The United States, Canada, and Mexico have reached a new NAFTA agreement, lifting months of uncertainty over the trade bloc.
Canada and the United States reached a new agreement in October on the North American Free Trade Agreement (NAFTA), joining Mexico in a previously agreed framework. The updated NAFTA trade pact was renamed the United States-Mexico-Canada Agreement (USMCA). There are a handful of things that are interesting about this new deal.
The United States gave ground on Canada’s insistence on arbitration on disputes, effectively allowing Articles 19 and 20 of the original NAFTA to be carried over into the new deal, and the Canadians gave ground on dairy imports. The concession seems far greater on the U.S. side; one of the matters that was of great concern to the trade nationalists in the Trump Administration is the way the WTO and NAFTA undercut the authority of the U.S. courts. The United States gave way on a matter of principle here. In exchange, Canada agreed to open 3.60% of its dairy market to the United States. Under the Trans-Pacific Partnership (TPP), which Trump rejected as one of his first actions in office, the United States would have gained access to 3.25% of the Canadian market — an unremarkable difference of 0.35%.
Auto wages in dollars
The auto industry sections of the deal have generated a lot of comment. The “local content” rules were tightened, and it also required autoworkers to be paid in nominal U.S. dollars. This is to encourage jobs to remain in, or to return to, the United States, where the wage threshold is higher than the average wages of autoworkers in Mexico. The wage rule will become less binding each year. The cost of non-compliance with these “rules of origin” is small; in most cases, it will be a tariff of 2.5%. While it is not of zero consequence in the highly competitive U.S. auto market, the amount is hardly a king’s ransom and is dwarfed by the kind of exchange rate volatility that global automakers are fully accustomed to. About 70% of vehicles made in Mexico would meet the new “local content” rules, and the rest would be subject to the WTO MFN tariff of 2.5% if imported into the United States.
The final pact also addresses Trump’s concern that the agreement provide a mechanism for renegotiation.
The final pact also addresses Trump’s concern that the agreement provide a mechanism for renegotiation. The USMCA will run for 16 years with the condition that, after six years, the three countries can review the deal and either renegotiate or extend it for another 16 years. Since the deal will not take effect until 2019, the six-year period will go past a possible second Trump term.
One of the important and wholly legitimate arguments used to support the negotiations was the need to modernize NAFTA to take account of the changed economic circumstances in the intervening years. The new agreement covers some issues, notably intellectual property protection, that were not addressed in NAFTA. However, all this language seems to have been imported from the TPP. The United States participated in the negotiations over TPP before President Trump announced his decision to withdraw.
A currency provision aimed at China
The one really interesting and new part of the agreement concerns macroeconomic policies. The three countries agree to be bound by IMF policies on exchange-rate manipulation and to refrain from using currency intervention to produce competitive devaluation. They agreed to publish monthly FX reserves data and report on interventions in spot and forward markets, and to establish a committee that will review macroeconomic policies and practices. All this is quite new in a NAFTA context, although it does not go much beyond what is fairly routine for advanced country IMF members. It is also worth noting that costs of non-compliance with these requirements are trivially low. The agreement contains one other provision: It allows for the loss of some trade benefits if a member country reaches a free trade deal with a non-market economy. This is new and an interesting weapon to deploy against China.
Finally, it’s worth remembering the political context of the negotiations, especially the final stretch of talks with Canada. Canada is the largest export market for 34 U.S. states, and its total imports from the United States are about double Chinese imports from the United States. The sheer range of companies and states that are involved in trade with Canada made it difficult for the administration to exclude Canada from the deal.
Awaiting congressional approval
The U.S. Congress has to ratify the trade deal. The timing is tricky because of the possibility that the Republicans will lose their majority in the House after the mid-term elections in November. In the past, there was a clear majority in Congress in favor of trade deals, with enough Democrats prepared to join Republicans to overcome opposition from the nationalist and protectionist wings of both parties. While we expect this to continue, there is the risk this coalition will be harder to form given the country’s political climate.
The USMCA is not going to have a major impact on the North American economy.
The USMCA is not going to have a major impact on the North American economy. An agreement does remove the downside risk of the United States withdrawing from NAFTA. But the changes that will be introduced when the USMCA takes effect are simply not large enough to change the trajectory of the North American economy in any meaningful way.