Modernization of NAFTA is broadly supported by political and private sector leaders from all three countries. After 7 rounds of negotiations, it is clear that a meaningful modernization is within reach - but is also at risk due largely (albeit not exclusively) to “unconventional” proposals from the US. Most of these proposals have little if any support from the US business community and are strongly rejected by Canada and Mexico. Perhaps even more concerning to the business community and trading partners is what the US proposals in NAFTA reveal about the direction of trade policy in the current US Administration — a policy that may rely more on trade litigation than trade negotiations.
The US began these NAFTA negotiations announcing their overall goal of reducing the US trade deficit. In fact, most US trade negotiations operate on the premise that success would improve the US trade balance by opening new export opportunities for US companies, resulting in job creation and other economic benefits in the US that would exceed any costs created by the disruptions of increased imports. In this case the US has followed that recipe in some sectors (‘traditional’ issues), but centered its proposals around “unconventional” proposals aimed at limiting foreign access to US markets and reducing the attractiveness of investment abroad by US companies. These proposals include:
- Sunset: Increase uncertainty for long-term investors by automatic termination of agreement every five years
- Rules of Origin: Increase requirement for national content of automobiles and textiles
- Government Procurement: Severely restrict Mexican and Canadian access to US procurement
- Investor State Dispute Settlement: Eliminate treaty recourse for investors in certain circumstances
- Dispute Settlement: Reduce the provisions constraining US ability to impose unilateral ‘safeguard’ or ‘trade remedy’ measures.
While each of those proposals would be ‘bad for business’, In some ways the last item may be the most broadly indicative of a general trade policy that will focus more on ‘litigation’ than on market-opening agreements. Perhaps it is coincidental that each of the last two negotiating rounds coincided with breaking news about trade litigation measures. During the January Montreal Round, the International Trade Commission rejected a safeguard action against Bombardier, and during the recent Mexico Round President Trump announced imposition of significant new tariffs on steel and aluminum. One of the reasons Mexico and Canada are strongly resisting the US NAFTA proposals is precisely their concern about this direction of US trade policy.
Many companies had been concerned primarily that elimination of NAFTA could lead to tariffs reverting to MFN levels — averaging less than 4 percent for the US, and around 10 percent for Mexico. But the perception is growing that the risk is in fact much greater —dramatic expansion of trade remedy actions could lead to dramatically higher tariffs in any economic sector on short notice. This could happen with or without NAFTA, but a renewed NAFTA that retains strong dispute settlement provisions may be the best way to reduce that risk.
The proclivity to use trade remedies is not surprising. The President’s choice of US Trade Representative, Robert Lighthizer, made his career as a private lawyer pressing the US government to adopt trade remedies on behalf of specific companies or industries, such as steel.
Both USTR and the Department of Commerce, the key implementers of trade remedies, are significantly growing their offices that deal with those issues, even as most of the rest of government, outside of the Defense department, is trimming staff. Reportedly those agencies are finding it challenging to grow those teams, however, as they compete for experienced talent with the various law firms in DC that specialize in trade actions, and are themselves preparing for the onslaught of actions that will require affected companies to ‘lawyer up.’
Trade remedies include the various mechanisms available to the government to intervene in specific sectors of the market, generally with very high border taxes (tariffs) or quotas to limit the quantity of imports of a particular product. Countervailing Duties (CVDs) and Anti-Dumping (AD) measures are traditional tools for this purpose. Many other tools are available, such as Section 201 - against import surges, Section 122- balance of payments deficits, Section 301- against treaty violations, Section 337 against unfair trade practices, and Section 232 - supposed to defend products vital for national defense.
There is a formal process to enact these measures, generally involving gathering of facts, opportunity for affected parties to present their facts and views, review and analysis by the US agencies, and a policy decision by political authorities. Generally there is also a mechanism for appeal, either administratively, such as to the International Trade Commission (part of the US government), or to one of the dispute settlement mechanisms created by various trade agreements, including NAFTA and the World Trade Organization (WTO).
It is logical that an Administration focussed on utilizing trade litigation as a primary tool would want to reduce some of the constraints that are imposed by international agreements. This partially explains the approach it takes in NAFTA, and perhaps also its refusal, so far, to allow full staffing of the appeals mechanism in the WTO.
The attractiveness of trade litigation to the President and his team is clear. He has the legal authority, at least to start the procedures. He can act unilaterally — i.e. no Congressional action required. The measures can be dramatic — tariff levels in high double digits, and even triple digits are quite possible. The beneficiaries of the protection are immediately identifiable, with names and addresses. Even if the measures are overturned on appeal, the process can take years, especially if it involves an international tribunal (which is often the case). For someone, like the President, who made extensive use of litigation as a tool of private business perhaps it is natural to recur to a similar mechanism as a tool for public policy.
Of course, the current Administration did not invent these tools; they have existed for years, and some have been utilized with some frequency, especially AD and CVD cases brought by particular industries. However, previously trade remedies have generally been viewed, at least by national authorities, as a recourse to address significant market failures, or a response to foreign countries breaking the rules. But it seems clear this Administration views the tools more as weapons to utilize proactively, and intends to increase dramatically their use, largely disregarding the reasons prior Administrations have been more moderate in their application.
Reasons for caution in the use of trade remedies include the following:
- Damage to consumers. These actions always result in price increases for the affected product. For consumer goods, like tennis shoes or cars, the final consumer simply pays more (and therefore buys less of that product or of something else). But if the product is an input like steel or aluminum, the industries that must pay higher prices to use that material become less competitive against foreign producers in their own industry. There are estimates that protection of US steel producers in the 1980s cost 10 US jobs in steel-consuming industries for every job protected in steel.
- Picking winners vs free market. Trade remedies invariably involve a direct role by the government to raise taxes on US consumers of a particular product on behalf of specific producers who will benefit from higher prices. For many Americans this level of government involvement in the market should be the exception rather than the rule; a last resort to be utilized only in exceptional circumstances and when the market has clearly failed. Republican leaders in particular have traditionally disagreed philosophically with the concept that government bureaucrats should decide what price is appropriate for tomatoes, avocados, or automobiles.
- Retaliation. Foreign countries have their own political imperatives, and few if any of them include letting the US trample on their economic interests. In some cases, they can respond immediately with unilateral measures of their own, as Canada recently did by rejecting procurement of Boeing fighter aircraft in response to the trade action Boeing instigated against Bombardier. Sometimes countries work through the international appeals process to legitimize their retaliation. Thus, Mexico currently has WTO blessing to impose over $3 billion of retaliatory tariffs against the US after winning its case against US trucking policy. Most countries will be strategic about retaliation, choosing products that will maximize political impact in the US while minimizing economic damage to their own interests.
- Reduced economic growth. Trade restrictions reduce global economic growth via several mechanisms. Like any tax they reduce consumption of affected goods. By interfering in free market activity they force economic actors to find second best solutions. Perhaps most significantly, these measures increase uncertainty — as these measures can be applied in any sector at any time, they increase the difficulty of making pricing and sourcing decisions, with an especially strong impact on exports of products that require a long lead time.
- Strategic mutual constraint. A major reason the US has rarely used Section 232 in the past is to avoid creating precedents that other countries could use even more extensively to block US exports. Any sovereign country can find ways to raise trade barriers, so the global trading system requires an element of mutual restraint, in which major trading nations avoid excessively flouting the norms as well as the formal rules in order to avoid descent into competitive protectionism. The recent 232 action on steel and aluminum could have long range consequences, serving as a precedent for other countries to utilize.
These concerns seem to be less constraining for this administration, but that does not make them invalid. The administration apparently is willing to accept the costs in return for what it views as preferable policy. Thus their consequences will have to be mitigated or simply accepted.
These actions have major implications for US companies, workers, farmers, and consumers, as well as our trading partners. They also have implications for political alignments in the United States. They imply risks as well as opportunities for individual companies, large economic sectors, and the national economy as a whole. The policies are not necessarily set in stone yet — especially since Congress and other actors have influence. But now is the time both to prepare for this new direction, and decide whether and how to seek to influence the policies.