NAFTA: The Latest Battleground Over Free Trade
BY IRENE EZRAN
A glimmer of hope emerged at a recent gathering in Montreal at which leaders and trade experts from the United States, Canada, and Mexico re-negotiated the North American Free Trade Agreement (NAFTA), an agreement signed in 1994 to reduce trade barriers between these three nations. The progress made in the sixth and penultimate round of negotiations was seen as a relief after months of complex disputes and threats by the United States to unilaterally withdraw from the deal. Over the past years, free trade has become an increasingly politicized issue, with several major American presidential candidates, including Donald Trump, Bernie Sanders, and Hillary Clinton, severely criticizing NAFTA, claiming that it has hurt American workers and has led to trade deficits. Widespread criticism of free trade, and particularly of NAFTA, now begs the question: has NAFTA helped North America, and should the deal be renegotiated?
NAFTA is the world's largest free trade area, linking around 450 million people and $17 trillion in goods and services. Although President Clinton is often credited with the passage of NAFTA, the push to extend trade in North America began on Ronald Reagan's campaign trail in 1979, so this agreement has received bipartisan support. In 1987, Canada and the United States signed the Canada-U.S. Free Trade Agreement (CUSFTA), a bilateral free trade agreement that sought to eliminate barriers to trade and facilitate investment between the two countries. After the Latin American debt crisis of the 1980s, Mexico pushed for an agreement with the United States, similar to the one the United States had with Canada. Following long, drawn-out negotiations, NAFTA was signed by all three nations in 1992 and Congress ratified it in 1994.
In August of 2017, President Trump called NAFTA "one of the worst deals anybody in history has ever entered into" and said that he would "probably end up terminating NAFTA at some point." Trump is not alone in criticizing the agreement; Bernie Sanders was particularly vocal on the campaign trail about his negative views of free trade, and Hillary Clinton has changed her views on the issue as well. Despite widespread criticism of NAFTA, citizens of all three countries have maintained a moderately positive view of the agreement. According to a Pew Research Poll in May of last year, 74 percent of Canadians, 60 percent of Mexicans, and 51 percent of Americans believe that NAFTA has had a positive effect in their country. However, support often differs among political parties within each country, with the Conservative Party in Canada, the National Action Party (PAN) in Mexico, and the Democratic Party in the United States expressing the strongest support for the agreement. Thus, although the popularity of free trade dwindles during election years, there continues to be public support for NAFTA.
Because free trade is such a complex, politicized issue, it is crucial for voters to understand the economics behind how NAFTA has affected each country's industries and workers in order to assess if the agreement should be renegotiated. Like many other free trade agreements, NAFTA has had diffused benefits and concentrated costs.
NAFTA has brought two major benefits to consumers across all three countries: an increased variety of goods and lower prices. Because NAFTA has eliminated tariffs, goods can flow more easily across borders, thus consumers have access to a wider range of products. For example, avocados from Mexico were banned in the United States for about eighty years until NAFTA was put in place. After the agreement, Mexico experienced a huge increase in avocado sales. In addition, due to the increase in demand that arises from trade, firms are able to increase their productivity and lower their prices. Moreover, the sheer fact that tariffs are not collected at borders makes goods cheaper for consumers. Thus, the gains from trade are widespread and often difficult to pinpoint, since most consumers are unaware of the goods that they would be unable to purchase had NAFTA not been enacted. This leads many politicians and voters to overlook the benefits of NAFTA altogether when assessing the effects of free trade.
While consumers across all three nations have benefited from NAFTA, the agreement has had distinct effects on industries across North America. The Canadian economy has seen modest gains. Since 1993, U.S. and Mexican investment into Canada has tripled, accounting for over half of Canada’s foreign direct investment. Specifically, there has been a significant increase in the flow of agricultural products between the United States and Canada. However, not all of this growth can be attributed to NAFTA, as there had already been an increase in trade between the two nations under CUSFTA, Canada’s previous free trade agreement with the United States.
Most economic studies have found that NAFTA has had a positive impact on the Mexican economy, with an increase in farm exports to the United States and hundreds of thousands of manufacturing jobs created in the country. However, Mexico’s per capita income has risen just 1.2 percent annually since 1993, which is much lower than the rest of Latin America. There has also been a sharp decrease in real wages in Mexico, but it is difficult to definitively attribute this to NAFTA because the Mexican Peso Crisis - a period in which Mexico’s peso suddenly devalued and the Mexican economy faced hyperinflation - occurred the same year that NAFTA was signed.
Similarly, the effect of NAFTA on the United States has been hard to determine because Mexico and Canada only account for 34.2 percent of the United States’ exports. According to the U.S. Trade Adjustment Assistance (TAA) program, which compensates workers for jobs lost to import competition, around 58,000 jobs were lost every year from 1994 to 2002 in the United States due to NAFTA. However, this only accounts for roughly 13 percent of the 444,000 workers displaced annually in manufacturing for a variety of reasons, two-thirds of which are reemployed within three years. Nonetheless, many argue that the U.S. government could have done more to help workers hurt by trade, such as reform the TAA program, provide wage insurance, or provide training assistance.
In July of 2017, under the new Trump administration, the Office of the United States Trade Representative released its trade policy objectives for the seven rounds of NAFTA talks. Among its top priorities are tightening the rules of origin, eliminating the dispute settlement mechanism, and establishing a sunset clause.
The rules of origin dictate the proportion of a product that must be made in a certain country in order to qualify for zero tariffs, which prevents countries outside the agreement from taking advantage. This section of NAFTA is particularly controversial for the car manufacturing industry. Under the current agreement, 62.5 percent of cars must be made in North America to be tariff-free. Trump, fearing an influx in Chinese auto parts, wants to increase the rules of origin to 85 percent made in North America, with 50 percent specifically made in the United States. However, many economists fear that this may increase automakers' production costs by more than 2.5 percent, which is the standard tariff for car imports into the United States from countries outside NAFTA. Thus, manufacturers may decide to produce the entire car overseas and simply pay the 2.5 percent tariff, which will have adverse effects on the 800,000 Americans employed by the auto industry in the United States.
Another contentious part of NAFTA that the United States wishes to renegotiate is Chapter 11, which is the Investor-State Dispute Mechanism (ISDM). Under Chapter 11, corporations or individuals can sue the United States, Canada, or Mexico for compensation when actions taken by these governments violate international law. Critics of this law argue that it prohibits countries from enacting stricter health and environmental regulations, as they can be litigated for unfair trade practices. In addition, Canada has faced the majority of claims under the ISDM and it has paid $215 million in compensation. Therefore, during the NAFTA renegotiations, the Canadian Minister of Foreign Affairs Chrystia Freeland stated that she wants NAFTA parties to be less susceptible to lawsuits under Chapter 11. While the United States has not lost a single case under the ISDM, President Trump wishes to rid NAFTA of Chapter 11 entirely, as he distrusts international tribunals and wants to bring dispute settlement back into the hands of the United States.
A third important point of renegotiation for the U.S. government is the sunset clause, which would require all three countries to renew the agreement every five years or else face a termination of the agreement. President Trump’s Secretary of Commerce, Wilbur Ross, proposed the sunset clause in the fourth round of NAFTA renegotiations in October of last year. The Trump administration claims that this ensures that the agreement stays updated, but Mexico and Canada, as well as various economists, argue that a sunset clause would defeat the purpose of NAFTA as it would stunt investment due to the high degree of uncertainty. Others suggest that a sunset clause should exist, but that the agreement should only be renewed every 20 to 25 years in order to stimulate investment while obligating governments to periodically assess the costs of NAFTA and compensate those who have lost from trade.
After 23 years of NAFTA, free trade is entrenched in the North American economy. Its complexities make it easy for politicians to overlook the widespread gains from trade for consumers and solely focus on the negative repercussions, often associated with a loss in manufacturing jobs in the United States. The United States’ proposed renegotiation points, or threats to pull out of the deal altogether, will likely have significant adverse effects on the North American economy. Instead of dedicating vast resources to renegotiating this agreement, the United States would benefit from assessing which workers are the most hurt by NAFTA and compensating them by providing job training programs to help them find work in a different sector of the economy. Despite progress made in these past negotiations in Montreal, much work lies ahead before the countries can come to an agreement during the final round of NAFTA talks, scheduled for March of this year.