NAFTA 2.0 – Still Hoping for the Best – Preparing for the Worst

  • National Newswatch

These are my notes for a November 19 Panel at the University of Ottawa on the North American Free Trade Agreement, hosted by the International, Political and Policy Studies Student Association.The Trump Administration has pushed Canada and Mexico too hard and too far in the NAFTA 2.0 rebalancing negotiations. The negotiations are still more or less polite. But they are definitely frosty.The negotiations are not dead, but they are on life support.The negotiating schedule has been slowed down in order to give the negotiators time to address serious conceptual differences. The main difficulty is the winner take all – take, take, take, approach of the Trump Administration. Canada and Mexico prefer the normal give and take process – which hopefully would lead to a balanced, mutually unsatisfactory result.Canada and Mexico wanted to modernize and improve NAFTA. The Trump Administration wanted to rebalance the terms to help reverse its trade deficit. Washington never intended the changes would benefit Canada or Mexico.Rescuing the negotiations will be difficult unless there is a major change in U.S. attitudes and objectives. Congress may yet frustrate the Trumpian determination to kill NAFTA. But it would be prudent to continue to hope for the best and prepare for the worst – a world without NAFTA.I was asked to be prepared to answer a number of questions, I have done so below. You can find a more detailed analysis of the issues here.#1 - Do you think the deal will fall apart, and if so why?The negotiations, in fact, have not come together. The issue is whether they can reach a reasonable conclusion. The prospects look rather gloomy and success, however it may be defined, is far from assured.The U.S. is the demandeur. Trump wanted to “rebalance” NAFTA to keep his campaign promises. Without President Trump in the White House, NAFTA would probably have been replaced by a successful Trans-Pacific Partnership (TPP). President Trump trashed the TPP and has a difficult time deciding whether to re-open NAFTA to rebalance it in favour of the U.S., or to tear it up.For the first three rounds, it was up to United States Trade Representative Ambassador Robert Lighthizer to make the U.S demands clear. He did in Round Four. The clarity of the demands brought negotiations to a grinding halt. Washington has yet to indicate what Canada and Mexico would get in return for turning their economies upside down and inside out.There has been little or no U.S. willingness to engage on issues important to Canada, such as mobility of business persons, government procurement, chapters on trade and indigenous peoples, trade and gender, and a meaningful chapter on the Environment.The major U.S. demands on Canada and Mexico are non-starters – they would not only infringe on our sovereignty, our national sense of worth would be bludgeoned into submission – and create a terrible precedent. Canadian policies would be reviewed and modified in Washington.This may seem to be a bit extreme – perhaps because until these negotiations, I have scoffed at concerns about trade agreements undermining our sovereignty.The negotiations are not based on reason or rationality. It is impossible to predict when President Trump will notify his intention to terminate NAFTA. But it seems to be a virtual certainty that he will.Without the drama and disruption of terminating NAFTA, Trump will not be satisfied that he has maximized his leverage.Ambassador Lighthizer admits the U.S. has not done any analysis of life without NAFTA. To pursue such a broadly based negotiation without any understanding of potential benefits and damage, such a blind faith approach is irresponsible and it doomed the negotiations from the start.Commerce Secretary Wilbur Ross claims U.S. industries will adjust and adapt to life without NAFTA. Perhaps, but you need to remember that Secretary Ross made his fortune by buying textile and steel companies out of bankruptcy. Without debt and pension liabilities, the distressed assets he bought for a song survived.There is no thought or concern about implications for Canada. Restructuring entire economies on this basis is unthinkable – it is sociopathic diplomacy.Those who are driving the bus on trade in Trump's White House care more about election slogans and promises than the very real and dangerous impacts of their misguided policies.The prospects of failure – or having to buy into a very bad deal to minimize our losses – are high. Much must be done to preserve NAFTA. Congressional resistance to undoing NAFTA may be our best hope. But don't expect a free ride. Important elected officials in Congress share some of POTUS's objectives.There are important agricultural and business interests in the U.S. supporting a common sense approach. They have become more public and vocal in their opposition.Inside U.S. Trade reports that Rufus Yerxa, President of the National Foreign Trade Council, argues that Trump's poison pills will benefit China.He said:“they must be pinching themselves in Beijing because this is a huge gift to our competitors if we move in this direction of making the U.S. and the North American economy less competitive just at a time when everybody else is moving forward on trade.”Trump's critics are brave because the President does not hesitate to denounce and demonize his opponents. The White House considers it can ignore these entrenched lobbyists and trade associations as part of its “drain the a swamp” initiative. It is extremely bizarre for the Chamber of Commerce and the American Farm Bureau Federation and other national associations to be duelling in the press with the White House over trade.For those who are counting on a snap back of the suspended Canada-United States Free Trade Agreement, please read Alex Panetta's report on the mechanics of the U.S. Legislative process here.#2 - What do the renegotiations mean for Canada?There is hardly a sector of the Canadian economy which has not been affected by CUSTA and NAFTA.Failure to preserve NAFTA could result in unemployment, plant closures and disinvestment.There are mitigating facts in the details and trade agreements are all about details. Imports of many products are duty free under the WTO. Generally raw materials for further processing in the U.S. are not subject to import duties or the duties are very low. When the dust clears, these nuisance duties may not impact trade and production. In the automotive chapters, paying the duties and avoiding the rules of origin may be the best option.There are no duties in a number of chapters in the U.S. Customs Tariff – including Fertilizers, Pharmaceuticals wood pulp, paper and paperwood, books, newspapers and iron and steel products. NAFTA rates are not relevant to Canadian exporters in these sectors.Here are a few examples of U.S. tariffs under the WTO which would apply to Canadian exports – should NAFTA preferences be eliminated.Selected U.S. MFN (WTO) TariffsCertain Bovine Cuts 26.4%Brussels Sprouts 12.5%Celery 14.9%Clam Juice 8.5%Maple Syrup 6.0%Tinned Tomatoes 12.5%Frozen French Fries 8.0%Tomato Ketchup 6.0%Chocolate Milk Drink 17.0%Various Copolymers 6.5%Motor Vehicle Tires 4.0%Certain Trunks and Suitcases 20.0%French Doors 4.8%Wood Blinds 10.7%Wool Woven Fabric 25.0%Cotton Windbreaker 15.9%Knitted Track Suits 25.9%Men's Cotton Shirts 19.0%Aluminum Foil 5.8%Manual Wrenches 9.0%Railcars 14.0%Light Trucks 25.0%Bicycles 11.0%Optical Fibres 6.7%Certain Guitars 8.7%All are above the 3.2% average U.S. tariff.Canada hoped for NAFTA “modernization” benefits such as:Updating the list of business professionals entitled to visa free border crossing. Improved access to U.S. government procurement and access to Buy American projects. Improvements in the Chapter 11 investor state dispute settlement procedures. Improved wages and labour conditions in Mexico. A Trade and Environment chapter which addresses climate change and requires adherence to the Paris Accord. Chapters on Trade and Gender and Trade and Indigenous peoplesAmbassador Lighthizer has shown little inclination to obtain mandates from Congress to discuss Canadian priorities.Even with NAFTA, Canada has lost protection and jobs. The North-South flow of farm and of food products is impressive. There has been extensive rationalization as food production which moved south of the border when tariffs were removed.Heinz decision to move ketchup production to the U.S. resulted in the entry of a new Canadian producer. There have been other southward moves, for example, for production of baby food and products like gypsum board. Caterpillar and Electrolux plants have been lured from Canada across the border with locational incentives from U.S. states.These subsidies, pervasive in the U.S., will not be eliminated or disciplined under NAFTA 2.0.Airbus, Bombardier's white knight, received US$160 Million to locate in Mobile, Alabama – peanuts when it comes to the aircraft industry – but enough to influence location.#3 - How could this affect foreign relations with Mexico and the US?Termination of NAFTA and the Canada-U.S. Free Trade Agreement would certainly cause friction in the Canada-U.S. relationship and result in less co-operation in a number of areas.Mexico co-operates with the U.S. on money laundering, controlling immigration from Central America, drug control (DEA) and border security measures.The Canada - U.S. relationship would become chilly – across many co-ordination and co-operation initiatives.Canada and Mexico should work together as much as possible. Mexico must not be “thrown under the bus”. Neither Canada nor Mexico needs to fight the NAFTA renegotiation on two fronts.Canada and Mexico cannot allow frontal attacks on their sovereignty from Washington to be accepted without protest and to be treated as if this is business as usual.The Canada - U.S. bilateral relationships at times become strained – and problems are not unknown. In normal times, with good faith, these can be resolved amicably. The two economies are deeply integrated. There are mutual initiatives and shared activities which require an ongoing good working relationship.The U.S. “poison pill” proposals could result in the implosion of NAFTA. Termination of the agreement could lead to dangerous uncertainty and damage which will be difficult to repair. Such serious dislocation of the Canadian and Mexican economies is not the type of wilful damage which can easily be forgiven and forgotten.#4 - What are some key factors Canada should be focusing on in the renegotiations?Canada should be trying to identify real issues where updating and modernization can be beneficial to Canada and the United States. There are some of these like visas for business people where the U.S. has rejected Canadian demands or refused to seek a negotiating mandate from Congress.Our basic concern is how we get paid for what we give. Our theme must be “Show me the money.”There does not appear to be much benefit in the renegotiations for Canada. The U.S. proposals demand:unwarranted access to Canada's dairy market; a major reduction in Canada and Mexico's access to U.S. procurement markets; destruction of our auto assembly and auto parts industries and erosion of Canada's principal export market for steel; removal of the protections of dispute settlement; shifting judicial review of anti- dumping and countervailing disputes to the elected judges of U.S. courts; a five year sunset on NAFTA, making investment too risky and unattractive.As gloomy as the current outlook may be, there is considerable scope for further requests in the changeable mind of the President. Why are we at the table? Purely for defensive reasons – to minimize damage.#5 - Do you think the intellectual property section could become a barrier to the renegotiations?There are fairly broad differences in approach on Intellectual Property.The trade related aspects Intellectual Property rights are addressed in NAFTA Chapter Seventeen. The NAFTA text was to be updated by Chapter 18 of the TPP final text. TPP Chapter 18 is a “monster” chapter comprised of 83 articles. The U.S. NAFTA 2.0 requests go beyond what was agreed in the TPP.Notwithstanding the detail, the TPP IP chapter involved many compromises by the U.S. from its original positions.Regulation and enhancements of protection of IP rights were a major U.S. objective in the TPP. The aggressive U.S. initiatives were vigorously resisted by many other participants. U.S. demands on data protection on Biologic pharmaceuticals was one of the last issues settled – by capitulation on the part of the U.S. without Congressional agreement. It was settled at the final session in Atlanta – but the compromise was never embraced by Congress.U.S. negotiators at the final session in Atlanta needed to close the negotiations in order not to lose an opportunity to ratify the TPP on President Obama's watch. As time ran out, other parties, aware of U.S. deadlines, dug in and resisted a deal on U.S. terms. Obama's Legacy won out over Congressional priorities – and Congress was not pleased.Congressional approval of the TPP did not happen in part because Senator Orrin Hatch (R ‑ Utah) did not get what he wanted on protection of data related biologic pharmaceuticals. Given his position as Chair of the Senate Finance Committee, Senator Hatch's demands will be revived and prioritized. Canada was not a problem at Atlanta based on the emerging consensus on eight years protection. But we fall short of the 12 years sought by Senator Hatch.Canada rejected 12 years during the TPP negotiations. How can Canada accept the Hatch position now? There are clear and burdensome implications for health care and pharmacare. Why should Senator Hatch clear the track for a deal which ignores what he wants?The U.S. also wants to eliminate data protection laws which require that records be stored locally. Canada has several provinces with such legislation and no inclination to repeal it.Canada too has a constitution and the Government of Canada cannot ignore this when addressing U.S. demands for totally open cross border data flows.There should be scope to reach an accommodation on IP issues but the U.S. side needs to listen better and to try to understand our political and constitutional realities.#6 - How will the labour agreement (NAALC) be expanded to included gender diversity?The Canadian proposals gender and trade have been well received and embraced by Mexico. The gender chapter in the Canada – Chile Free Trade Agreement is hortatory.The U.S. appears to treat Canada's proposal as a diversionary tactic.The U.S. has procurement set asides for women-owned businesses. These could be enhanced.Equal opportunity could be enshrined in the agreement.Mexico will not resist change in labour rights but it will resist specific conditions being imposed on it.Ambassador Lighthizer has made it clear that the U.S. does not intend to accept any binding commitments in this chapter. Any concessions on Gender issues from Washington will be motherhood and apple pie and will not be subject to dispute settlement. Thus, the Chapter would be essentially meaningless.#7 - How will the United States' apprehension toward environmental policies affect NAFTA?The NAFTA included a toothless side letter on the Environment. It was an afterthought widely believed to have been aimed at Mexico. Environmental issues are addressed in the 23 articles of Chapter 20 of the TPP final text.Minister Chrystia Freeland considers that there should be an important focus on Environmental issues in NAFTA 2.0. Moving the Environment from a NAFTA side letter to the text of the agreement, as was contemplated in the TPP negotiations, would be a major improvement. But the obligations contemplated by the U.S. are still underwhelming. It is perplexing that neither the TPP Environment Chapter nor the July 17 objectives mention climate change.The real focus of U.S. demand is to ensure that Mexico carries the same environmental regulatory burden as U.S. manufacturers, farmers and ranchers. Accepting the limited U.S. objectives on the Environment will not create difficulties for Canada. However, the absence of disciplines relating to climate change and CO2 emissions controls in the Environment Chapter does pose problems for Canada.The U.S. decision to walk away from the Paris Accord and its failure to tax carbon emissions[1] creates a de facto subsidy which benefits U.S. industry. Why should Canada not seek the right to impose countervailing duties or border taxes to offset arbitrary and discriminatory U.S. advantages? The U.S. Administration will expect Canada, and Mexico, to ignore these very real subsidies created by the absence of regulation.The proposed TPP article on MEAs (Article 20.4) does not mention the Paris Climate Change Accord. The discriminatory impact of U.S. refusal to recognize and address this internationally agreed threat to the global environment is ignored. Canada should insist that the Paris Accord be included in the MEA list.#8 - If Trump were to dissolve this trade agreement which groups would be affected the most and how? Are there groups that would significantly benefit from this and how?It is difficult to find groups which would benefit from a crash – as these may have been eliminated as economic actions in the first few years after NAFTA entered into force.For example, some 900,000 Mexican corn growers were displaced by heavily subsidized imports of U.S. corn. Perhaps the farmers can be tempted back to the land – but many of these small scale farmers have moved to manufacturing plants much closer to the U.S. border. If the U.S. insists on changing its anti-dumping laws to discipline Mexican fruit and vegetables, expect U.S. corn imports to be replaced by imports from Brazil and Argentina?Turing the clock back is difficult. Will Heinz begin producing ketchup in Leamington, Ontario again?Assuming that the Trump Administration will not accept the automatic re-instatement of the Canada-U.S. Free Trade Agreement, Canadian duties on California wine will snap back to WTO levels. What is lost by California would likely help E.U. exporters more than it would help Canadian grape growers and vintners.Conventional wisdom suggests the hardest hit Canadians would be auto parts manufacturers and automotive assembly workers. However, the U.S. duties on most automotive vehicles and parts at 2.5% are more of a nuisance than a real barrier. The auto companies may well consider that the bother of complying with more detailed and more burdensome Rules of Origin would make paying the duties, and ignoring NAFTA rules attractive.It is important to understand that even now no more than half of Canadian imports actually use NAFTA rates either because they are MFN duty free or because compliance costs more than paying the duty.Sandy Moroz explains:“Why do rules of origin matter? Using data from the United States International Trade Commission, I calculate that in 2016, half of Canada's commercial exports to the United States entered duty-free by qualifying for NAFTA tariff preferences. Another 38 percent also paid no duties, entering under US MFN duty-free tariff lines. In cases where Canadian exports faced a positive MFN tariff, the use of the NAFTA preferential tariff was close to 80 percent overall — and rates exceeded 90 percent for some of our major goods exports, like autos.”For products which may already be imported duty free into the USA under WTO rules, or dutiable at very low rates, there will be little change.#9 - Even though Canada has given percentages of their dairy market in other trade deals why are they apprehensive to give up a percentage in NAFTA negotiations? Do you think the agriculture market can be used as a negotiating tool?When all the facts are on the table, Canada can advance persuasive counters to the U.S. demands:The U.S. dairy industry, as Minister Freeland has noted, is heavily subsidized. USDA data reveals that over the last 15 years the average farm gate price for milk has not covered its full production costs. U.S. dairy processors receive their milk at less than cost. Since 2006, the U.S. has become a net exporter of milk due to government programs and initiatives. The U.S. exports five times as much dairy products to Canada as Canada does to the U.S.Forty-one countries other than Canada have Tariff Rate Quotas (TRQs) and high tariffs on over quota imports. These TRQs were the cost of bringing agriculture into the WTO system at the end of the Uruguay Round. The rates established for Canada's over quota tariffs were based on the same principles the U.S. and E.U. used. All were examined by the WTO and passed scrutiny.Canada with CETA will import more than 10% of its dairy consumption. The U.S. imports 4% and the E.U. 2%.Canada would like to see better access to the U.S. for sugar-containing products – but this seems to be non-negotiable. The U.S. sugar lobby is too powerful.Sacrificing farm interests to benefit manufacturing industries in the NAFTA 2.0 negotiations would be difficult.When the U.S. was renegotiating its free trade agreement with Korea (KORUS), to improve the terms for automotive products, the U.S. pork industry was asked to reduce its benefits under the original deal – to “take one for the team”. That will not be a popular option for Canadian farmers.#10 - Trump would like Canada to raise the duty threshold on e-commerce purchases from $20 to $800, do you think this is likely and what economic impacts could this change have on Canada?Agreeing that the “de minimis” exemption should be increased from CDN$20 in Canada and US$50 in Mexico to US$800 may be popular with many consumers, but there are other issues at stake – like domestic retail jobs and sales tax revenue.In the TPP, the U.S. started negotiations on this issue with a US$200 target and couldn't sell that number to the other eleven. There is probably a value at which costs to collect the duty is greater than the revenue. For Canada, that number is probably about CDN$200. But, if we're going to see it changed, let's be sure we get full value for the concession.For Canadian retailers, not only those near the border, businesses can be wiped out by e‑commerce. It is not the only reason but it is an important one. Sears is a recent example – and other retailers are reducing their brick and mortar presence.The new retail environment is due to technology – and increased consumer willingness to buy merchandise without touching and feeling it.Do the beneficiaries of the new reality need subsidies? Do Amazon and others really need the incentive of duty and GST/HST free sales? How does one put a price on limiting opportunities for workers entering the job market – or students who use retail jobs to help finance their education?Political reality suggests that most consumers will welcome any reduction in taxes or duties. In addition to the political attractiveness of a tax cut, the concession could be played as a gain for President Trump:The U.S. asked for US$200 in the TPP – and didn't get a firm commitment to any number. In Canada, $200 appears to be the level below which collection costs is equal to or less than the revenue. A ten-fold fold increase in the current $20 level is significant. The government will be looking for things which can be done to satisfy President Trump. Agreeing to US$200 will be much less harmful than the full “ask”.#11 a) - The United States would like to add a provision that would require cars built under NAFTA to be 50% “American made”. What are your thoughts on this provision?The U.S. request is inconsistent with the WTO Agreement on Rules of Origin. It is unprecedented in free trade negotiations. Accepting it would be a very bad precedent.It could force shifts in production facilities at North America's expense to non-NAFTA countries – or be ignored.The American Automotive Policy Council (AAPC) has concluded Trump's poison pills could lead to a $10 billion tax on U.S. manufacturers which would largely benefit China.The AAPC has also prepared a persuasive analysis which Wilbur Ross relied upon for his Alice in Wonderland Rules of Origin proposal.Key findings in the AAPC study include:The OECD data is six years-old and the last year of that data (2011) falls squarely in the middle of the U.S. economy's recovery from the Great Recession, which coincided with a 50% reduction in U.S. auto production. The growth in value of U.S. auto parts exports to Mexico (225%) outpaced the growth in Mexican auto production (186%) from 2000-2016. By nearly all measures, U.S. manufacturing has become more globally competitive since 2000. For example: The U.S. auto industry has grown substantially more than the overall economy since the Great Recession in both economic and job growth (the overall economy has seen 32% growth over 2009 levels, supported by a robust auto industry that has grown 67% over the same time ) Additionally, the auto industry has led the nation in job creation and growth, with the industry growing 48% as compared to the 13% growth in non-farm employment over the same timeAAPC concluded:“… despite the growth from nearly zero 15 years ago, Chinese inputs are still quite low – only 6% in the OECD Analysis (2011) and 5% in the Industry analysis (2016). So, as a percent of production, the role of Chinese auto parts imports in Mexico, like in the U.S., remains quite low.”My take on the statistics relied upon by Secretary Ross is here.#11 b) - What does this mean for Canada, the US, and Mexico?I share the concerns of the AAPC. They are well paced to make this assessment.The change would create uncertainty. If NAFTA origin was not a factor in sourcing decisions, it is likely that imports of finished vehicles from China and Asia would increase with a negative impact on vehicle assembly and parts production in North America.The U.S. tariff on automobiles and auto parts is 2.5%. The Canadian tariff at 6.1% is a greater barrier and not as easy to absorb. But Canadian parts and materials are duty free on a WTO basis. The U.S. duty at 2.5%, which is bound against increase under the WTO rules, is not high enough to attract plants back to the U.S.#11 c) - Do you think this is the reason Canada wants to improve working conditions in Mexican factories?Angella MacEwen is the best person on this panel to discuss the Mexican labour issues with you. But improving wages and working conditions in Mexico is an important Canadian objective.My discussions with Mexican officials suggest they share these objectives in principle. In some cases, proper laws are already in place in Mexico but enforcement is lax or ignored. However, Mexico will neither accept nor tolerate the United States dictating to Mexico what wages should be.Undertakings to introduce demonstrable improvements, and monitoring progress on labour standards would be an important gain and an important building block. Negotiations are negotiations – they are built on give and take and compromise – not on the larger parties dictating behaviour to smaller ones.[1] There are controls in California, Hawaii, Minnesota and Washington. Clark, president of Grey, Clark, Shih and Associates, is one of Canada's leading international trade strategists. His clients in Canada and around the world include governments, corporations and trade associations. He is a frequent media commentator and columnist.  Follow him on Twitter at @jpclark14