Free trade agreements
A quick take on the "New NAFTA"
Published 03 October 2018 | 2 minute read
The new NAFTA agreement (now called the US-Mexico-Canada Agreement) is a combination of what could be characterized as common sense updates and modernizations (for instance, there’s now a chapter on digital economy – something which wasn’t included in the original agreement), plus a number of substantive changes to pre-existing provisions.
Given the fact that it appeared possible – if not probable – at various points during the negotiations that the entire deal would collapse, it can probably be viewed as a positive development that a trilateral North American agreement was maintained – and the massive disruptions that would have accompanied a termination were avoided.
The updates and modernizations to the 24-year-old NAFTA (some of which are quite similar to provisions in the CPTPP) were overdue and for the most part make sense. A bit of time will be needed to see how the modifications to existing provisions play out.
One of the most important of these changes is the far more restrictive auto rule of origin, which increases the local content requirement from 62.5 percent to 75 percent, and folds in an additional requirement that 40-45 percent of that content has to be produced by labor earning $16 an hour. This tougher rule of origin is unlikely however to result in a significant shift of auto production to the US. It does mean that fewer Asian auto parts are likely to be included in North American production.
Other noteworthy provisions include a 16-year sunset clause, with a review every six years at which time all parties can agree to a 16-year further extension. This is far less draconian than the original US proposal of a straight five-year sunset.
The controversial Investor-State Dispute Settlement clause, which allows companies to challenge government policies that they believe unfairly restrict market access will be phased out for Canada. In the case of Mexico, it will be restricted to a handful of industries with high fixed costs and a high degree of vulnerability to changes in government policy or regulation, such as mining and telecoms.
The US achieved an objective which took on high political significance – greater access to Canada’s dairy market – but which has little economic relevance (dairy is about 0.06 percent of trade). Canada’s dairy supply management system limits production, sets prices, and imposes high tariffs. Under the new agreement, US industry will have access to roughly 3.5 percent of the market. This is a similar level of access Canada granted under the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) and the Canada-EU Comprehensive Economic and Trade Agreement (CETA). From Canada’s perspective, one of its biggest victories was maintaining bi-national panel review of US trade remedy laws, something which the US pushed hard to eliminate.
Patent protection for biologics was also increased by two years (up to 10 years), and the digital economy chapter will, among other things, prohibit data localization and raise the duty-free threshold for online purchases. Labor and environmental provisions were also strengthened (similar to CPTPP), but critics question the extent to which they’ll be enforceable.
One of the more significant features of the agreement isn’t technically part of the agreement. A side letter will provide both Canada and Mexico with some degree of protection from possible US tariffs on autos if they are implemented at some point in the future under the currently ongoing Section 232 investigation. Both countries will be given a quota about 40 percent above current export levels which they can ship without being subject to the auto tariffs, should the US ultimately implement such tariffs.
One lingering issue which was not addressed in the revised agreement was the steel and aluminum tariffs being applied by the US, also under Section 232. The working assumption was that if Canada and Mexico were able to successfully renegotiate NAFTA, then an exemption to the steel and aluminum tariffs would be forthcoming. That has not yet happened, but it is the subject of ongoing discussions.
There has been widespread speculation that with the NAFTA revamp complete, the way is now clear for the US to turn up the heat on China. It’s not clear however that the NAFTA negotiations had been inordinately distracting attention from China. But perhaps more importantly, the work on NAFTA is far from complete. It still faces a complex and challenging ratification process in the US Congress, especially if the Democrats take control of the House in the upcoming midterm elections. Even with the existing Republican controlled Congress, prospects for passage are unclear. Should the composition of the next Congress significantly shift, all bets are off. So although the hard slog of negotiations is over (at least for now), NAFTA could still be prominent on the trade agenda well into 2019.