Are tariffs good or bad? Tariffs are a tax on value exchange imbalance.

Tariffs are one of the most discussed topics right now. What is the surface-level reason for imposing tariffs? What is their intended short-term effect? What is the underlying reason why tariffs become necessary?

Tariffs are a necessary reality for rich Western countries. They may be perceived as “bad for business,” but they are not bad for businesses that have established and practiced congruent value exchange. Instead, they hurt companies reliant on imbalanced value exchange business models. Such companies are best served by avoiding deeper imbalances to meet unrealistic prior promises and finding balanced value exchange in their core business model. I will explain using GAC as an example.

GAC, a top 5 yet loss-making Chinese EV manufacturer, faces 45% tariffs.

In simple terms, GAC is a (supposedly state-subsidized) Chinese electric vehicle (EV) manufacturer. It is quite successful in China in terms of sales volume. However, its EV business is losing money and is subsidized by its internal combustion engine (ICE) business. So, “successful” is a nuanced concept here.

Additionally, the company is running out of customers in China because EV sales everywhere appear to have outpaced consumer demand. Projections and investments in EV production were based on the overexcitement of the past few years. GAC also faces bigger Chinese competitors, such as BYD and Chery.

Now What?

GAC has been planning to launch its EVs in Europe for a while, at a time when tariff discussions were not significant. However, Europe is now imposing around 45% tariffs on imported EVs. To adapt, GAC is considering building plants in Europe to avoid the tariffs. The key questions are:

Do the tariffs make sense? Answer: Yes.
Does it make sense for GAC to build European EV factories to avoid tariffs? Answer: No.

I will answer both questions using my congruent value exchange concept. Read Part A of my book, Congruence, to learn these fundamentals.

Do tariffs on EVs make sense for Europe? Yes!

In Congruence, I state that “a company is a value exchange relationship between people with incentives.” Each company is a five-stakeholder equation spanning Customers, Investors, Employees, Partners, and Society.

In the case of GAC, this equation is imbalanced in its present state (Phase 1):

Phase 1 Customers: Chinese customers are buying an entirely new product class with their savings in a middle-income yet high-savings country.
Phase 1 Investors: Chinese owners of GAC’s ICE business are funneling capital into the loss-making EV business, hoping it becomes profitable. If the Chinese government subsidizes these investors, they will feel more secure in the short term.
Phase 1 Employees: Likely Chinese citizens enjoying relatively higher wages by local standards.
Phase 1 Partners: Likely Chinese suppliers benefiting from lucrative contracts with state-backed companies.
Phase 1 Society: The Chinese government (representing citizens) subsidizes a loss-making scheme to develop local technology, hoping it sustains jobs and technological leadership.

Even in this best-case scenario, GAC’s EV business remains an imbalanced equation. The clue is its unprofitability in China. Even if current GAC ICE investors are receiving subsidies from the Chinese government, this is not a sustainable model. At some point, the government’s support to GAC ICE investors will have to stop, or the loss-making business must change.

This Brings Us to Phase 2: Selling into Europe.

Expanding into Europe suggests that GAC has already “won” in China. The reality, however, is that selling to a richer customer base is necessary for GAC’s EV business to become profitable. How does the equation look in Phase 2 when GAC hoped to manufacture in China and sell in Europe?

Phase 2 Customers: Europeans buy an entirely new product class that may not meet their historical quality and lifetime value expectations in exchange for a lower cost, which appears easily affordable due to Europe’s higher purchasing power.
Phase 2 Investors: Chinese owners of GAC’s profitable ICE business are happier because their EV investment is now likely to turn profitable.
Phase 2 Society: Increasingly prosperous Chinese cities benefit from more jobs and a higher standard of living, while European cities face declining prosperity as local automakers cut jobs.
Phase 2: Employees and Partners: The same stakeholders from Phase 1 can bring in higher profits because European customers can afford a higher price (for now).

At this point, the imbalance becomes cross-border. When customers, investors, employees, and partners are part of the same economy, the value exchange is contained locally. However, in this case, Europe has a higher cost of living than China, meaning European customers can afford to pay more than Chinese customers. If all else were equal, the company could become profitable, and investors could expect returns. However, European society suffers an imbalance as local jobs disappear while Chinese cities prosper.

If left unaddressed, this is still an unsustainable arbitrage. As European cities lose jobs, disposable income decreases, making it harder for people to afford cars. Meanwhile, Chinese workers earn more, increasing the cost of production. Over time, this imbalance leads the company back to unprofitability. In reality, this process could take decades. So, in the short term, this imbalance benefits almost everyone except European society.

From the perspective of societal stakeholders – European citizens and government – Yes, tariffs are a short-term moat for a richer economy.

Tariffs help a wealthier economy prevent sliding into a relatively lower economic position, especially when a product cannot be sold profitably in its own country of origin.

These tariffs would negate GAC EV’s plans to become profitable. To counter them, GAC is considering building plants in Europe.

Does it make sense for GAC to build factories in Europe? No!

The value flow becomes more balanced from society’s perspective because employees would be European. Partners may also need to be European to avoid tariffs. So, Europe keeps jobs more local for products local customers buy. The problem is that a company with Chinese owners and senior employees must now find profitability while manufacturing and selling EVs in Europe – something it couldn’t achieve in China.

From an investor’s perspective, competing with global car manufacturers like Mercedes or VW while manufacturing on European soil seems far-fetched.

If the goal is to build a sustainably profitable business that balances the incentives of all stakeholders, GAC EV must first understand why it cannot achieve profitability in China before expanding into other markets – especially now that cross-border imbalances are under scrutiny.

You can apply my value exchange model for any company in any market. It’s a foundational value assessment for business model sustainability.