By Jamie Adams
It might just be working… slowly.
The grand plan devised by Washington during the Trump years – and now being nurtured by the Biden administration – to encourage trade diversification to reduce reliance on China may just be taking hold. And it may have more far-reaching effects for U.S. firms and global trade years down the road.
On the surface, it would seem little has changed. The latest figures show America’s trade balance with the world at the close of November 2021 stood at a historical deficit. In merchandise trade, the value of imports outweighed exports by $99 billion, a surreal figure when one considers the effort being made to reduce our dependency on imports from China through implementation of widespread tariffs and sanctions.
It didn’t take long for U.S. firms with interests in China to adapt to the new trade policy, implementing a China-plus-one strategy that would create supply chain redundancies within Asia, particularly in Southeast Asia. In the January-November period, trade deficits with countries neighboring China have grown at record speed since the onset of the trade war in 2018. Specifically, deficits have ballooned with trade partners like Taiwan (+161%), Cambodia (+145%), Vietnam (+126%) and Thailand (+77%). All this while the deficit with China – which admittedly saw incremental year-over-year growth in 2021 – declined 16% since 2018 for the same January-November period. In value terms, the trade deficit with China for the January to November period has declined $62.5 billion between 2018 and 2021. Conversely, the collective growth in deficit across the aforementioned Southeast Asian countries has been $86.7 billion. (It’s important to note the values are not seasonally adjusted nor adjusted for inflation, the latter of which has grown significantly in the last calendar year.)
However, focusing on trade data related to countries in Asia alone tells only part of the story. Trade patterns have been shifting elsewhere and far closer to home for U.S. companies. The nearshoring phenomenon – where U.S. firms shift supply sourcing to countries within North and South America – was expected to be a longer-term trend. But the trade war, combined with a supply chain crisis that has overwhelmed manufacturers, wholesalers, retailers and e-commerce facilitators has accelerated the degree to which firms look closer to home for the goods they need.
Looking again at January-November figures in 2018 (when the trade war with China began) versus 2021 figures, the U.S. trade deficit with Canada has grown 155%, from $17.2 billion in 2018 to $44 billion in 2021. While investment figures for 2021 are not yet available, U.S. investment in Canada between 2018 and 2020 increased 8.8% or CDN$37.2 billion even as the pandemic tore through both economies.
The trade deficit with Mexico contracted slightly in 2021 from 2020 figures, but a 2018 to 2021 comparison shows the deficit expanded 40% — from $70.3 billion to $98.7 billion. U.S. investment in Mexico declined significantly between 2019 and 2020 – a result of the pandemic and less-than-friendly FDI policies, particularly in the energy sector, enacted by Mexico’s current president. But in the first quarter of 2021, investment came pouring back in with historic YOY gains of 14.8% or $11.86 billion, 45% of which came from the U.S.
The surging trade and investment numbers are indicative of a meaningful transformation taking place across North America. U.S. businesses are beginning to realize there is a shrinking disparity between producing in Asia but incurring significant transport costs and potential supply disruption, versus leveraging labor-cost efficiencies in Mexico and high-skilled labor in Canada (and favorable exchange rates with both countries).
Precisely how significant the shift toward North American-centric supply chains becomes will depend on a long list of variables. Near the top of that list, however, is the degree of harmony across the country’s three countries. The implementation of the United States-Mexico-Canada (USMCA) agreement midway through 2020 was expected to usher in an era of calm and stability after three years of uncertainty wrought by the often-tense negotiations surrounding the trade deal. That certainty was short lived. The initial months were characterized by low-level disputes primarily over agricultural. In 2021, however, tensions at the governmental level over more significant matters have created a less cordial environment.
A dispute over Canada not living up to its commitments to provide U.S. dairy producers expanded access to its protected dairy sector was recently taken to USMCA arbitration at the request of Washington. The panel ruled in favor of the U.S. But as quickly as the dispute was resolved, Canada was already threatening to take the U.S. to task over Washington’s recent increase to countervailing duties on Canadian softwood lumber – an on-again-off-again dispute that has been ongoing since the early 1980s. Ottawa has filed a legal notice under Chapter 10 of the USMCA, setting in motion a process that could take up to a year to conclude.
A separate but no less significant dispute over the Biden administration’s proposed tax credit for electric vehicles has been temporarily diffused with the voting down of the Build Back Better bill but could resurface at any time should the bill be brought back before Congress, or the proposed tax incorporated into a separate bill. Either way, the dispute served to resurrect Canadian opposition to Buy American policies introduced by the Trump administration and strengthened by the Biden administration – policies both Ottawa and Mexico see as contrary to the spirit of the USMCA.
Most recently, Mexico City has requested a USCMA panel settle a dispute over how the regional value content of automobiles should be calculated. While the nature of the dispute is rooted in the USMCA’s technicalities, any conflict over automotive-sector rules is likely to get heated given the sector was the core impetus behind the renegotiation of NAFTA.
To be sure, diplomatic relations between the three countries remain strong, but the proliferation of trade disputes only serves to create uncertainty over the fate of the USMCA, which is scheduled to be reviewed – and potentially modified – by all parties in 2026. It’s inevitable that industries within any particular country will advocate for their own competitive interests, but the degree to which these matters are escalated to the national level in the form of punitive or obstructive measures can only serve to dampen investor sentiment and discourage the nearshoring trend.
It’s important to note that nearshoring isn’t simply a convenient means of mitigating supply chain risk emerging from Asia in the near term. Nearshoring could very well prove to be at the heart of America’s global competitiveness (and that of Canada and Mexico) as a comparable continental free trade agreement takes root in Asia, creating the conditions for equally efficient and integrated supply chains across a much larger collective market.
The move toward bringing production and supply chain partners closer to home has been clear since the onset of the trade war and has been accelerated by the supply chain crisis, but wholesale change in supply chains can’t and won’t take place overnight. Sustainable transformation requires nurturing through an environment characterized by stability, incentives and positive long-term projections.
Those should be the priority of policymakers across all three USMCA parties.
Jamie Adams has extensive and diverse experience in compliance with relevant domestic and foreign import and export laws, as well as in creating and executing plans to improve global trade and international supply chain programs and systems.