On Sept 30, 2018, the governments of the United States, Canada and Mexico announced they had reached a trilateral free trade agreement (in principle), concluding more than 13 months of negotiations.
Dubbed the United States-Mexico-Canada Agreement (USMCA), the deal is intended to replace the North American Free Trade Agreement (NAFTA) and creates a modernized free-trade system between the three parties that addresses critical issues, such as the harmonization of regulatory systems, e-commerce and the protection of intellectual property.
In addition, the USMCA changes some of the rules and processes governing how certain goods are traded within North America and the mechanisms available for how trade disputes are resolved.
Text of the agreement will now go before Congress for a 60-day review period, during which time Congress will have the opportunity to make suggested edits. Assuming Canada and Mexico are agreeable to those edits and sign the agreement, it will then go before Congress for a straight up or down ratification vote, meaning no additional modifications can be made.
While there is confidence amongst each of the country’s leaders that the agreement is mutually beneficial to all countries involved, there is the possibility changes to the terms of the agreement could lead to a resumption of negotiations. Furthermore, ratification of the agreement could be delayed and/or obstructed due to political considerations. The agreement will be voted on after the 2018 mid-term elections in the United States, which could result in a significant change in the composition of Congress and, in turn, the degree to which Congress views the USMCA favorably. In addition, ratification of the agreement is likely to stretch into 2019 when a federal election is scheduled in Canada, making ratification of the agreement a potential wedge issue.
From NAFTA to USMCA – Key Changes
Over the course of 13 months, the parties engaged in heated debate and lengthy negotiations regarding a number of issues that had varying degrees of importance and impact on each of the parties. Following are some of the key differences between NAFTA and the USMCA.
- NAFTA Chapter 20, country-to-country dispute resolution mechanism maintained
- NAFTA Chapter 19, anti-dumping/countervailing duty dispute-resolution mechanism maintained
- NAFTA Chapter 11, investor-state dispute resolution mechanism (ISDS) eliminated between Canada and the United States.
The USMCA maintains Chapter 20 of NAFTA, which provided for a dispute-mechanism to resolve country-to-country disputes. More importantly, the USMCA maintains NAFTA Chapter 19, which provides for a bi-national dispute-resolution mechanism to resolve disputes over the imposition of anti-dumping and countervailing duties by one country on another.
Chapter 19 was a hotly debated issue during the negotiations. The United States had requested the dispute-resolution mechanism be removed, believing it infringed on U.S. sovereignty. Canada, which has effectively used Chapter 19 on more than one occasion to reverse the application of duties on Canadian imports into the U.S. (such as softwood lumber), insisted the dispute-resolution system be maintained.
However, NAFTA Chapter 11, the Investor-State Dispute System (ISDS), has been removed between the United States and Canada, but maintained for certain instances between the United States and Mexico. The ISDS was a mechanism that allowed private corporations to take legal action against a foreign government if it believes that foreign government’s policies infringe on the corporation’s rights to engage in commerce in that country in accordance with the terms of NAFTA. The removal of ISDS is considered more of a win for Canada than the United States as the United States government has never had to pay damages to a foreign corporation throughout NAFTA’s history. Conversely, Canada has been forced to pay damages of more than $300 million to U.S. corporations through ISDS resolutions.
Automotive Rules of Origin and Regional Value Content
- Total North American content of a vehicle must equal 75% (up from 62.5%).
- 70% of all steel, aluminum, and glass used in the production of the automobile must originate in North America.
- Part content will be divided up into core, principal, and complementary parts with content requirements of 75%, 65%, and 60% respectively.
- 40% of an automobile and 45% of a light truck must be produced using an average labor wage of $16/hour.
- Quotas totalling 2.6 million Canadian and Mexican vehicles (well above the current 1.8 million) were established the USMCA
- Quotas of $32.4 billion in Canadian auto parts imports and $108 billion in Mexican auto parts imports were established in the USMCA
How and where vehicles and vehicle parts are manufactured under NAFTA were a key point of contention and provided much of the impetus behind the renegotiation of the agreement. The current United States administration believes NAFTA provided incentive for U.S. auto manufacturers to offshore their production to Mexico where labor rates are much lower than in the U.S.
Initially, Washington proposed that the percentage of a vehicle that must come from North America increase from 62.5% to 85% and that 50% of automotive content originate from within the United States. The governments of Canada and Mexico rejected the idea. Automotive industry representatives said it would be near impossible to meet such requirements and would ultimately lead to a wholesale reconfiguration of supply chains, driving up costs and leading to unemployment.
After months of stalemate on the matter, the United States removed the requirement of 50% U.S. content and negotiated with Mexico to create a system by which a minimum of 45% of an automobile’s content must be produced using laborers earning a minimum of $16/hour. The system is intended to bridge the gap between labor rates in all three countries and ensure there is more of a levelled playing field with respect to labor in the auto sector. At the same time, the new system works to do so in a manner that is not overly disruptive to the very complex supply chains of automakers and their auto parts suppliers. Those terms proved agreeable to Canada’s negotiators and the impasse was broken.
Dairy Market Access
- Restrictions on the import of U.S. ultra-filtered milk into Canada have been removed
- U.S. producers will have access to an additional 3.6% of Canada’s dairy market
- Canada’s dairy supply management system, which places limits on foreign imports is maintained
Dispute over how dairy is traded between the U.S. and Canada became a key issue in the later stages of the negotiation and particularly so after U.S. President Donald Trump heard the concerns of dairy farmers in Wisconsin about restrictions Canada placed U.S. ultra-filtered milk imports. The U.S. administration insisted Canada remove the restrictions on ultra-filtered milk, as well as the remove tariffs on U.S. dairy imports that exceeded quotas set out by the Canadian government (those tariffs amount to about 300%). The U.S. took a hard line against Canada’s dairy supply management system, which puts limits on how much dairy can be produced within Canada and how much dairy can be imported from abroad.
Canada had already conceded 3.25% of its dairy market to the United States in its negotiation of the Trans-Pacific Partnership (TPP). However, the United States withdrew from the TPP before it could be ratified, preventing it from gaining that access. As part of the USMCA, Canada agreed to provide access to 3.6% of its dairy sector to U.S. producers, but maintain its dairy supply management system. The Canadian government has promised to provide affected dairy farmers with compensation for this loss of market share; however, the details of the compensation have not yet been made public.
- Pharmaceutical companies can maintain patents on biologics for a 10-year term, up from eight years
- The term of copyright was extended from 50 years after an author’s death to 70 years.
Perhaps the most hotly contested issue around intellectual property within NAFTA was related to the length of term pharmaceutical companies can maintain patents on biologics. The United States currently provides for a 12-year term while Canada’s system provided for only an eight-year term. The parties agreed to a 10-year term as a compromise, which is higher than the eight-year term Canada agreed to in the Comprehensive & Progressive Agreement for Trans-Pacific Partnership (CPTPP), a multilateral agreement involving 11 Pacific Rim countries.
The result will be that the creation of generic biologics as a cheaper alternative to the original brand-name products will be delayed coming to market by two years in Canada.
- The terms of USMCA will remain in effect for a period of 16 years, at which time the parties can choose to revisit and/or renegotiate those terms, or withdraw from the agreement altogether.
- However, after six years, the term of USMCA’s sunset (16 years) can be revisited and potentially extended if the parties feel doing so would be beneficial
In October 2017, the United States threw a wrench into the NAFTA negotiations by demanding the trade agreement include a sunset clause that would allow the parties to review and withdraw from the agreement every five years. The proposal was strongly criticized by the Canadian and Mexican delegations, as well as U.S. industry representatives, noting they required a far longer term to see a return on investments they’ve made (and would continue to make) in Canada and Mexico. Critics argued such a clause would strongly discourage foreign direct investment in and by all three countries, dramatically reducing the benefits of NAFTA and making North American companies far less competitive internationally.
The U.S. eventually conceded and agreed to a more generous sunset term of 16 years with the opportunity to further lengthen that term after a six-year period.
Section 232 Tariffs
- No resolution on steel and aluminum tariffs, or Canadian and Mexican countermeasures
- Side letter developed to provide Canada and Mexico with consultation period before tariffs on autos can be applied.
In March 2018, the United States imposed tariffs of 25% on imported steel and 10% on imported aluminum, providing exemptions to a number of key trading partners, including Canada and Mexico. On June 1, 2018, those exemptions were removed and Canadian and Mexican steel and aluminum were subject to the tariffs. Both countries retaliated in kind with countermeasures on U.S. steel and aluminum, as well as consumer goods.
Those tariffs were imposed under Section 232 of the Trade Expansion Act of 1962, which allows the U.S. President to impose tariffs on the grounds of national security, which includes undue harm to critical industries.
Also being considered under Section 232 are tariffs of 25% on auto imports, which the U.S. threatened to impose on Canadian and Mexican autos in the event no deal was reached on NAFTA.
The USMCA provided side letters that essentially state that if the U.S. were to impose tariffs on automobile imports, Canada and Mexico would be exempt for a two-month period to allow the parties to work out their differences.
However, no resolution was reached on the imposition of steel and aluminum tariffs and the associated countermeasures put in place by Canada and Mexico. The parties have agreed to settle that matter outside the NAFTA negotiations.
Background on NAFTA and its Renegotiation
The North American Free Trade Agreement (NAFTA) went into effect on January 1, 1994. Since then, trade between the three nations has grown exponentially due largely to the establishment of continental supply chains. Each day, the United states conducts more than US$3.6 billion in trade with Canada and Mexico, and since the agreement went into effect, the North American economy has expanded to a combined GDP of more than US$20 trillion.
NAFTA has allowed North American companies to take advantage of significant cost savings, and initiate productivity-enhancing measures that have allowed them to be far more competitive. To this end, companies have leveraged NAFTA to establish a network of manufacturers, vendors, suppliers and distributors that rely heavily on the free movement of goods across North America’s borders to maximize the advantages that each market offers.
On May 18, 2017, United States Trade Representative (USTR) Robert Lighthizer notified Congress that the government intends to renegotiate the terms of NAFTA. The notification was the formalization of a re-evaluation of NAFTA the current U.S. administration had promised to the American public in its election campaign the previous year.
On July 17, the office of the USTR, in accordance with U.S. law, released its key objectives in the NAFTA negotiations, which were heavily focused on modernization in areas of intellectual property rights, regulatory practices, as well as labor and environment, government procurement and a number of other key areas. Negotiations began on August 16, 2017.
Impact of NAFTA on businesses & supply chains
NAFTA has paved the way for the development of sophisticated supply chains that have allowed American manufacturers, particularly midsized firms, to realize cost-savings and become more innovative. NAFTA has allowed businesses of all sizes to take advantage of reduced or eliminated tariffs, enabling them to establish effective supply chains that have resulted in increased GDP, higher standards of living, greater investment in research and development and the rise of the “knowledge economy”.
Businesses in the U.S., Canada and Mexico have made decisions with respect to where they will locate manufacturing facilities based on the advantages afforded to them by the Agreement, and have made significant financial investments associated with those decisions based on the certainty that stems from the current trade environment created by NAFTA. Any modifications to NAFTA will inevitably affect the business value of those facilities and the broader supply chains of businesses across North America, leading to increased cost and disruption to operations.
Vendor relationships are often multi-tiered, and impact numerous companies. Suppliers are also distributors and the potential for downstream disruption can be catastrophic, as a domino effect emerges in realigning suppliers to ensure that they meet new provisions.
Supporting our customers’ needs
Livingston will continue to monitor the progress of discussions regarding the NAFTA renegotiation process and will continue to provide updates.
If you have any immediate questions please contact 1-800-837-1063.
Oct. 1, 2018
- Text of the United States-Mexico-Canada Agreement or USMCA is made public in accordance with the rules of the Trade Promotion Act
September 30, 2018
- U.S. and Canadian negotiators reach agreement on the key contentious issues and announced they have an agreement in principle in place
August 27, 2018
- The United States announces it has reached an agreement in principle with Mexico to alter the terms of NAFTA.
- Washington imposes Sept. 30, 2018 deadline for Canada to reach a deal with the United States
May 17, 2018
- Parties are unable to reach an agreement in time for House Speaker Paul Ryan’s stated deadline. United States Trade Representative Robert Lighthizer publicly states the parties remain far apart on a number of key issues.
- All parties continue to express willingness to continue negotiations in the short term but stress a deal must be reached imminently to avoid interference with the Mexican presidential election and US mid-term elections.
May 11, 2018
- House Speaker Paul Ryan sets May 17 as deadline to conclude NAFTA talks if current Congress is to be able to approve a revised agreement
May 2, 2018
- United States Trade Representative Robert Lighthizer publicly states that if a NAFTA deal is not concluded within the month, negotiations will likely need to be postponed until 2019 to accommodate Mexican presidential and US mid-term election campaigns.
April 8, 2018
- Eighth round of formal negotiations tentatively scheduled to take place in Washington are replaced by high-level talks between the parties
February 5-March 5, 2018
- The seventh round of talks take place in Mexico City
January 24-29, 2018
- The sixth round of talks take place in Montreal
November 15-22, 2017
- The fifth round of talks takes place in Mexico City
October 11-15, 2017
- The fourth round of talks takes place in Washington
September 23-28, 2017
- The third round of talks takes place in Ottawa
September 1-5, 2017
- The second round of talks takes place in Mexico City
August 16, 2017
- Formal negotiations begin
July 17, 2017
- Office of the U.S. Trade Representative publicly releases its key objectives to Congress
- The Office of the U.S. Trade Representative (USTR) holds public hearings June 27-29, 2017regarding the upcoming negotiations of the North American Free Trade Agreement (NAFTA)
June 3, 2017
- All interested Canadians are invited to provide a written submission in response to the Canada Gazette Notice on consultations on the renegotiation of the NAFTA
May 23, 2017
- USTR Federal Register notice is published, requesting public comment
May 18, 2017
- USTR issues 90-day notification to Congress regarding intent to renegotiate NAFTA
January 1, 1994
- NAFTA trilateral agreement goes into effect between the United States, Canada and Mexico.