Banks need to brace for Trump’s tariffs

When Federal Reserve Chair Jerome Powell testified before Congress earlier this month, lawmakers didn’t just focus on monetary policy. Instead, they were much more interested in finding out what Powell thought about the potential effect of President Trump’s tariffs on their constituents.

While Powell reminded legislators from both chambers that the Fed’s tools are for monetary policy — and that it is they who have the tools to influence trade policy — he made it clear that he did not think tariffs would be good for the economy in the long run.

Indeed, the Trump administration’s attitude toward global alliances and treaties is already having a clear effect on corporate investment in the United States.

“This year, net inward investment into the United States by multinational corporations — both foreign and American — has fallen almost to zero, an early indicator of the damage being done by the Trump administration’s trade conflicts and its arbitrary bullying of companies and governments,” the economist Adam Posen recently wrote in Foreign Affairs.

Banks of every size should not wait to figure out how tariffs and reduced foreign direct investment may affect their credit portfolios. In the short term, trade tariffs will disrupt the supply chain of numerous companies, while in the long term, an intensifying trade war and reduced foreign direct investment will hamper U.S. GDP.

Moody’s and the U.S. Chamber of Commerce have each independently estimated that millions of Americans could lose their jobs due to the Trump administration’s tariffs on a wide range of products coming in from Canada, China, Europe and Mexico. It is impossible to predict with any certainty the number of jobs at risk, given the unpredictability of how different countries might react. However, this should not stop senior executives or risk management officers from creating a framework to analyze how tariffs might affect the ability of existing and future borrowers to repay existing credit lines.

It’s especially important for community and regional banks in states with a significant number of jobs supported by exports, or those with customers that are importers of products like steel and aluminum, to evaluate the likelihood of job losses and subsequent loan delinquencies. This is also a good time to review loan covenants, along with the quality and price of collateral posted, for existing loans.

Even states that have less exposure to export-supported jobs are not immune, because it’s very difficult to predict how customers will react when different companies raise prices due to the effect of tariffs.

After the Trump administration imposed a 25% tariff on imported steel, for example, one company, Mid-Continent Nail in Poplar Bluff, Mo., reported that nail orders plunged 50% once it raised its prices to cope with higher steel costs. Mid-Continent responded by laying off 12% of its workforce, and it has stated that it might have to relocate to Mexico, which would mean more workers will be laid off. How long will it be before laid-off workers stop paying their credit cards, auto loans and mortgages?

Unfortunately, the tariffs might also lessen loan availability and make those approved loans more expensive to borrowers. That means companies dependent on imports that have tariffs levied on them will likely find it harder and more expensive to take out loans precisely when then need them.

Any type of bank exposed to the sectors most sensitive to the tariffs such as agriculture, steel, aluminum and the automobile industry should immediately review the quality of their loans to borrowers in those sectors and maintain appropriate levels of capital to mitigate concentration risk. While capital is not free, banks with heavy exposures to borrowers in the sectors most affected by the tariffs should start raising their capital levels so that they can sustain unexpected losses.

It is a shame that after all the work that community and regional banks put into obtaining regulatory relief this spring — an effort that was strongly supported by the White House — they may not reap the benefits due to Trump’s burgeoning trade war.