Tariff Troubles? Consider FTZs and Bonded Warehouses

CSP with Erin McLaughlin and Alex Heil - FTZs, Bonded Warehouses Alex Heil: [00:00:00] Welcome to C-Suite Perspectives, a signature series by The Conference Board. I'm Alex Heil. senior economist at The Conference Board, guest hosting today for Steve Odland, our CEO here at The Conference Board and the usual host of this podcast series. Today, we have the exciting topic of foreign trade zones and bonded warehouses that we will be covering during our conversation. Joining me is my colleague Erin McLaughlin, also senior economist here at The Conference Board, who has written on this subject, and that includes a recent column in Barron's. Welcome, Erin. Erin McLaughlin: Hi, Alex. Thank you for having me. Exciting. I'll try to deliver. We'll see. Alex Heil: Yeah, let's not downplay it. It's an important topic. But it can be technical. So let's see what we do with this, and hopefully our audience is going to be up for more of this later on down the road. Erin McLaughlin: Yes. Alex Heil: But before we actually talk about FTZs, I have to admit, my head is still spinning. [00:01:00] We've gone through a year, and we're almost at the end of tariffs, no tariffs. High tariffs, low tariffs. Tariffs on coffee. No tariffs on coffee. It's been confusing. Can you just center us and say, where do we stand with tariffs today? Erin McLaughlin: Of course. So right now, today, we have a patchwork of tariffs that are either on specific countries or are on goods. Specific commodities like steel and aluminum, lumber, automobile parts. And so we have a very high tariff environment compared to previous years. So our tariffs are anywhere between 10% and 50% on these goods. And this is very different than last year and the years of our modern economy, they've generally been an effective tariff rate of well below 5%. Our effective tariff rate right now is about 17%. Alex Heil: So effective tariff rate really is the [00:02:00] weighted average tariff, essentially. Erin McLaughlin: Yes. Alex Heil: So that has, just order of magnitude, that has essentially quadrupled since the beginning of the year, right? Erin McLaughlin: Yes. And this year was quite a ride, as you said, which is relevant to our discussion today. Obviously when the new administration came into office, we knew that tariffs were going to be part of their policy. And the lead up was to Liberation Day on April 2, and these tariffs were unrolled. And then we saw some spikes afterwards due to some stalled negotiations or even tense negotiations. We went as high as 145% with China at one point, then they came back down. During this, we had a 90-day pause. But we've been at a pretty consistent level—there's been some further sort of framework negotiations—but it's been pretty consistent only since about August of our current tariff level, [00:03:00] but it has been a bit volatile through the year. Alex Heil: So if I look at just economic performance of the economy, and let's just say we use the metaphor of the US economy being a car. Then, economists in the beginning of the year, essentially, were expecting that car was going to crash straight into a tree, and we were going to have a recession by the end of the year. But it turns out, it's more like driving the car with the hand brake pulled up. At least, we have some limited data, especially recent one available, but it seems like, talking to some of our macro colleagues here at The Conference Board, that growth has taken a hit, but it's not cratered, to use a technical term. Erin McLaughlin: And there's really a couple reasons for that. One is the volatility that I just described. Because the tariff rate has been up and down, and it was on certain products—again like steel and aluminum, which was one of the [00:04:00] first, and then was phased in for other products—it's not as if it was, a one-time hike that immediately slowed the economy. It has been more gradual than that. We've also noticed, and we think that a lot of companies are absorbing some of the tariff increases within their supply chain. We know, just a quick recap, that tariffs are paid at the border. They're paid to Customs and Border Protection, to CBP, by US importers, by US companies, so they're not paid by other countries. And we do have this thing called the export-import price index, which was not an index that we spent a lot of time looking at before this year cause it never really changed. And guess what? It still hasn't really changed. So that means that we are not paying lower prices as a result of other countries' exporters absorbing those tariffs. So basically, because that index is holding steady, we know the prices [00:05:00] are holding fairly steady, and so that is entering the US business community and essentially, the consumers will eventually have to shoulder the burden of these tariffs. Unless they change. and they could potentially change a little bit as a result of what we're seeing with the Supreme Court, et cetera. Alex Heil: Right. So to the first point you raised, I think this is all about now the much-talked-about issue of affordability and to the extent to which prices are likely to increase at the rate of inflation, hovering around 3%. And I think the expectation is that it'll probably stick around there and that tariffs will support some upward price pressure. But the Supreme Court, that's an interesting point. What's the timeframe? When do we know? When do we expect a decision in terms of the, essentially, the legality of the tariff system? Erin McLaughlin: We really don't know. So the Supreme Court doesn't operate on a publicly published [00:06:00] timeline. The actual hearing was in early November. So we're already about five weeks out from the hearing. We could hear a decision within a matter of days and weeks, or it could be months. And a lot of analysts that really study the Supreme Court in their decisions think that it might be a decision that does question the legality or puts up for debate the legality of the tariffs, particularly the ones that are done under IEEPA, that emergency act, related to fentanyl and the imbalance of our trade deficits. But even if they make a judgment on that, the Supreme Court, what happens to the tariffs? Do they immediately go away? Are they restudied and put out under the guise of national security? There was still a lot of questions as to what would happen and if and when there could be rebates to businesses. So during this whole period of [00:07:00] uncertainty, really what we're going to talk about today is there's not that many tools that businesses can use to hedge against this uncertainty. But we've identified a couple of them" FTZs and bonded warehouses that may be useful for businesses. Alex Heil: So let's start with foreign trade zones. Tell us a little bit about them. What are foreign trade zones? How did they come to be? How are they used today? Just flesh that out a little bit for us. Erin McLaughlin: Sure. So it's really interesting, being an economist, but also I'm a history nerd. I love to think about when these things started, and what is fascinating is that foreign trade zones in the US actually came into being in the 1930s, and that was as a result of the Smoot-Hawley tariffs. And 1935 is the last time we had an effective tariff rate of about 17%, where we are now. Foreign trade zones were created at that time by the US government. They are essentially [00:08:00] physical warehouses or manufacturing districts within the US that are treated almost like they're not part of the US, because goods can come in from a port of entry and go into a foreign trade zone without having to pay a tariff. And they can be stored there, some assembly and manufacturing can happen in the foreign trade zones, and goods can be stored there indefinitely. Which, of course, no business necessarily needs to store something indefinitely. And then tariffs are paid on those goods when they leave that foreign trade zone. And so this is, just to be really very basic in my explanation, this is a tool that, if a company has a foreign trade zone as a warehouse or manufacturing facility that it can use, it can perhaps hedge the bets on our fluctuating tariff environment that could [00:09:00] change. Alex Heil: Meaning you could basically have these goods enter the foreign trade zone that you are operating, and then manufacturing or assembly or whatnot takes place. And you can choose the timeframe when you basically move it out of the zone, right? And then sell it to consumers. Am I getting this at least partially right? Erin McLaughlin: Yes. Yes. So you would still pay tariffs on it, but it could be a lower tariff on a finished product versus different parts and materials that go into a product. Also, if you are exporting it directly outside the US, your product, then you would not have to pay tariffs on it traditionally. Alex Heil: Oh. So if resources come in, they are assembled within the FTZ located on US soil, but then are not sold to US consumers, but leave again and go elsewhere, the tariffs don't affect that process. Erin McLaughlin: Yes. And that's really, that was the impetus back in the [00:10:00] 1930s during the Smoot-Hawley Act. America was still largely, especially in the 1930s and of course later in the '40s, was really a manufacturing hub for the world. And so they wanted to make sure that we were able to stay competitive globally with our products that are sold globally. And that was really how FTZs, foreign trade zones, were very useful. Now I find it very interesting, and this is what my column in Barron's earlier this year was about, is that a lot of the tariff conversation in our conversation on onshoring and bringing manufacturing back in the US has been ultimately with the view of selling to the US consumer. But for so many companies, they also have to sell and be competitive globally. And so bringing manufacturing back to the US, we have to also put that lens on and try to create environments where businesses can be competitive globally and not be punished for our own tariffs, [00:11:00] essentially. Alex Heil: That makes sense. I presume this isn't just a situation where someone puts up a sign and calls it a foreign trade zone and then starts operating that way. There's a process, right? Erin McLaughlin: There is a process. So ultimately these things are controlled by Customs and Border Protection and are instituted by the federal government, by a federal agency. And companies that have FTZs or decide that they would like their warehouse or their manufacturing facility to be an FTZ also, generally, need to have a sponsor. And the sponsors are usually the local ports or a local economic development authority. There's different terms for it. I'm not an attorney, so you know, companies interested in this will certainly have to go through that process with an attorney and a customs broker of sorts. But essentially, they do go through a process that does last a [00:12:00] couple months in order to get their warehouse or their facility zoned as an FTZ. We know that there are 200 FTZ programs in the US. They're in every single state, and they have taken in a value of shipments in 2023, which was the latest year we have data, at $ billion. So there has been considerable growth in FTZs, but it's been steady and methodical over the years. But we've heard anecdotally over the last year that there is a 400% rise in interest in FTZs and bonded warehouses, which we'll talk more about in a minute, because companies are really trying to seek and optimize these tools in this highly uncertain environment. Alex Heil: I think that makes a lot of sense, especially in an environment where there's a lot of volatility with the tariff rate, you can shield yourself for the time being until you have some more [00:13:00] clarity. That makes a lot of sense. So you mentioned they exist in all states, but is it fair to say that they're more prevalent in border states, or does it really not matter? I guess from an operations point of view, it doesn't matter. You can import goods and then, as long as they go to a designated zone, that's fine. But are there particular parts of the US where they are more frequently set up? Erin McLaughlin: Not necessarily. So they really are geographically all over. Obviously they are around seaports, but in the US we have lots of inland ports, we have lots of other facilities where industry trades, supply chains cross. So you'll often find them in those sort of intermodal areas. 3,400 companies operate in FTZs in the US, and I think what's interesting is not necessarily the geographic focus, but it's more of what industries are using or have been using FTZs, leading up to this year. So the most popular companies that use [00:14:00] FTZs are pharmaceutical companies that have to manufacture and blend ingredients and components from all throughout the world. Also, factories that assemble vehicle parts, and also energy and consumer electronics. So those are the most prevalent industries using these kinds of facilities. If a company is importing bananas and coffee, they're not going to an FTZ. It's more for goods that are going to be manipulated, manufactured, light assembly, where there may be a process related to the goods that come in. Alex Heil: And that speaks to the whole economic development argument here, cause you're essentially utilizing, then, US labor in these kind of zones. And that's the justification for the, what did you call it? The host? Erin McLaughlin: The grantee. Alex Heil: The grantee, right. Erin McLaughlin: The host. Yes Alex Heil: Exactly. Erin McLaughlin: So a lot of states over time compete for manufacturing facilities in the US, and so your economic development authorities or [00:15:00] partnerships in a given state or county would go form an FTZ. They would work with CBP to try to get maybe their industrial park in their county an FTZ so that they could attract manufacturing and make a great case for big companies to establish and hire their local labor. Alex Heil: So clearly, maybe lots of executives after listening to this podcast, they're going to call their legal departments to see how this sounds to set this up. But if you had to forecast this, would you expect that into '26 and '27, next couple years, that this is going to be a tool that more companies are going to be seeking out? The volume of trade that was flowing through these FTZs was already substantial from the data you were quoting. But this might also just be something that because of the argument that you're utilizing US labor might be something that is just a desirable strategy by businesses. Erin McLaughlin: Yeah. I think it's absolutely a desirable [00:16:00] strategy. So we know, for example, with the Supreme Court hearing, that we're not done with our tariff uncertainty and volatility, most likely. There's going to be some kind of change. At least that's what most people think. I think that, too. And so if we do have further changes, are there going to be changes after that With regards to instituting different kinds of tariffs that are maybe against national security? And then we are also looking at two of our three largest trading partners, Mexico and Canada. We have our trade agreement up next summer, the US-Mexico-Canada trade agreement. NAFTA 2.0 is going to be renegotiated, and that may also just lend itself to using FTZs in order to insure yourself against potential issues with regards to cross-border trade between Canada and Mexico that maybe weren't a concern because your goods were covered by that trade agreement. And so I definitely think it's a tool [00:17:00] that is going to be increasingly relevant over the next year, two years, three years. And that if I was a corporate executive, I would reach out to my supply chain folks and say, do we have an FTZ? Are we using these now? Should we try to incorporate more of our supply chain in existing FTZs? And/or should we try to add FTZs to our supply chain? Alex Heil: So I mean that renegotiation next year, that's going to be a big topic. And watch out everyone, we're going to have you back, Erin, certainly, talking about this because you're the resident expert on trade here at The Conference Board. But let's take a short break, and we'll be right back with more of my conversation with Erin McLaughlin. Welcome back to C-Suite Perspectives. I am your guest host, Alex Heil, of The Conference Board. I'm joined by my colleague, Erin McLaughlin, senior economist with The Conference Board. Welcome back. Erin McLaughlin: Thank you. Alex Heil: Our second topic for this [00:18:00] podcast, it's maybe something that does not necessarily make intuitive sense when one just reads the term. Unlike foreign trade zones, I think anybody can maybe envision what that looks like. But bonded warehouses, what are those? How are they different, how are they similar to foreign trade zones? Erin McLaughlin: Right. So, they're like the cousin to foreign trade zones. They also have to be certified by Customs and Border Protection. But bonded warehouses, there's a couple major differences, but the major difference is in bonded warehouses, manufacturing can't really happen. It's more of a storage facility than a manufacturing facility. Now, there's different legal definitions of things like assembly and manufacturing and storage. Again, I'm not providing legal advice here, but essentially a bonded warehouse is where some light assembly can take place, but it's not a manufacturing facility. The other big difference is it's for a term of [00:19:00] five years, versus the foreign trade zone where goods can come in and sit tariff-free indefinitely until they leave. And so five years on the bonded warehouses, indefinitely in FTZs. And then the tariff is paid when the goods leave the bonded warehouse. So in thinking about five years, five years from now, tariff policy could be very different than it is right now. And so the attractiveness of potentially using bonded warehouses is also there. And I think that's a tool that companies would also want to explore. Alex Heil: Right. There's cost, obviously, with storage. Erin McLaughlin: Yes. Alex Heil: And so there's limitations on how long one can potentially use that because of the opportunity cost. But do we have any data on the volume of business that flows, the volume of trade that flows through bonded warehouses compared to FTZs? Are [00:20:00] they more prevalent, or is this sort of the small cousin that is not as much used. Erin McLaughlin: There is no data on this. I really think that bonded warehouses are something that people were not talking about until this year. My background is in commercial real estate and design and construction, and bonded warehouses were not something that have generally been targeted or really desired because again, before this year, we had an effective tariff rate that was well below 5%. And so the necessity to hold a good—and FTZs have always had attractiveness because again, as we said, you can export a finished product without paying tariffs. You can potentially pay a lower tariff on a finished product, and you have the ability to manufacture. For bonded warehouses, they haven't been very popular because there was really no need for them to be popular before this year. But folks are definitely very interested in [00:21:00] them now. Alex Heil: Yeah, that's interesting. It really sounds like it's an additional strategy. So if we don't have any data on the overall volume, do we have any data on type of industries, type of companies, type of products? Or is that equally a black box—or a black warehouse, I should say? Erin McLaughlin: There's a little less information on them because they're private facilities. So essentially, a foreign trade zone, because you're generally going through, like we were talking about, a grantee like a port authority or a local economic development authority, as well as CBP, to get your facility certified. Bonded warehouses, you do have to go through a certification process and track them. But these are generally just warehouses, and there is a process. It takes two or three months, is my understanding. But it is a private facility. There also may be some ability for companies to lease space in [00:22:00] existing bonded warehouses and have some flexibility. But there is some added cost for bonded warehouses because things need to be tracked and reported on in a different way than your typical warehouse. Alex Heil: Interesting. This is a real niche, essentially, when it comes to trade and operations thereof, but you certainly covered the main ground of tariffs and trade throughout this year. Can you give our listeners just a little bit of a sense of the resources that you have established and that we have available here at The Conference Board, if anyone wanted to learn more about tariffs and trades. Erin McLaughlin: Absolutely. So firstly, and it's one of our most visited pages this year, we do have a Tariff Tracker on our website that lists the tariff rate on our major trading partners, our top 17 trading partners, as well as on the big commodities like steel and aluminum, lumber, [00:23:00] automobile parts, things that are experiencing tariffs. And yeah, most folks don't want to have to comb through the executive orders and parse this stuff out week by week. So we've been doing that for you. And we have a tracker that lists that. Then we also have different articles and stories, a lot of them are in our Navigating Washington hub on our website, that discuss and offer some insights for businesses on what a lot of these policies, including the tariff and trade policies, may mean, and strategies such as FTZs and bonded warehouses that perhaps companies can undertake to try to create some certainty in this environment. And what this really comes down to when you think about it, both with FTZs and bonded warehouses, is it goes back to that conversation about preserving cash and preserving cash flow during the supply chain. And it is related to that conversation about how [00:24:00] we know that the tariff burden is presenting itself on American importers, and they're the ones paying the tariffs. And so, in order to protect their cash flow and in order to hedge against future changes, that's really where the FTZs and the bonded warehouses can be used. Alex Heil: Interesting. Just to wrap things up here, so while our audience is going to read up on tariff and trade on our website, what are you watching going into 2026? If you had to just say, when it comes to these topics, this is the number one thing that I'm paying attention to going into 2026. Do you have a sense? Erin McLaughlin: I do. So the number one thing that I'm paying attention to is the activity with our three largest trading partners. So our three largest trading partners are: one, Mexico; two, China; and three, Canada. And what we've seen in 2025 is a significant decline in trade, both imports and exports, between China and Canada. We have not [00:25:00] seen a significant decline, really, in Mexico, but all three of those countries are basically the three countries for which we do not have e stablished trade agreements with. We kicked that China one for 12 months, so that's now November of next year. And we know with Canada and Mexico, there's going to be a renegotiation of the US-Mexico-Canada Agreement, aka NAFTA 2.0. And so there's just a lot of uncertainty ahead. Those are by far our three largest training partners. Alex Heil: Stay tuned. There's lots more to come. And I think this is actually a very fascinating topic. Thank you so much for joining us today, Erin. Erin McLaughlin: Thank you for having me. Alex Heil: And thanks to all of you for listening to C-Suite Perspectives. I'm Alex Heil, and this series has been brought to you by The Conference Board.