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NAFTA talks in crucial phase amid threat of devastating tariffs on Canadian auto sector

NAFTA talks in crucial phase amid threat of devastating tariffs on Canadian auto sector

Roughly 60 per cent of parts that go into Canadian cars are American made and Canada has said it will retaliate if the auto tariffs are applied, suggesting U.S. jobs could be in danger too

Naomi Powell – Financial Post
September 29, 2018

Talks to revamp the North American Free Trade Agreement are playing out under new urgency and a familiar, if heightened threat: that U.S. President Donald Trump will cut Canada off the deal and level devastating tariffs on its auto imports.

On the other side of the table, the U.S. is under its own pressure to bring the Canadians on board amid serious doubts that a two party pact will win the support of American lawmakers – or even satisfy key terms of the agreement.

Indeed, while US Trade Representative Robert Lighthizer’s notification to Congress in August left open the possibility that Canada would join later, it did not explain how the US and Mexico would satisfy the auto elements considered central to the deal without Canada– an omission that’s left analysts and industry stakeholders puzzled.

“The thinking was when this original deal was signed between the U.S. and Mexico at the end of August was that this was going to be a three party deal,” said Chad Bown, a senior fellow at the Peterson Institute for International Economics in Washington. “The amount of auto content was to be shared, coming from Canada, Mexico and the U.S. If you’re only going to have a two country deal, it would seem to me that all of that stuff would need to be written differently.”

There is a gigantic bogeyman in the room which is the 25 per cent tariff on Canadian auto imports

The centrepiece of the bilateral agreement Trump touted as “an incredible deal for both parties” is an overhaul of the auto chapter. The hard-won terms would raise thresholds on regional automotive content — the amount of parts and raw materials in a vehicle that must come from American or Mexican sources — to 75 per cent from the current 62.5 per cent in NAFTA. The deal also requires 40 to 45 per cent of production to be done by workers earning at least US$16 an hour.

In North America’s highly integrated automotive supply chain, Canada is a key source of raw materials and parts and a crucial location for assembly, supplying about US$17 billion worth of auto parts to the U.S. and $2.5 billion to Mexico, said Flavio Volpe, president of Canada’s Automotive Parts Manufacturers’ Association (APMA). Were Canada to be cut out of the deal, those parts would become non-compliant – meaning they wouldn’t count toward the rules of origin requirement in the bilateral deal.

What’s more, Canada’s smelters supply almost half of the aluminum consumed in the United States, a large proportion of which ends up in cars and trucks. Indeed, out of 2,520,000 tonnes of aluminum exported from Canada to the US in 2017, roughly 1,060,000 tonnes went into the transportation industry, including passenger cars, trucks, trailers, buses, recreational vehicles, according to data from the Aluminum Association of Canada. After decades of steep declines in smelting capacity, the U.S. produces just 700,000 tonnes of the metal – making that a tough gap to close.

“So you have a current supply of $20 billion in parts that won’t apply and the number one source of aluminum in North America that won’t apply because we are NAFTA non-compliant,” said Volpe. “So it’s actually impossible to meet the current NAFTA standard without all three countries.”

Also non-compliant under the new agreement would be the large volume of cars assembled in Canada – including models produced by Fiat Chrysler, General Motors, the Ford Motor Company and Honda, said Mary Lovely, a professor of economics at Syracuse University. Of the 2.2 million autos manufactured each year in Canada, about 1.8 million are shipped to the U.S. – all of them assembled in Ontario, according to a report from economists at Scotiabank.

And then there is the requirement that 40 to 45 per cent of production occur in high wage jurisdictions where workers are paid above $16 and hour.

“I really don’t think they can get there, especially on a labour value and core parts content without Canada being part of the deal,” said Kristin Dziczek, vice president of industry, labor and economics at the Center for Automotive Research in Michigan. “That labour content rule is the harder one to hit without Canada.”

It all suggests that if the U.S. really is going to forge ahead on its deal with Mexico alone, it may need to fundamentally re-imagine its terms.

U.S. Trade Representative Robert Lighthizer held off on plans to submit final text of the US-Mexico deal on Friday, but is still pushing to get it done by Oct.1, the latest date to start a procedure that would ensure the deal is signed by the outgoing Mexican administration. Current Mexican President Enrique Pena Nieto leaves office on Dec. 1. Mexico has reportedly agreed to a side letter in its agreement with the U.S., one that guarantee an exemption from the auto tariffs but would cap the amount of autos it can export annually. The US is widely expected to demand the same sort of letter from Canada.

Meantime, Trump has publicly upped the stakes with those tariff threats of 10 per cent on auto parts and 25 per cent on finished vehicles.

“But that’s part of the tactic, right?” said Lovely. “They are trying to threaten the Canadians into signing a deal that at this point the Canadians don’t want to sign and there is a gigantic bogeyman in the room which is the 25 per cent tariff on Canadian auto imports.”

U.S. President Donald Trump speaks on the telephone via speakerphone with Mexican President Enrique Pena Nieto to announce that the two countries had reached a preliminary trade agreement on Aug. 27. Win McNamee/Getty Images

U.S. President Donald Trump speaks on the telephone via speakerphone with Mexican President Enrique Pena Nieto to announce that the two countries had reached a preliminary trade agreement on Aug. 27.

(Trump) shown no inhibitions in imposing tariffs, even when they are harmful to the North American region

A tariff of the size Trump has floated would have a severe impact on Canada and especially Ontario, costing the province 160,000 jobs, causing GDP to stagnate and reducing long-run economic capacity, according to a report from TD Economics. It would hurt the United States too, boosting the price of cars by US $455 to $6,875 depending on the level of tariff or quota, where the vehicle was assembled, and whether the policy provides exemptions for automotive trade with Canada and Mexico, according to an analysis by the Center for Automotive Research.

But that doesn’t mean Trump won’t do it, says Bown.

“I think the big concern is he’s shown no inhibitions in imposing tariffs, even when they are harmful to the North American region’s competitiveness writ large,” he said. “He’s shown that he is willing to make decisions that are bad for American businesses, and I think people have reason to be worried he might do the same thing on automobiles coming in from Canada. To be clear though, that would be equally problematic for all the American parts companies in the upper Midwest, in Michigan and those kinds of states that supply the plants in Ontario with parts.”

Roughly 60 per cent of parts that go into Canadian cars are American made and Canada has said it will retaliate if the auto tariffs are applied, suggesting U.S. jobs could be in danger too.

At that point, some observers, including Volpe, believe U.S. lawmakers will step in to curb Trump’s power. Bown is less convinced, pointing out that Congress has yet to push back effectively against Trump’s tariffs on steel and aluminum.

“It’s election season and especially on the Republican side there isn’t a huge appetite to get into a giant fight with President Trump, especially given that he’s a very skilled politician and the people who have come out against him he goes after in not nice ways,” Bown said. “So it’s challenging. It doesn’t excuse it but it does explain it.”

“The feedback ripple effect would be really, really harmful but President Trump has done that kind of thing before so you can’t necessarily rely on economic logic to prevent that kind of policy decision,” he said.

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