This month, the United States-Mexico-Canada Agreement, the successor to the North American Free Trade Agreement, took effect. We feel that this trade pact is highly problematic.
The new deal raises the threshold for eliminating automobile tariffs and aims to increase procurement of U.S.-made parts. It also includes a quantitative restriction on auto exports to the U.S. as well as a provision that blocks currency devaluation by trading partners.
Furthermore, one clause essentially makes it difficult for Canada and Mexico to sign a bilateral trade agreement with China. The protectionist elements scattered throughout the document are hard to miss.
The Trump administration viewed the 1994 NAFTA as unfair and -- under the threat of higher auto tariffs -- negotiated and won terms that are more favorable to the U.S.
The worst-case scenario would have been the collapse of a free-trade regime in North America. While that has been avoided, the USMCA is bound to have a huge impact on the auto supply chain.
To avoid tariffs, over 40% of a car's parts must be made in areas where workers are paid at least $16 an hour. Clearly, the rules are designed to encourage production in the U.S., where wages are higher.
Until now, only 62.5% of the parts had to be made within the region to qualify for tariff exemptions. The deal calls for this figure to be raised to 75%. Automakers are scrambling to chose between moving production to the U.S. or raising wages in Mexico.
Toyota Motor, which just began producing pickup trucks at its new plant in Mexico in February, faces a dilemma. Unless it meets the requirements, its popular pickups will be slapped with a 25% levy. But to reap the returns on its investment, it has no choice but to use the Mexico plant.
Whether the Trump administration will succeed in convincing companies to move production to the U.S. is unclear. Keihin, a Honda Motor-affiliated parts maker, has decided to raise the hourly wages in Mexico to triple the average rate of a typical local parts factory, which is still cheaper than moving across the border.
South Korea's Hyundai Motor and group company Kia Motors will request Washington to defer the execution of the USMCA, according to the JoongAng Ilbo newspaper. They will present a plan to implement the requirements within five years.
The Trump administration should at least be flexible in implementing the new agreement. Forcing automakers to immediately adjust to these strict -- and, frankly, rushed -- new rules will only lead to confusion. There is a significant risk that more cars will be burdened with levies and American customers will end up paying more.
All of this comes amid the coronavirus crisis. Automakers have already been battered by a slowdown in sales. They should not be forced to face further difficulties at this time.
The clause that essentially prevents Canada and Mexico from signing a free trade agreement with China is likely aimed at preventing the two partners from becoming a detour route for sending goods into America. Nevertheless, this arrangement is troubling in that it infringes on another country's right to decide its own future trade policy.
The Trump administration's self-centered policies are not restricted to the USMCA. It could also seek similar numerical targets for Japan or the European Union.
Recklessly using these measures is not wise. Although it may appear effective in the short run, overmanagement of trade will distort the global economy, hamper smooth functioning of the market, push up costs and eventually haunt the U.S. itself.
