It’s clear that President Trump is going to shake up U.S. trade policy, but what exactly he will do, and when, remains unclear.
Comments on the campaign trail and from the early days of the administration indicate that the nation might soon be pursuing an “America First” policy. Economic theory and experience offer little reason to believe that a move toward increased protectionism would benefit the United States.
The challenge for leaders with protectionist tendencies is that the benefits of global trade are spread across a wide constituency within the United States, including most consumers and educated workers, while the losses are very concentrated in terms of geography, industry, and socio-demographics.
The history of the Consumer Price Index demonstrates that the main beneficiaries from U.S. trade with poorer countries are U.S. consumers. For example, thanks to international trade, clothes in the United States cost almost the same today as they cost in 1986, and furnishing a house costs about as much (or as little) as in 1980. However, as consumers achieved these gains, others in the economy felt losses. Those most exposed and vulnerable to international competition—such as manufacturers in the Midwestern “rust belt” and in the South—have paid a price for the cheap imports in loss of competitiveness, loss of business, and loss of jobs.
That said, it’s misleading to pin the manufacturing job losses of the past few decades solely on free trade. Research has shown that most of the labor market deterioration is a consequence not of free trade, but of technological change, which has led to a sharp increase in the wage premiums that skilled workers can command. Unskilled, low-mobility workers are suffering from both international trade and their own limited job market appeal in an economy that increasingly values education. For instance, although automakers’ contribution to U.S. GDP has fallen by 10 percent in recent decades, the number of jobs in the auto industry has dropped by a full 30 percent. Technological change—not outsourcing—is to blame for two-thirds of the industry’s job losses.
Yet, as we have seen in the political climate of the past year, the people who believe they have lost jobs as a consequence of international trade are far more vocal in their opinion of U.S. trade agreements than are the many more who have benefited from cheaper clothes, electronics, and other imports.
Effects of NAFTA
An assessment of who stands to win and who stands to lose if the United States withdraws from the North American Free Trade Agreement (NAFTA) will invariably look at who has gained from that agreement since its creation in 1993. But a simple analysis focused on the value of mutual trade and bilateral trade balances will not provide a clear picture of the likely effects of withdrawal.
That’s largely because regional supply chains have become highly integrated in recent years. For instance, Mexican-made parts are frequently included in U.S. exports to China. For many of the U.S. businesses making those exports, substituting U.S.-made components for the Mexican parts might increase the price of the final product, leading to lost market share in China. The same argument applies to U.S. exports to third markets, such as China, that compete with products made in cheaper locations.
In the United States
The automobile sector suffered immediate losses on the stock market when the results of the 2016 U.S. election came through. Many U.S., Japanese, and European auto giants rely on Mexican plants for part of their production, and a breakdown of NAFTA would sharply increase their production costs if it meant the automakers had to accept tariffs or relocate all facilities to the United States. In the two decades from 1993 to 2013, U.S. exports of cars and car parts increased from $10 billion to $70 billion, and American foreign direct investment in Mexico increased from $15 billion in 1993 to $100 billion today. Forcing these businesses to relocate plants would be disruptive, to say the least.
Another U.S. sector that is exposed to NAFTA is the energy sector. Non-crude petroleum products and crude petroleum are the second- and fourth-largest U.S. exports to NAFTA countries. And overall, around 15 percent of total U.S. NAFTA trade is in petroleum products. Other U.S. sectors that would likely suffer if the United States withdrew from NAFTA include the aerospace sector, trains, large agribusinesses, and appliance makers.
In contrast, American clothing companies, which have lost business to cheap imports from Mexico, would likely benefit from a NAFTA disintegration. In general, any U.S. manufacturing companies that rely on a labor-intensive process which is not highly automated, and does not require advanced technology, stand to win from a cessation of free trade with poorer countries.
The United States and Canada had a free trade agreement prior to NAFTA, so the impact of NAFTA on Canada–U.S. trade has been less significant than on Mexico–U.S. trade. The main debate in Canada is about why free trade has not led to a convergence in productivity levels, as Canadian productivity remains nearly 30 percent below U.S. levels.
Nevertheless, some sectors of Canadian business have benefited from the free-trade agreement. Canada has seen a large U.S. investment in its automotive sector, but the biggest beneficiaries are in natural resources. Canada’s largest export to the United States is mineral fuels. The country is also the largest supplier of agricultural goods to America. And the Canadian wood and paper industries are considered NAFTA beneficiaries, as well.
Canadian sectors that are deemed to have incurred losses because of NAFTA, and that would stand to gain from a U.S. withdrawal from the treaty, are some subsectors of steel production and processed foods.
These issues are complicated by the fact that a U.S. exit from NAFTA would likely mean a reversion to the 1989 U.S.–Canada Free Trade Agreement (USCFTA), an agreement that did not include many of the groundbreaking aspects of NAFTA, such as intellectual property rights protection; specific cultural exemptions on broadcasting, film, and publishing; and certain trade dispute settlement mechanisms.
Mexico has clearly increased trade, jobs, and investment as a result of NAFTA. The main negative consequence of the NAFTA agreement for Mexico is that the increased trade has not led to a convergence in wage levels between Mexico and its far wealthier trading partners, as the country remains chiefly a cheap production base.
In the automotive sector, U.S. companies such as GM and Ford are not the only businesses that stand to lose if the U.S. withdraws. International car manufacturers that have production bases in Mexico, including Toyota, Nissan, and Fiat, would also suffer. In fact, in the past six years, global automakers have announced more than US$24 billion in Mexican investments. German automakers like Volkswagen, BMW, and Daimler are either already present in the country or planning to move production/assembly lines there. Consequently, car output in Mexico has been expected to more than double from 2010 to 2020, from 2 million to 5 million vehicles. But any of these companies may withdraw from operations in Mexico if the U.S.’s withdrawal from NAFTA reduces their access to the U.S. market.
Mexico’s aerospace engineering sector, a recent success story, would also lose from a U.S. NAFTA withdrawal, as would Mexico’s farm exports, which have more than tripled since the creation of the treaty.
What’s next for NAFTA?
The most likely course of action for the Trump administration is to try to renegotiate the NAFTA agreement, rather than repealing it. Such negotiations would likely focus on measures that would raise the cost of labor in Mexico, such as stronger labor provisions and environmental standards; these types of changes would lower the incentive for moving U.S. blue-collar jobs south of the border. Some sort of punitive measures for U.S. manufacturers moving operations to Mexico would likely also be in the cards.
However, reaching a new agreement would likely be complicated by three main factors:
- Mexican approval. It may seem that the United States, as the far wealthier country and the source of most foreign direct investment into Mexico, should have the upper hand in negotiations to revise NAFTA. However, politicians on both sides of the border will have to consider domestic political sentiments, which may become more important than economic arguments.
- U.S. Congress approval. The second main obstacle to renegotiation is the U.S. Congress. A new NAFTA would have to be approved by Congress in the face of competing and often opposing regional interests that cut across political-party lines.
- Lower corporate profits. The other major complication is the extent to which North American supply chains are integrated across the U.S., Canada, and Mexico, and the extent to which American companies exporting to the rest of the world depend on these regional—rather than strictly U.S.-based—supply chains. A large number of U.S. companies would incur severe losses should cross-border trade become less free. We predict that the fallout of canceling or severely restricting NAFTA, in terms of job losses in the United States, would be far higher than any corresponding job gains that result from pressuring companies to build more factories in the U.S. Certainly, the job losses would be felt more immediately.
Based on a Dun & Bradstreet analysis, we assign a 70 percent probability that the administration will renegotiate NAFTA such that the new agreement includes labor and environmental provisions, which will increase the cost of production in Mexico, but will otherwise include very few changes that could be labeled a “trade barrier.”
Winners and Losers in the TPP
The 12 countries that signed onto the Trans-Pacific Partnership (TPP) in 2016—including the United States, Japan, Canada, Australia, and Mexico—comprise 40 percent of the world’s GDP. Before the U.S. withdrew, the TPP was the biggest trade agreement in history.
For the U.S., the main winners would have been companies in the agricultural sector, particularly beef and pork, as the Japanese market would have opened up to these imports. U.S. companies that rely on intellectual property would also have benefited from the TPP’s increased protection of IP in signatory states. And U.S.-based services companies, such as finance service providers and telecoms, would have gained, as liberalized trade in services generally benefits developed countries.
Although the TPP’s central goal was not tariff reductions, the United States stood to benefit from the few reductions that were planned. Moreover, the TPP was designed to enforce higher labor safety and environmental standards in member states, which would have benefited U.S. companies and workers by driving up labor costs in emerging markets and reducing the cost competitiveness of developing-market businesses vis-à-vis U.S. firms.
The U.S.’s withdrawal from the agreement will not only close some of the doors that the TPP was opening, but will likely also lead to an increase in China’s economic and political influence in the Southeast Asia region. Competing trade talks on a proposed Regional Comprehensive Economic Partnership (RCEP), which includes China but not the United States, are already taking place, and China seems likely to fast-track those negotiations. The RCEP would include 16 countries and cover 30 percent of the global economy. But unlike the TPP, the RCEP would not require companies in developing nations to adhere to stricter labor safety and environmental standards.
For U.S. carmakers, the net outcome of the collapse of the TPP is unclear. On one hand, Japan won a gradual elimination of tariffs on cars and car parts, so the TPP would likely have enabled Japanese automakers to increase their exports to the United States. On the other hand, American companies would have benefited from tariff reductions on the Malaysian and Vietnamese markets. The U.S. pharmaceutical sector had also voiced complaints about the deal.
President Trump’s decision to officially withdraw the United States from the TPP was to some extent symbolic: Putting an end to President Obama’s signature trade policy allowed Trump to deliver on one of his campaign promises.
However, the move away from the TPP has huge significance for global trade patterns going forward. It signals a shift in U.S. trade policy from multilateralism to bilateralism. The president has repeatedly said the United States will negotiate one-on-one with its trading partners to get better deals. Withdrawing from the TPP may be the first of many steps in that direction.
Scales Seem to Tip Against T-TIP
The Transatlantic Trade and Investment Partnership (T-TIP), yet another proposed trade deal—this one between the U.S. and the EU—looks unlikely to pass at this point. It faces opposition on both sides of the Atlantic. As Brexit indicates, the United States is not the only nation leaning toward a bilateral approach; Brexit reflects the U.K.’s intent to break away from a set of rules that govern multiple countries, in hopes of obtaining more favorable concessions via one-on-one negotiations.
Theresa May’s recent visit to the White House was demonstratively timed just as the U.S. and U.K. make similar pivots to bilateralism. Both shifts are attempts to reach out to a voter base that in some ways sees globalization and trade as the cause of domestic hardships and unemployment.
One thing that’s certain: Global trade policy will look very different in the coming years.
Bodhi Ganguli is the lead economist at Dun & Bradstreet, where he concentrates on country risk and contributes data-informed perspectives on global economics, trade, and financial flows. He received his Ph.D. in economics from Rutgers University and his bachelor's degree in economics from Presidency College, India. Follow him on Twitter @bodhigan.