

“…Xu et al. (2018) and Chen et al. (2022) are among the few papers that consider competition when studying how tax rules and tariffs affect a MNF’s decision.…”

Risk management for second‐hand clothing imports in least developed countries: Legislations and perception of public‐sector corruption

“…In line with Guan, Geng, and Gurnani (2021) and Shi, Tang, and Dong (2021), we consider a consumer market with size normalized to be 1. Each consumer buys at most one unit (Chen, Wang, Niu, & Chen, 2022; Hu, Wang, & Feng, 2020). Consumer heterogeneity in product valuations (i.e., the consumer's willingness to pay) is captured by taking v to be uniformly distributed over [0, 1] (Li et al., 2019; Niu & Zou, 2017; Pun et al., 2021).…”

Welfare-maximizing tariff versus trade-surplus-maximizing tariff: Impacts on multinational firm competition

“…Table 1 lists some well-known examples on tariff-related trade policies between two countries. If two countries are continually going back and forth on tariffs, it will become a trade war (Chen et al, 2022;Ding et al, 2022). One unexpected example is that in 1987, even though the U.S. government imposed tariffs on electronics imported from Japan, the Japanese government decided not to react, maintaining the original tariff policy.…”