The victory proclaimed by the Trump Administration for its renegotiation of a “modernized” North American Free Trade Agreement (NAFTA) is a hollow one. Despite many months of wrangling with our closest neighbors to the North and South of us—our second and third largest trading partners—in fact, few substantive changes have been introduced to the 1994 pact. But that hasn’t stopped the White House from touting the deal. Why? Because Mr. Trump and his trade team see NAFTA 2.0 as the model to tame nations outside our hemisphere—especially the use of it as the vehicle to proliferate a poison pill lying at the heart of the agreement the U.S. wants to be deployed to corner China and clip its wings from engaging in pernicious trade practices.
But there are two fundamental barriers to this scenario playing out. First, Washington will find it tough going to sell this framework to countries with whom there isn’t a pre-existing agreement similar to NAFTA to be amended. Second, as a practical matter, the U.S.-inserted Chinese poison pill will turn out to be of little therapeutic value, not only for changing Beijing’s conduct but also for inducing other countries to actually exercise this provision.
Following the announcement on September 30, 2018 concluding the negotiation of the new “United States Mexico Canada Agreement” (USMCA), initially the press focused on the most apparent accomplishment to come out from tension-filled trade talks: the seemingly innocuous re-branding of the original NAFTA (whose name I will admit to having fondness for, in part since I was a member of the early 1990s NAFTA negotiation team).
Perhaps it’s a bit unfair to blame the press for its undue attention to the change in name, which quickly proved to be an awkward choice. After all, even the President’s top economic advisor, Larry Kudlow, had trouble pronouncing the new moniker the day of the announcement.
But what didn’t fully sink into the press was the substantive import of the dropping of the words “Free Trade” from the new deal. The change is no accident. It accurately reflects the ardent mercantilist perspectives of President Trump and his U.S. Trade Representative, Robert Lighthizer.
Usually the objective of renegotiating free trade agreements is for all sides to further reduce tariff and non-tariff barriers so as to enlarge the flows of trade and investment across the signatories’ borders. Where behind-the-border (that is, in-country) dislocations are engendered, perhaps even worsened, by increased flows—which almost always occur in varying magnitudes across sectors and locales—those are to be addressed by national governments, for example, public provision of worker retraining; of re-location allowances; and of employment in high priority areas serving national investment needs, such as infrastructure systems. The USMCA would provide for very little of either result.
Instead, apart from several specialized chapters focused on updating “newer” areas of trade policy, such as facilitating cross-border digital transactions, enhancing cyber security, strengthening labor and environmental protections, and bolstering enforcement of intellectual property rights, the USMCA would largely amount to a new regime of “managed trade”. It would usher in a regime of provisions —mostly those to be imposed on Mexico and Canada at the insistence of the U.S.—to direct compositional changes of trade and investment among the three countries. Any objective to increase the flow of cross-border trade and investment among the countries is decidedly secondary.
There are three prominent examples of such measures in the USMCA.
The most important concerns the automobile sector. The rules of origin to qualify for tariff-free treatment of autos would become more stringent in 2020 in order to raise North American local content of vehicle production. Specifically, a car or truck must have 75% (as opposed to the current 62.5%) of its components manufactured in Canada, Mexico or the United States. Furthermore, there are stipulations mandating that qualifying facilities must employ auto workers receiving certain minimum wages: as of 2020, cars and trucks must have at least 30% of the work on a vehicle performed by employees earning $16 an hour, and that share would increase to 40% by 2023. Both of these provisions are mostly aimed at cutting down Chinese auto components imported into Mexico and at transferring the production and assembly of autos from Mexico to the U.S.
The second is pharmaceuticals. The agreement provides for U.S. drug companies to sell their products in Canada for additional 2 years (from 8 years to 10 years) before they are subject to competition from generics.
And, the third is the dairy industry. Under the USMCA, Ottawa’s system of price supports for Canadian milk and dairy producers would be opened up to allow for specific milk and dairy imports shipped from the U.S.
But the jewel of the crown for the White House of the USMCA is a provision it tucked away in the second-to-last part of the 32nd Chapter of the Agreement: Article 32.10. The U.S. text, unmistakably referencing China, states that “Entry by any Party into a free trade agreement with a non-market country, shall allow the other Parties to terminate this Agreement on six-month notice.”
You don’t need to be a veteran trade negotiator (I plead guilty to this charge) to understand what is intended here: it is a clear threat by the U.S. toward both Mexico and Canada to not even think about establishing a free trade agreement with China, lest the U.S. back out of the USMCA. More broadly, this is this poison pill provision the White House hopes to use in new trade agreements modelled on the USMCA with major U.S. trading partners outside North America to coerce them into shunning expanded trade deals with China.
Frankly, the irony of the U.S. putting forth this mechanism—in particular its focus on “free trade”—stretches credulity. Whereas the USMCA itself is largely a step backwards from a free trade agreement, now, in the context of a non-market economy aka China, of all places, the U.S. is keen to focus on the dangers of a free trade agreement! Is this contradiction in terms not apparent to the White House? One might find solace if the USMCA contained a definition of “free trade agreement”. Alas, nothing along these lines can be found.
If White House officials really believe other economies are eager to open themselves up further to the WTO-inconsistent trade practices of China from which, like the U.S., their already suffering, they have another thing coming. If this assessment is correct, countries will have little problem signing on to the sham U.S. poison pill clause knowing full well they’ll never be affected by it.
By the same token, the Chinese have little to fear from such a provision. Its teeth will fail to take a bite out of the fundamental sources of Beijing’s distortive trade practices: they emanate well behind the border within the Party’s control of the country’s state-owned enterprises and state-owned banks.
What does worry China, however, is if a coordinated coalition of the world’s most powerful trading partners collectively prevail upon China and present it with an ultimatum: either renegotiate the terms of its 2001 WTO accession or exit the organization lock stock and barrel. Fortunately for Beijing, the prospects for organizing such a coalition have never been dimmer. And the notion that the USMCA could provide a framework to build such a movement is dimmer still.
