Analysis: NAFTA Is Dead — Act Accordingly

“’Tis he who fight and run away. Live to fight another day.”

Lyric from song “The Heathen”

Bob Marley, TIME magazine’s most influential artist of the second half of the 20th century

The North American Free Trade Agreement (NAFTA) is dead. Unreasonable demands by U.S. trade negotiators, obviously at the behest of President Donald Trump, recently put the final nails in its coffin. The Trudeau government now has a choice. It can accept this reality and make the best of a bad situation or it can fight the inevitable and risk a Trump trade tantrum. The latter would likely have a far greater negative impact on the Canadian economy, and our oil and gas industry as well.

President Trump has made it abundantly clear that he wants to ‘tear up’ the NAFTA treaty with Canada and Mexico, on the campaign trail and since its renegotiations began on August 16. But Canadians and Mexicans should not take his NAFTA stance too personally, as there are numerous international treaties, agreements and organizations that he does not seem to like.

Since being inaugurated president on January 20, Trump has implemented U.S. withdrawal from the Trans Pacific Partnership and UNESCO, and decertified the Iran nuclear deal despite the International Atomic Energy Agency and all other parties to the 2015 Joint Comprehensive Plan of Action claiming Iran to be in compliance. President Trump does not like to let facts get in the way of his ‘America first’ agenda.

On October 17, the chief negotiators for Canada and the U.S. traded barbs at the joint news conference in Arlington, Virginia at the end of the fourth round of the NAFTA renegotiation. Canadian Foreign Affairs Minister Chrystia Freeland accused the U.S. of deliberately attempting to undermine NAFTA by adding a number of ‘unconventional’ proposals over the last two rounds of talks. “In some cases, these proposals run counter to World Trade Organization rules,” Freeland said. In response, U.S. Trade Representative Robert Lighthizer said: "Frankly, I am surprised and disappointed by the resistance to change from our negotiating partners on both fronts.”

But according to one non-U.S. official at the talks, Lighthizer and his team have been ‘sheepish’ in presenting their more extreme trade proposals, and they say, “We don't have any flexibility on this." These proposals include: a sunset clause that could end NAFTA after five years; an end to the binational trade dispute mechanism; the dismantling of the quota system for Canadian dairy; a requirement of at least 50 per cent U.S. content for automobiles produced in North America; and strict Buy American rules for the U.S. government.

The cost of a straightforward collapse of NAFTA would be substantial for Canada, but not catastrophic. Based on a preliminary estimate by Dan Ciuriak, now associated with the C.D. Howe Institute, an end to the trade pact would ultimately slice 2.5 per cent from the country’s economy, with the initial shock possibly worse presumably due to disruptions to integrated North American supply chains.

On the relatively bright side for a rather perverse reason, natural resources have become an increasingly large part of Canadian exports since the turn of the century, while Canada tends to be the preferred supplier for such products into the U.S. given our transportation cost advantage — NAFTA or no NAFTA. According to The Conference Board of Canada, the average value of Canadian exports declined from $964 per tonne in 2001 to just over $800 per tonne in 2012 (adjusted for inflation), reflecting a relatively large increase in the export of bulk commodities.

In contrast, if the Trudeau government decides to fight back it could lead to a messy NAFTA divorce, substantially increasing the cost to Canada if notoriously vindictive President Trump decides to punish us with additional tariffs, quotas and other trade barriers.

Prior to the NAFTA renegotiation, Derek Burney, one of Prime Minister Justin Trudeau’s key trade advisors — harkening back to an age prior to the U.S. Shale Revolution — said that Canada was willing to use our oil and gas exports to the U.S. as a ‘trump card’ if the Trump administration plays hardball. The end result of such an approach would likely be a big bullseye on our oil and gas industry, at a minimum, since there is a huge difference between hardball and no ball.

Instead, the Trudeau government should take this ‘opportunity’ to further deepen U.S.-Canada energy relations. U.S. Energy Secretary Rick Perry made it abundantly clear in the months prior to the start of the NAFTA renegotiation that he would like Canada and Mexico to forge a North American energy strategy with his country. Mexico is becoming an increasingly important market for U.S. natural gas and petroleum products, but Mexican Economy Minister Ildefonso Guajardo has indicated that his country’s ‘Plan B’ would intentionally avoid importing American goods in retaliation for a NAFTA collapse.

In this case, Canada could easily appear the good neighbour while serving our own interests by ‘guaranteeing’ the export of our oil and gas to the U.S. market. The Trudeau government could even offer to do so on a proportional basis in case of emergency — in line with NAFTA’s current ‘proportionality clause’ – in return for a guarantee to not tax or otherwise impede our energy exports, including electricity.

Besides encouraging the Trudeau government to deepen our energy relationship with the U.S., and to not use oil and gas as a bargaining chip, the Alberta government should do all in its power to push TransCanada’s Keystone XL pipeline forward as quickly as possible in an attempt to keep the project from being caught in NAFTA or post-NAFTA crossfire.

Both the federal and Alberta governments strolled into the NAFTA renegotiation with a great deal of naivety. Prime Minister Trudeau regularly referred to it as a ‘modernization.’ Yes, there are aspects of modernization included in the negotiations, such as a new chapter on digital economy, but mostly the renegotiation has been a case of President Trump taking Canada and Mexico to the woodshed to advance his ‘America first’ agenda.

At the start of the NAFTA talks Alberta Minister of Economic Development and Trade Deron Bilous said that Canada's oil and gas industry has nothing to worry about because U.S. lawmakers understand the importance of an integrated energy market. He may be right, unless the Trudeau government gets it wrong again, and President Trump decides to retaliate.

To conclude, it is best the Canadian government minimizes the negative impact of a NAFTA collapse today, and wait to rebuild trade relations with President Trump’s successor tomorrow.

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