Donald Trump has been clear from the start of his presidency: the North American Free Trade Agreement (NAFTA) is a terrible deal (the “worst trade deal”) for the United States. If it can’t be fixed, he will terminate it. The effort to respond to his concerns while preserving Canada’s and Mexico’s most important free trade agreement is at a pivotal moment. The Americans apparently hope that the leaders of Canada, Mexico and the United States will be able to make an announcement when they are together for the Summit of the Americas in Peru on April 13-14. Their trade ministers are meeting in Washington today (April 6) to see whether enough progress has been made for an “agreement in principle.” If the talks over the next few days go badly, will the negotiations collapse or will the President accept a long delay?
It is widely agreed that an agreement negotiated in the early 1990s is not good enough for today’s trade. A modernized NAFTA based on new thinking about 21st-century trade issues would be a model for enhanced North American integration. But the US has also said that the objective of renegotiation is to “improve the US trade balance and reduce the trade deficit with NAFTA countries.” Renegotiation could lead to North American economic disintegration if it harms the supply chains that criss-cross the borders, thereby increasing business uncertainty and decreasing the firms’ ability to invest in one place and still serve the whole continent.
After seven rounds of formal negotiations since summer 2017, some technical issues are closed (completed) and some modernization issues will be easy to close. (These are often the issues on which the negotiators can draw their shared experience in the original Trans-Pacific Partnership, or TPP.) I have no reason to think that compromise is impossible on the issues that are part of Canada’s “progressive trade agenda.” Other issues, like supply management, are difficult, which is normal in trade negotiations. There is not much time left to close those issues, though it may be feasible. But wide gaps remain on the core elements of the US renegotiation agenda.
I foresee at least five possible scenarios. The first, apparently the one desired by the Americans, is that the parties reach an “agreement in principle” in April, leading to a text by the end of May. One reason for haste lies in the nature of the American political system. Responsibility for trade under the US Constitution is with Congress, but complex negotiations have to be carried out by the president. Nobody would negotiate with the Americans if the results could be picked apart in Congress, so periodically they give the president trade promotion authority, which under the current law runs out July 1. Donald Trump has requested renewal, in part to conclude NAFTA. The law provides for an up-or-down vote on a whole package, if certain procedural steps are followed before and during negotiations and after the president provides 90 calendar days’ notice to Congress prior to signing an agreement (180 days for changes to dispute settlement).
That means that a NAFTA agreement, if Congress is notified by the end of May, might get a vote in Congress during the post-election lame duck session at the end of the year. The administration may be able to assemble enough votes from pro-trade Republicans and Democrats to get a new deal approved, although the fact it could not get a vote on the TPP, a deal that was very favourable for the US, suggests that such approval may be out of reach. If the Democrats do well in the November mid-terms, it could be more difficult to get 218 votes for NAFTA in the House and 60 in the Senate next year, hence the desire to get the deal done quickly. American concerns about the possibility of an opposition victory in the Mexican elections are also motivating haste.
Robert Lighthizer, the US trade representative, said at the end of the last round in early March that, “from our point of view…changing the agreement so that it no longer encourages outsourcing, developing rules of origin that will fairly treat our manufacturing sector and workers, and reshaping the rules of government procurement are very important.” Those three ambitions — which reflect Lighthizer’s bêtes noires: investor-state dispute settlement, autos, and the Buy America rules — are all capable of blowing up the negotiations. A quick conclusion seems improbable given the wide gaps on those contentious issues, recent signs of optimism notwithstanding. But a quick agreement in principle may be possible if the US has moderated some of its early extreme “rebalancing” proposals, and if all three parties are willing to compromise, perhaps by agreeing on a smaller, less ambitious package. (A comprehensive deal would still be months away.)
The other four possibilities, if the negotiations break down, are presented here in descending order of probability. The first is that Trump in frustration announces withdrawal from NAFTA, either because that’s what he’s always wanted to do or as a negotiating tactic as part of a take it or leave it offer. He might then also end Canada’s exemption from the recently imposed steel and aluminum tariffs. The likelihood that Congress would react negatively might constrain the President, but if he does withdraw from NAFTA, Mexico would walk out of the negotiations and it would be hard for Canada to stay.
The second is, if the US does not withdraw after April, the parties could decide to park the negotiations until after the Mexican elections on July 1. A negotiated conclusion in mid-2018 is unlikely because an agreement would be tied up in the American mid-term election cycle without enough sitting days available for a vote — the worst possible situation for Trump. As well, a new Mexican government might insist on a say, and a package could not be put before the current Mexican Senate this year.
The third is that the parties could agree to continue technical discussions while waiting for the elections to be over, resuming formal negotiations in 2019. Trump may not want to own a complicated result in the mid-term campaign, or to offend the farm states, but he could claim to be actively searching for a solution. And in the meantime, he could take the heat off NAFTA in order to focus on the conflict with China. This might be his preferred outcome. But if negotiations resumed in early 2019, they would have to conclude expeditiously to avoid being caught up in the Canadian federal election in October, and Canadians will worry about continued uncertainty if it undermines business confidence and leads to investment plans being postponed or even abandoned.
The final possibility, if there is a trilateral breakdown in April, is a US demand for bilateral negotiations with Canada and Mexico, on the assumption that the US would have greater leverage over each one separately. I see no reason to think such negotiations would be any easier to conclude, but in any event both Canada and Mexico have said they will not engage separately.
Should Canada be a willow or a rock in the face of US demands? The willow bends, accommodates; the rock stands firm. Canada should be both, seeking an outcome that benefits all three parties rather just one, while being clear that we will not be pushed around. For example, we should mount a robust response should the tariff exemption on steel and aluminum be removed. Being a rock also means being willing to let NAFTA die, rather than accepting a bad deal that we would have to live with for a long time. Many unacceptable US proposals are still on the table, though they may be moderated in the coming days.
Dealing with the Americans may be an existential crisis, but we can’t forget Canada’s overarching goals. Last year IRPP published a major study on Canadian trade policy of which I was a co-editor. We argued that trade policy works in support of the government’s broader objective of inclusive growth. Trade policy on its own can’t address all of the many economic problems Canadians face. Traditional trade policy has to work in support of complementary tools that deal with labour market outcomes, education, innovation, competition, tax, and other policies that facilitate resource reallocation and promote international connectivity. Trade agreements are the last piece of the puzzle, and losing any one bilateral agreement isn’t a disaster if the other pieces are in place. In the case of autos, our domestic policies and the need for improved infrastructure, like a new Windsor-Detroit bridge, may matter more than NAFTA.
If Canada is left without NAFTA, what then? Stephen Poloz, governor of the Bank of Canada, said after a speech at Queen’s University in March that since the empirical work on the effect of the original NAFTA is not clear, the potential effect of losing it is also not clear. I am assuming that Canada could still rely on the WTO, which is a more modern agreement than NAFTA on many issues. Much of Canada–US trade would continue to enter the American market duty free. The effects of US’s WTO tariffs of 2.5 percent on autos, and up to 3.5 percent on some goods, might be mitigated by exchange-rate adjustments. But if the US starts flouting WTO rules, as seems possible, then it invites retaliation from other countries — all of which could undermine the international trading system. That would be an unprecedented situation for all of America’s trading partners, with unpredictable consequences for Canada.
Renegotiation of NAFTA can’t satisfy the apparent motivations of its instigator. Trade agreements set the rules, but cannot determine trade flows. If Trump holds to his objective to reduce the trade deficit, and to bring jobs home at the expense of Canada and Mexico, the NAFTA renegotiation will fail. The modernization issues are mostly going well, so enhanced North American integration remains possible, but disintegration is a real risk.
We have faced tough times in our trade relations with the US again and again since the end of the Reciprocity Treaty in 1866. Canadians should recall Alan Gotlieb’s two rules about Washington politics that he learned as Canada’s ambassador to the US during the 1980s: (1) It’s not over until it’s over, and (2) It’s never over.
This article is an edited version of the 2018 J. Douglas Gibson Lecture delivered by Robert Wolfe on March 15.
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