U.S. stock markets surged Monday after President Trump announced the United States and Mexico have reached a preliminary trade agreement, which is part of the Trump administrations effort to rewrite the North America Free Trade Agreement (NAFTA). Does this mean the new deal is a huge improvement over NAFTA? Not exactly.
President Trump has called NAFTA the worst trade deal in history, but an analysis of key provisions finds limited improvements, some compromises, and quite a few flaws in this new agreement.
The biggest improvement is with respect to digital trade, something missing from the NAFTA agreement established in 1990, when e-commerce was in its infant stage and few even knew what social media was. The new agreement stipulates digital trade tariffs will be prohibited for digital products that are distributed electronically, such as e-books, videos, music, software and games.
Another improvement is on intellectual property rights. The new agreement states that intellectual property copyright holders will have full copyright protections in markets of all member countries. This language may be used as a template for intellectual property rights discussions with China, a sore spot.
Now for the Compromises
The provisions also contain a number of U.S. compromises. The agriculture provision is a good compromise. It pretty much preserves NAFTAs existing free trade provisions, while both sides agreed not to impose tariffs on each others agricultural goods, and not to use export subsidies.
This is good news for U.S. farmers because theyve born the most cost of other nations retaliatory tariffs after the Trump administration hiked U.S. tariffs against several countries. Farm income has dropped almost 7 percent this year. Since most farmers are Trump supporters, the administration plans to offer them a $12 billion aid package.
But farmers would rather have free trade than receive more government subsidies. So this compromise with Mexico is welcome news to them.
Another compromise regards the so-called sunset clause. When the Canada, Mexico, and the United States started renegotiating NAFTA several months back, the Trump administration insisted a new NAFTA agreement should automatically expire after five years.
Canada and Mexico rejected that idea because they believe companies needed greater certainty about the deal remaining in place to make the sort of long-term investments that drive trade. So in this new U.S.-Mexico trade pact, the sunset clause stipulates that the new trade agreement is good for 16 years with a provision for review after six years.
Now for the Trade Deals Flaws
Besides improvements and compromises, the new U.S.-Mexico trade pact has a few flaws. For example, while the administration recognizes the value of free trade in agriculture, it is determined to protect the auto industry. The new trade pact contains a high wage clause that says between 40% percent and 45% of auto content must be produced by workers earning at least $16 dollars an hour.
This kind of minimum wage requirement would force companies to either maintain more production in the U.S. and Canadawhere wages are higheror pay higher wages in their Mexican factories. The deal also requires Mexico to take specific steps to recognize collective bargaining rights.
In addition, the deal demands key inputs in automobiles, such as steel and aluminum, must be sourced in North America. All these measures will be a boom to the U.S. auto industry and certain commodity producers (i.e., steel and aluminum companies), but U.S. consumers will end up paying the price because higher input costs mean higher sticker prices for cars.
Another flaw is about the international tribunals. NAFTA created these tribunals to resolve disputes between a company and a government within NAFTA. Canada, Mexico, and many U.S. businesses like these tribunals because they reduce uncertainty and the cost of doing business within NAFTA. But the Trump administration strongly opposes these tribunals.
In the end, the new U.S.-Mexico pact keeps the tribunals for some industries such as oil and gas, energy, and infrastructure, but not for other industries. But no government should pick winners and losers through its policies. Its unfair that the risk and cost of doing business for industries who lose access to these dispute resolution mechanisms will rise when this U.S.-Mexico pact becomes effective.
The Stock Surge Is Due to Less Uncertainty
So why did stock markets surge Monday despite an imperfect deal? President Trumps tough trade talk, threats of trade wars, and rounds of tariffs against friends and foes alike have created a great deal of uncertainty in stock markets. Investors have been nervous that the global economy would slow down from seemingly unavoidable trade wars.
The announcement of a preliminary trade deal between the U.S. and Mexico assures investors that a trade war is not imminent and the Trump administration is willing to settle for new trade deals. That is a great relief to anxious investors, who hate uncertainty more than anything else.
But investors shouldnt cheer for the new trade pact too soon because our second largest trading partner and a key member of original NAFTA, Canada, is not part of this new pact, at least not yet. President Trump threatened to impose a 25 percent tariff on cars made in Canada if Canada doesnt sign on to the U.S.-Mexico pact as-is. But Canada is no Mexico.
A Tight Timeline for Making This Work
We should keep in mind that Mexicos political calendar helped push the deal through. Since Mexico just elected a socialist president, the U.S. and current Mexican governments are eager to sign a deal before he takes over on December 1. Current Mexican President Enrique Peña Nieto will leave office in a few months, so he has little political risk in being more accommodating to U.S. demands. Canada, however, reacted to a previous U.S. tariff with retaliatory tariff, and Canadian Prime Minister Justin Trudeau vowed not to be pushed around by America.
The Trump administration is running up against a key deadline. It has to wait 90 days after notifying Congress before signing a deal. If it wants to sign a new NAFTA deal before the new Mexican president is sworn in on December 1, the Trump administration must send Congress the new trade deal by September 1. Some Republican lawmakers already warned that a new trade deal must include Canada. This means the United States and Canada have only a few days to work towards a possible new agreement.
If Canada blinks in the end and signs on to the U.S.-Mexico trade pact, it will be a big boost to President Trumps deal-maker image and solidify his standing with his base. Traditional conservatives who believe in free trade will be disappointed due to clauses such as the minimum wage requirement and the recognition of bargaining rights. But such clauses appeal to Democrats union base.
AFL-CIO President Richard Trumka praised this trade pact as going in the right direction. I wont be surprised to see union members come out to support Republican candidates Trump endorsed this fall. In the end, the rewrite of NAFTA wont be a huge improvement on free trade, but it may help the GOPs chances in November.