What Happens If Trump Dumps NAFTA?

Would It Bring Back Jobs?

Donald Trump near Mexico
Donald Trump listens as Laredo City Manager Jesus Olivares, center, and Laredo mayor, Pete Saenz, right, talks to the media along the U.S. Mexico border during his trip to the border on July 23, 2015 in Laredo, Texas. Photo by Matthew Busch/Getty Images

On April 26, 2017, President Donald Trump signaled that he may sign an executive order to withdraw from NAFTA. The North American Free Trade Agreement is the world's largest agreement. It eliminated tariffs between the United States, Canada and Mexico. For more on the agreement, see NAFTA Fast Facts.

The move comes a day after the U.S. Commerce Department announced it wants to impose a 20 percent tariff on Canadian lumber imports.

It's accused western Canadian provinces of subsidizing lumber so much that it's dumped into the American market, undercutting U.S. companies. 

In his first 100 days, Trump promised to get a better deal for U.S. workers. He signed an executive order on January 23, 2017 to renegotiate NAFTA. He assigned the negotiations to his team of appointees. That includes Commerce Secretary Wilbur Ross and the head of the newly-formed White House Trade Council, Peter Navarro. U.S. Trade Representative Robert Lighthizer has yet to be confirmed by the U.S. Senate. (Source: "Trump Orders Imminent to Renegotiate NAFTA, Back Out of TPP," CNN Politico, January 23, 2017.)

Trump has met with Canada's Prime Minister Justin Trudeau, but not with Mexico's President Enrique Pena Nieto. Canada announced it might be interested in a bilateral agreement without Mexico, instead of NAFTA. President Nieto canceled a meeting with President Trump scheduled for January 31, 2017.

Trump had tweeted that there was no reason for the meeting if Nieto was not willing to pay for the border wall. Nieto also promised to match any increase in U.S. import tariffs with equivalent Mexican tariffs. (Source: "Canada Signals Possible U.S. Trade Deal That Excludes Mexico," Bloomberg, January 23, 2017.)

If they don't agree to renegotiate, Trump threatened to withdraw the United States from NAFTA. That would reinstate the tariffs on trade between the United States, Canada and Mexico. Prior to NAFTA, Mexican tariffs on U.S. imports were 250 percent higher than U.S. tariffs on Mexican imports. Trump also threatened to impose a 35 percent tariff on Mexican imports. By law, he can only raise tariffs by 15 percent for 150 days without congressional approval. For more, see History of NAFTA.

What Changes Would Trump Make to NAFTA?

First, Trump would require Mexico to end its value-added tax on U.S. companies. Trump claims that the VAT acts as a tax on U.S. exports to Mexico. A VAT tax is like a federal sales tax that's imposed on all companies in the supply chain. 

Mexico charges a 16 percent VAT tax on all business sales, whether it's to other firms or the consumer. When companies export the finished product to the United States, Mexico rebates the VAT tax. But U.S. companies that export to Mexico must pay the VAT tax. Trump says that encourages U.S. companies to build factories in Mexico to receive the rebate and avoid the tax. (Sources: "How Does a Value-Added Tax Work, Anyway?" The Atlantic, March 1, 2010.

"Trump's Incredibly Misleading Claim on Mexico," CNN Money, September 28, 2016.)

Second, Trump would ask Mexico to end the maquiladora program. This program allows U.S. companies to set up low-cost factories across the border in Mexico to assemble finished products. They then export the goods back to the United States. As a result, maquiladoras became responsible for 65 percent of Mexico's exports and employ 30 percent of the workforce. That undercut American workers and sent jobs to Mexico. NAFTA expanded the maquiladora program by ending tariffs. (Source: "Lessons of NAFTA," Worldpress.org, April 20, 2001. "The Benefits of Setting Up a Maquiladora in Mexico," The Offshore Group.)

A March 30, 2017 draft NAFTA proposal obtained by the Wall Street Journal did not include those two changes. Instead, it focused on allowing "snapback" tariffs if a domestic industry was damaged by imports.

But some experts claim those provisions are already in NAFTA. The proposal adds stronger protection of digital trade and intellectual property. It also required state-owned companies, such as Mexico's Pemex, to operate more like private corporations. (Source: "Trump Administration Signals It Would Seek Mostly Modest Changes to NAFTA," The Wall Street Journal, March 30, 2017.)

Would Mexico and Canada Agree to Renegotiate?

Mexico could be willing to renegotiate NAFTA. First, it wants the United States to allow Mexican trucks on U.S. roads. That was promised in the first NAFTA agreement but withdrawn by Congress.

Second, Mexico is in much better economic shape now than in 1992. That puts the country in a better negotiating position. For that reason, a new agreement could be worse for the United States. See NAFTA Purpose and History.

On the other hand, 80 percent of Mexico's exports go to the United States. U.S. tariffs on these exports would be very damaging to Mexico's economy. (Source: "Trump: NAFTA Trade Deal a Disaster," Associated Press, September 25, 2015.)

Three-fourths of Canada's exports go to the United States. But Canada knows it’s protected by a free trade agreement with the United States it had before NAFTA. On the other hand, Canada's economy is struggling. The threat of losing NAFTA could be damaging in and of itself.

Could Trump End NAFTA?

Trump must submit a notice under Article 2205 of the NAFTA agreement 90 days before withdrawal.  He may not need congressional approval to do this. Some experts refer to Section 125 of the Trade Act of 1974. It states that the president has the power to unilaterally withdraw from all trade agreements. Others refer to NAFTA's Implementation Act. They argue that, since Congress approved NAFTA, only it has the authority to withdraw. It's uncharted legal territory.

Even if the United States did withdraw from NAFTA, the other two parties could retain the agreement. But most likely it would kick off renegotiations between the three countries. (Sources: "How Easily Can Trump Withdraw From NAFTA?" The Atlantic, April 26, 2017. "Trump Says He Will Renegotiate or Withdraw From NAFTA," The Hill, June 26, 2016.)

How Would It Affect the Economy?

NAFTA quadrupled trade to $1.15 trillion, as of 2015. It increased U.S. growth by 0.5 percent each year. That created five million new U.S. jobs, including 800,000 manufacturing positions. Canada and Mexico invested $240.2 billion in the United States, while U.S. companies invested $452 billion in those countries.

The United States imports $294.7 billion from Mexico. That's almost as much as it imports from China. Any trade change would threaten the flow and price of these imports. They include oil, manufactured products, fruits, vegetables, coffee and cotton. For more, see U.S. Imports by Year by Country

Without NAFTA, Mexico and Canada would probably return to most-favored-nation trade status. Canada and the United States would probably reinstate their bilateral trade agreement. Exports from those countries would be assessed standard tariffs. At that point, importers would probably sue the U.S. government for making their costs higher overnight. (Source: "Yes, President Trump Could Kill NAFTA--But It Wouldn't Be Pretty," CNN Money, July 16, 2016.)

In the short-run, tariffs would benefit U.S. oil companies by raising prices on imported Mexican oil. They would also benefit U.S. farmers. They might restore the 500,000 - 750,000 manufacturing jobs lost in California, New York, Michigan and Texas. For more, see NAFTA Pros and Cons.

On the other hand, tariffs would raise the price of imports for American consumers. That might increase inflation.

Exports to both Mexico and Canada would decrease. Mexico would revert to the high tariffs it had before NAFTA. Mexico is the top export destination for U.S.-grown beef, rice, soybean meal, corn sweeteners, apples and beans. It is the second-largest export destination for corn, soybeans and oils.

In the long run, Trump's protectionism could ignite a backlash in Canada and Mexico. They might raise tariffs on U.S. exports. That would hurt U.S. farmers and other companies that export to our neighbors. For more, see U.S. Exports.

One reason U.S. growth hasn't been better since the recession is that international trade hasn't rebounded. Tariffs and a trade war could hurt American jobs in the long run. (Sources: "Trump's Trade Policy Is a Big Loser," USNews, April 19, 2016. "So What Exactly Is Donald Trump's Economic Policy?" CNN Money.)

Every trade agreement helps some people while hurting others. NAFTA hurt workers in industries that moved jobs to Mexico. On the other hand, it helped those manufacturers compete in the global marketplace. It also helped consumers who saw the price of groceries and oil drop. Even if Trump renegotiates NAFTA, it doesn't guarantee those jobs will return to those workers. Instead, those companies could go out of business. Trump must work with industry lobbyists who want NAFTA to remain.

Trump may convince Mexico to curb its VAT tax. He might also tweak the maquiladora program. But it's unlikely that either outcome will create new jobs for Trump's supporters.

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