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NAFTA has been grabbing the headlines in recent days. What’s up with that? And what’s this NAFTA thing anyway? Well, read on and find out.

NAFTA? What’s that?

For the newbies out there, the North American Free Trade Agreement (NAFTA) is, as a the name suggests, a trilateral agreement between the U.S., Mexico, and Canada to create a free trade zone.

The actual document is rather long (2,000 pages or so), but the most important provisions are the following:

  1. Chapter 3: NAFTA removes barriers to trade, mainly by eliminating tariffs between the three parties, but other non-tariff measures (e.g. customs user fees, import restrictions, etc.) are also included
  2. Chapter 4: NAFTA establishes rules of origin. In simpler terms, a product must be wholly or partially produced in one of the member states in order to be free of tariffs. If Mexico, for example, imports a car that’s made in China and whose parts all come from China, and Mexico then tries to export it to the U.S., then a tariff will be imposed on that car.
  3. Chapter 11: NAFTA requires that each party grant “Most-Favored-Nation Treatment” to investors of the other parties (i.e. parties can’t offer better deals to investors from non-member states)
  4. Chapter 17: NAFTA protects intellectual property rights, provided that those rights are not barriers to trade
  5. Chapter 20: NAFTA establishes formal processes for resolving disputes involving trade and investment

So why all the hubbub about NAFTA?

Well, the short of it is that Mexico and the U.S. were able to iron out their bilateral trade issues and reach a trade agreement on Monday, which means that Canada now gets to negotiate with the U.S., giving the Loonie a broad-based push.

Overlay of CAD Pairs: 1-Hour Chart
Overlay of CAD Pairs: 1-Hour Chart

As for some context, U.S. President Trump has been lambasting NAFTA for a long time. He even referred to NAFTA as “the worst trade deal maybe ever signed, anywhere” during his September 25, 2016 presidential debate with Hillary Clinton.

And when Trump finally won the presidency, he ordered that NAFTA be renegotiated to be more “fair”, as Trump puts it. However, negotiations dragged on and on without making any significant progress, so Trump said way back in June of this year that he would prefer to negotiate separately with Mexico and Canada.

And when NAFTA negotiations finally resumed in July, Canada was left out of the negotiating table.

But as mentioned earlier, Mexico and the U.S. have reached a compromise, which is significant progress in itself, but it also opens that way for Canada to return to the negotiating table.

In fact, Canadian Foreign Affairs Minister Chrystia Freeland already had a “constructive meeting” with the U.S. yesterday and is expected to resume trade talks later today.

What do we know about the deal?

First of all, there’s no formal “deal” yet since nothing has been signed so far.

Secondly, Trump doesn’t have the power to unilaterally change the privisions of NAFTA or terminate and replace NAFTA since that power is actually held by Congress.

And thirdly, U.S. Trade Representative Robert Lighthizer said that the White House will submit a letter to Congress this Friday (August 31) to start the process of formalizing a deal, adding that a formal deal “will likely be signed at the end of November.”

The earliest date we can get the official deets would therefore be on Friday.

However, we do have some ideas on the contents of the agreement since Lighthizer did drop some hints.

1. No “sunset” clause

The “sunset” clause refers to the U.S. demand that a trade deal must be renegotiated every five years, which Mexico and Canada found very unfavorable because of the uncertainty that would bring.

And according to Lighthizer, the U.S. has practically given up on the “sunset” clause since the new trade deal would last for 16 years, but will be up for review every six years and can be extended for another 16 years.

2. Provisions on autos

If you can remember, I mentioned earlier that NAFTA established rules of origin in order for goods to be duty-free.

In the case of autos, one of the provisions of NAFTA state that 62.5% of the value of a motor vehicle must be produced in one of the party states. Otherwise, tariffs will be levied.

Well, the U.S. originally wanted to raise the value to 85%, with 50% of that 85% coming directly from the U.S.

But according to Lighthizer, the U.S. has reached a compromise with Mexico by lowering the desired value to 75%. However, there was also an additional clause, namely that 40% to 45% of a vehicle’s value must be produced in areas that pay $16 an hour.

If we read between the lines, the desired provisions are meant to limit imports of car parts from non-party states (*cough* China and Japan *cough*) while also making it less attractive for U.S. car companies to move their manufacturing operations from the U.S. to Mexico.

Anything else we should know about?

Well, there are a couple.

1. Existing tariffs unresolved

When Lighthizer was asked if the agreement included terminating the existing tariffs on aluminum and steel, Lighthizer basically said “no” when he said the following:

“That’s the issue we still have to deal with. It’s not dealt with.”

2. Canada under pressure

Trump was practically telling Canada to play nice (or else) when he quipped back on Monday that (emphasis mine):

“[W]e’ll start negotiation [with Canada], and if they’d like to negotiate fairly, we’ll do that. You know, they have tariffs of almost 300 percent on some of our dairy products, and we can’t have that. We’re not going to stand for that.”

I think with Canada, frankly, the easiest thing we can do is to tariff their cars coming in. It’s a tremendous amount of money and it’s a very simple negotiation. It could end in one day and we take in a lot of money the following day.”

And there are already rumors flying about that Canada has capitulated on the dairy issue.

Anyhow, that’s all for now. And make sure to keep an eye and ear out for confirmation from Freeland. Also, Friday will likely be a big day, assuming the White House does start the process for formalizing a deal as planned.