Goodbye NAFTA, hello USMCA

After more than a year of intense negotiations, Canada, Mexico and the United States have agreed on a trilateral trade deal to replace the North American Free Trade Agreement, a nearly 25-year-old pact that has been excoriated by U.S. President Donald Trump as the “worst trade deal ever.” While the leaders of all three countries applauded the new agreement — Trump with typical hyperbole called it “the most modern, up-to-date and balanced trade agreement in the history of our country” — the United States-Mexico-Canada Agreement (USMCA) is in fact a revised version of NAFTA, leavened with dollops of the Trans-Pacific Partnership.

The new deal should not prove disruptive to existing trade — good news for Japanese automobile manufacturers that invested heavily in NAFTA — but the negotiating process is worrying. The U.S. bluffed and bullied, setting a troubling precedent for future trade talks, and one that Japan must prepare for as Tokyo commences negotiations with Washington as recently agreed.

NAFTA was outdated — the world has changed a lot in a quarter century — and the USMCA includes major changes to key provisions on rules of origin, labor and environmental standards, intellectual property rights protections and dispute resolution. It also addresses trade in digital products — virtually nonexistent when NAFTA was first agreed — as well as currency manipulation.

For automobiles, for example, 75 percent of the components of cars or trucks must be manufactured in North America to qualify for zero tariffs; in NAFTA it was 62.5 percent. This increase is intended to spur production in the U.S., Mexico and Canada and deter sourcing from low-wage countries in Asia. Ultimately, however, Mexico’s wage rates remain well below that in the U.S. and Canada. This is one of NAFTA’s failures; it was supposed to boost hourly pay in that country. As a result, the USMCA requires that 40 to 45 percent of automobile content must be made by workers who earn at least $16 an hour by 2023.

Mexican workers should also benefit from provisions that require their government to pass legislation giving them the right to real union representation, that extend labor protections to migrant workers and to protect women from discrimination. To ensure that the Mexican government follows through, the USMCA allows each country to sanction the others for labor violations that impact trade.

Other provisions give U.S. dairy farmers more access to the Canadian market, extend copyright terms from 50 years beyond the life of the author to 70 years, and extend from eight years to 10 the period that certain drugs are protected from generic competition. The dispute settlement mechanism that the U.S. wanted to have eliminated has been preserved, and a 16-year “sunset clause,” which sets a time limit for the deal, introduced.

The deal is a modest improvement on NAFTA. It modernizes that agreement and, ironically, borrows many of its newest provisions from the TPP — which Trump has maligned and from which he withdrew the U.S. during his first week in office. USMCA will have little effect on the U.S. trade deficit, which is Trump’s biggest complaint about the trade deal.

Japanese automakers can breathe a sigh of relief. The new agreement will not require them to make immediate changes to their manufacturing set up. About 17.5 million cars were sold in the U.S. in 2017 and about 40 percent of them were Japanese vehicles. USMCA limits the number of cars exported annually from Mexico or Canada to the U.S. to 2.6 million units; exports exceeding that number will receive a tariff that is anticipated to reach 25 percent.

The big four Japanese automakers — Toyota, Honda, Nissan and Mazda — produced about 1.37 million vehicles in Mexico that year, and exported nearly half — 680,000 — to the U.S. That same year, Toyota exported about 450,000 cars from Canada to the U.S. as well. There will be ample time before those limits are hit, giving auto manufacturers time to adjust production. Honda will be squeezed, however: One of its most popular exports, the HR-V sport utility vehicle, has 67 percent of its components made in NAFTA countries. That number must rise to 75 percent.

Japanese trade negotiators worry that Washington has learned the wrong lessons from these trade talks. Trump is convinced that the threat of tariffs produced the USMCA and is ready to brandish them again to get results. He should be concerned that other countries will either emulate his tactics — pushing the world to the brink of multiple trade wars — or that they will see through the bluster, depriving him of his favorite negotiating tool and trick. If the latter, then there is the danger that he will only double down on the threats. Neither is good for the U.S. or the world.