I want to address three big points here: 1) the claim that the NAFTA is the "worst trade agreement ever concluded" and that foreigners have been taking advantage of the United States for decades; 2) what are the actual complaints about the NAFTA (no one is ever clear on this); and 3) what does "fixing the NAFTA" actually mean for President Trump?
This blog is full of posts about the difficult politics of trade liberalization and how seductive it is for politicians to single out trade as the source of economic dislocation. It is only the bravest politician that dares stick their neck out in support of trade liberalization. Indeed, most politicians are reluctant converts to the idea, not especially familiar with the 18th Century case (Smith/Ricardo) in support of liberalization, and fold like cheap tents on this issue when things get tough. Trade agreements of all kinds are easy targets for politicians, and the biggest target of them all is the NAFTA.
As a candidate for president in 2008, Senator Obama regularly complained about the NAFTA, only to change his tune about the merits of trade in 2010. Hillary Clinton was a particularly good flip-flopper on trade; against it as a candidate in 2008, supportive of the Trans Pacific Partnership negotiations as Secretary of State, and against it again in the 2016 presidential campaign cycle. Indeed, such flip-flopping on the issue is an important source of public cynicism about the merits of open markets.
The trajectory of global economic relations, now exacerbated by Trump, are cause for a lot of concern. Moreover, I am distressed at how the NAFTA has become a short-hand for virtually anything that's wrong with the economy. However, unlike most of his predecessors, he's is actually following through on what he said he'd do. One bit of Trump follow-through was to withdraw from the Trans Pacific Partnership; one of his first executive orders, and an issue about which, thanks to Trump, I turned out to be completely wrong.
1) The NAFTA is the worst agreement ever negotiated.
One of Donald Trump's central claims about the NAFTA is that it is the worst agreement ever negotiated by the United States-- I assume he means "worst trade agreement" ever negotiated since he says much the same about the Iran nuclear deal. Moreover, Trump claims that foreign countries "have been taking advantage of us (the U.S.) for decades."
You'll not be surprised to learn this is an old line of argument in American trade politics. Trump isn't entirely out of bounds with his claim, but he's probably 3 decades too late with it. Between the end of World War II and the late 1960's, U.S. trade policy was essentially managed out of the Department of State. A common reading of this period in U.S. trade policy is that State traded U.S. market access for non-economic concessions in the service of bigger Cold War objectives. In other words, State would offer up tariff concessions to allied countries (allowing them to more easily export to the U.S.) in exchange for political concessions of one sort or another all in an effort to shore up the Cold War alliance against the Soviet Union.
However, you scholars of the U.S. Constitution will recall that responsibility for regulating commerce among nations rests with the U.S. Congress (Article I, Sec. 8). After 1934, the Congress had "delegated" the daily management of that authority to the Executive Branch, and the President logically handed that over to the nation's chief diplomat, the Secretary of State (see post on this general topic). However, by the early 1960s, Congress was getting a little upset at what they perceived to be the trading away of U.S. market access for very little market access abroad for U.S. exporters. In 1962, Congress began to change all of that, stripping State of it's role in trade negotiations, and assigning it to a brand new Executive Branch agency directly accountable to Congress, the Office of the United States Trade Representative (USTR).
Trade policy-making didn't necessarily become easier after that, but the idea that America's negotiators were giving away the farm and not getting much in return (economically, at least) more or less ended in this period. Moreover, this period signalled the onset of far greater Congressional involvement in the setting of negotiating positions, most of them (not surprisingly) parochially designed to protect economic interests in Members' districts. Finally, examine any of the texts of free trade agreements America has been a party to, including the TPP, and there is a remarkable uniformity in their language. The reason is simple; negotiating with the United States means negotiating with them on terms and over language initially set by the United States.
Hence, Trump's assertion that American negotiators have been incompetently and corruptly giving market access away at the expense of the American worker might have carried more water at the height of the Cold War, but is more properly treated with skepticism today.
Incompetent bureaucrats, politicians on the take, or poor negotiating skills are not America's main problems where trade policy is concerned. And while trade policy remains a very important foreign policy tool for U.S. presidents, the circumstances under which that policy is conducted have changed since the end of the Cold War.
In theory, trade liberalization facilitates the international division of labor in ways that promote the most efficient use of scarce resources. Study after study have demonstrated the benefits of trade liberalization for both the developed and developing world. That same powerful theory also suggests that along with lots of broadly distributed "winners" in an economy, there are groups of concentrated "losers" that governments must deal with. An implicit part of the postwar social contract between governments that pursue liberalization and their populations is that some mechanism for "compensating" the "losers" with some of the proceeds earned from "winners" would be put in place.
To be blunt, a lot of countries-- notably the United States-- have done a lousy job compensating the losers. This means trying to cushion the blow of adjustment for "losing" sectors by through trade adjustment assistance of one kind or another, including retraining. The Economist's recent piece on this subject is great food for thought about what needs to be done and the challenges in getting there.
Trade is a small, but not negligible, component of direct job losses. Technological change, and the ability of the labor force to adapt, is far more important. The formula for addressing the challenges of an open economy are complex, but well-understood (my less sophisticated two-bits on this linked here) Moreover, none of them will be addressed with the kind of simplistic thinking currently flowing from populists like Trump or the advocates of Brexit; scrapping the TPP, re-writing the NAFTA, curbing labor mobility with walls, or imposing border taxes.
The NAFTA has been a particularly convenient pinata for critics of trade liberalization to beat. One of the problems is that the NAFTA's advocates got out over their skis in terms of what the Agreement could realistically deliver. Those debating the NAFTA in the public sphere have seldom been clear about its limitations or potential. The fact is, when you look at the neoclassical stages of integration, the NAFTA is the shallowest form of integration, entailing the fewest commitments by any of the members. There are no EU-style supranational institutions in the NAFTA; in other words, no Brussels-like bureaucracy telling Ottawa, Washington, or Mexico City what to do. In some ways, the lack of institutionalization under the NAFTA has always been a big part of the Agreement's short-comings (more on this here).
The merits of the NAFTA have also been muddled by the challenges of directly tying economic growth, or job loss or growth directly to the Agreement itself. However, there are some fairly unambiguous measures that suggest the NAFTA has been a boon too all three countries. I've posted some recent stats depicting the growth in cross-border trade and investment flows here. But before declaring foreigners are ripping America off, he ought to have a look at this map sourced from US Census data.
Critics of the NAFTA, especially those who currently advocate scrapping it, often don't appear to know where America's exports actually go, or what's really in the Agreement, and are even less specific about what they'd propose to fix it.
Since the Trump White House is "bigly" or "big league" into fixing, scrapping, or replacing things, let's take a look at what that might entail where the NAFTA is concerned.
2) What is everyone complaining about?
Tariffs. The elimination of tariffs within the NAFTA area has hastened the division of labor and boosted the efficiency of and complexity of supply chains in North America-- enhanced just-in-time supply chains have dramatically reduced the cost of warehousing, for example. The elimination of tariffs on nearly everything produced in North America has not only stimulated the growth of cross-border trade and production, but also contributed to some of the reallocation of production to areas of the continent where it can be done most efficiently. Scrapping the NAFTA and re-imposing national tariff schedules (Most Favored Nation tariff rates under the WTO) would undo a lot of that with one of the most direct impacts being a hike in the cost of consumer goods as all three countries reverted to imposing tariffs; really a kind of regressive tax that would be felt most acutely by many of Donald Trump's most ardent supporters.
The complaint often voiced here isn't that NAFTA tariff rates have been at zero for a number of years, rather that those rates were removed too quickly and vulnerable sectors were unprepared to handle the competitive impact of foreign competition. Frankly, this is an area where governments dropped the ball. Mexico, for example, negotiated some of the longest phase-in periods (15yrs) for parts of its agricultural sector to allow them time to become competitive with their Canadian and American counterparts (large scale subsidization of Canadian and American agriculture made this more difficult). It didn't happen. Hence, when full implementation in agriculture came in 2010, Mexican farmers, with some justification, cried foul.
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Is Trump hoping to increase the threshold to 85% or 90% North American content? What about scrapping the rules of origin altogether? It's unclear that either move would necessarily bring jobs back to the American Midwest.
Chapter 19. These provisions of the NAFTA were designed to create an extra-judicial forum for diffusing disputes over dumping and subsidy that have long vexed trade relations between the three countries. In particular, Canada and Mexico have historically railed against American trade remedy laws they saw as arbitrary and punitive when imposed against their products, mostly at the behest of American commercial interests. The idea was to create a mechanism for dealing with these disputes in a quasi-judicial environment with independent experts evaluating competing claims.
Given Trump's brand of nationalism, it's hard for me to imagine reforms to Chapter 19 that made them more robust-- quite the opposite. In spite of Chapter 19's weakness as a binding mechanism, many in Congress and elsewhere already think Chapter 19 goes to far and isn't in America's interest. Canada and Mexico might not be happy with Chapter 19 either, but they'll do well to preserve the status quo as a forum for engaging the U.S. on the application of trade remedy laws.
Chapter 11. The investment provisions of the NAFTA have generated a lot of controversy, and several "near misses" in terms of unintended consequences. While investment dispute proceedings were certainly not created by the NAFTA-- indeed, both the World Bank and the United Nations have long-established rules for these disputes-- the Agreement was the very first to include two rich countries. The initial thinking about Chapter 11 was that because Mexico had a history of expropriation and nationalization of investments by private (U.S.) firms, the investor-state dispute settlement procedures would further enshrine the rule of law governing those investments. In other words, American and Canadian firms could invest in Mexico with confidence that the tanks would not roll up to the gates and nationalize their investments.
Rather unexpectedly, it was governments in Canada and the United States that were actually some of the most frequent targets of private sector complaints about arbitrary treatment. Critics were alarmed at that the NAFTA had seemingly created a set of rule in which firms could challenge the sovereign regulatory power of the state, and use a separate legal mechanism unavailable to domestic firms to do so. Civil society groups went nuts. There were a number of close calls, notably Methanex v. United States in the early 2000s. Successive U.S. administrations rightly claim they have never lost a Chapter 11 case, but the vagaries of the language of Chapter 11 made all three governments nervous.
Subsequent U.S. trade agreements have contained much more specific investment language on the terms under which arbitration can be sought by private interests who believe they have been treated unfairly by host governments.
I doubt Trump has Chapter 11 in mind when thinking about NAFTA reform, but Chapter 11 could use an update to incorporate the contemporary language used in U.S. BITs that would go some distance toward limiting all but the most obvious cases of expropriation.
Chapter 16. Of all the NAFTA's chapters, the one covering "temporary entry" is perhaps the one most in need of revision. Chapter 16 actually created an entirely new Visa class specifically targeted at North American professionals; the TN Visa. Moreover, you could argue that this was the only part of the NAFTA that contemplated any labor mobility at all. It might have been restricted to certain professions, but at least it was some labor mobility. Indeed, the idea was that professionals doing business in any of the three countries could easily apply for a TN Visa at ports of entry for extended stays.
It didn't quite turn out that way. The full benefits of easy application and approval at ports of entry was never really extended to Mexicans who, for all practical purposes, still needed to go through U.S. consular posts to apply. Indeed, Mexico has never filled its quota of TN Visas-- it was too much of a hassle.
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| US TN Visa Admissions |
The bigger problem with Chapter 16, however, is the limited list of professionals who actually qualify for the TN Visa. Firstly, there are a host of professions today that were not envisioned in 1994 when the NAFTA was completed. The list has proven difficult to amend since then, in part due to the power of various professional associations, most of which are anchored in various states and provinces and have significant control over who enters their professions. Getting them all to agree on additional cross-border mobility for competition outside their jurisdictions has proven very difficult.
More generally, its hard to imagine any of this being addressed in a new NAFTA negotiation under Trump. Indeed, given the Trump Administration's early moves on immigration (slash the H1-B Visa numbers, the controversial travel ban and, of course, the border wall), it's hard to imagine temporary entry for professionals surviving intact.
Labor and Environmental Side Agreements. I have written about the Side Agreements elsewhere in this blog, so I won't repeat that content. You can find it here. Instead, I'll simply express deep skepticism that President Trump wants to do anything with these institutions-- in all fairness to Trump, no president has wanted to upgrade or reform either of these. To read the bluster from the Heritage Foundation in 1993 about the dangers posed by the Side Agreements is in 2016 to understand just how limited they really are. The North American Agreement on Labor Cooperation didn't really produce very much. But the North American Agreement on Environmental Cooperation did. I've been arguing for some time that the environment is one area in which trilateral cooperation has unrealized potential.
Given the signaling from the Trump Administration on climate change, I doubt the President is going to pick up on my ideas.
3) What does "fixing the NAFTA" mean?
The fact is, I am unclear as to what Trump intends to do with the NAFTA. President Trump probably thinks he can renegotiate the terms of trade with Canada and Mexico in America's favor. He's already been personally intervening with individual firms (Carrier, Ford) to pressure them to alter their plans for relocation to Mexico. But how Trump plans to do this more broadly through separate bilateral deals with Ottawa and Mexico City is unclear. White House spokesman, Sean Spicer, noted that the NAFTA is quite old and should be updated, but wasn't specific about what "update" meant. As noted above, there are several things that could be updated, but it's unlikely those kinds of updates are what Trump has in mind.
Trump loves to tout his incredible negotiating skills and his ability to make great deals. Sadly, where the NAFTA is concerned, I think he'll end up exploding rather than fixing what has been built over the life of the NAFTA. The NAFTA has never done as much as its proponents claimed it would-- it wasn't designed to pave America's streets with gold. On the other side, the NAFTA is wrongly held to be responsible for the hollowing out of America's manufacturing base. As I've noted above, America's problems in that regard transcend any trade agreements. Moreover, the idea that negotiating skills with Canada and Mexico are somehow going to bring back a lot of jobs is a misdiagnosis of the problem of American competitiveness.
It's no secret that I would rather see the deepening of the NAFTA rather than its destruction-- ideally in the direction of a common market that could address labor issues with something other than a border wall. However, I've been in the minority on these ideas for a long time. The erosion of support for the merits of economic integration throughout the postwar period, and particularly here in North America since 1994, is a source of considerable despair. To scrap the NAFTA as Trump has promised to do is for America to shoot itself in the foot. Unfortunately, there aren't many voices out there willing to make the opposite case.
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