As the North American Free Trade Agreement (NAFTA) celebrates its 20th birthday, Eleanor Wragg takes a look at the effect it has had on its partner countries, and what lies ahead for further economic integration.
On January 1, 1994, the trilateral North American Free Trade Agreement (NAFTA) came into force, integrating the developed economies of Canada and the United States with the emerging market of Mexico and breaking down barriers between exporters, suppliers and manufacturers. NAFTA created the world’s largest free trade area, home to 450 million people producing US$17tn-worth of goods and services. It also promised job creation, a boost in trade and deeper regional economic integration. 20 years on, what’s next for North American trade, and did NAFTA make a difference?
At first glance, the numbers seem to indicate that it did. In the two decades NAFTA has been in force, trilateral trade within the North American region has climbed to US$1.1tn from US$289bn – an increase of almost four times.
The area’s combined GDP is now US$19.2tn, up from US$7.6tn pre-NAFTA, and US exports to its NAFTA partners are up 271% from 1993. Mexico’s economy has diversified from commodities to an array of manufactured products, making it one of the world’s biggest exporters, and entire regions have been transformed, such as Guadalajara, which has become a manufacturing hub for the information technology industry. Investment has also seen an upward trend: US FDI in its NAFTA partners reached US$452.5bn in 2012, up 7.1% from the previous year.
On the other hand, the same period of time has seen a fall in US manufacturing employment. In addition, 2 million farm workers in Mexico have lost their jobs, and the country, which once spent US$1.8bn dollars on food imports, now spends US$24bn. What has been the real effect of NAFTA, and how much of both the ups and downs in the North American countries’ economies can be attributed to the trade deal?
MANAGING THE HYPE
“Both the positive effects and the negative effects of free trade accords are greatly exaggerated,” says Nariman Behravesh, chief economist at IHS and author of Spin-Free Economics. “Jobs were created; there is no question about it. Companies that took advantage of NAFTA on both the US side of the border and the Mexican side benefited. [Former US presidential candidate and industrialist] Ross Perot’s predicted ‘giant sucking sound’ as US jobs drained south simply didn’t happen.” He goes on to point out that the 1990s were one of the most prosperous decades in the US, and would have been with or without NAFTA. “If you look at the macroeconomic impacts of the pact, they are there but they are small. NAFTA helped. It helped Mexico. It helped the US. But not in huge ways.”
The 1990s saw an explosion in trade liberalisation. As well as NAFTA, the Maastricht Treaty brought in the European Single Market and the Marrakech Agreement established the World Trade Organisation. “At that time, I was running a portfolio of accounts in Los Angeles that had a lot of trade,” recalls Chris Lewis, head of Wells Fargo’s international trade services group. “What these deals did for me and everybody else in the business at that time was give us a lot of hope that trade was really going to take off, and that is exactly what happened and the way it has been for the last 20 years.”
NAFTA reduced investors’ risk by guaranteeing them the same legal rights as local investors. It also allowed companies to stitch together supply chains across the North American continent. Just one example is that of US industrial giant Caterpillar, which produces dozer blades for its track-type tractors in Monterrey, Mexico, sends them 1,500 miles north to East Peoria, Illinois, where American workers build the tractors, and then exports them to Canada. Another one is Bombardier, whose new Learjet is a poster child for NAFTA: its Mexican-made hull is finished in Kansas, where it is fitted with Canadian-made engines. Rather than the idea of Mexican maquiladoras exporting cheap goods to the US, the reality of NAFTA today is that goods and services ping-pong back and forth across NAFTA countries’ borders in vast quantities. According to a Brookings analysis, in 2011, the latest year for which goods
and services trade data are both available, the United States exchanged nearly US$1.2tn-worth of goods and services with Canada and Mexico – the same amount as it traded with Japan, Korea, Brazil, Russia, India, China and South Africa put together.
But these new, pan-North American, supply chains have meant the relocation of production to where it is cheapest: in many cases, Mexico. According to a 2011 Economy Policy Institute briefing paper, US trade deficits with Mexico as of 2010 displaced production that could have supported 682,900 US jobs, a net figure which takes into account the additional jobs created by exports to Mexico. Critics of NAFTA point to Detroit, which has been hollowed out by the loss of its blue collar jobs as a result of the trade pact opening up profit-making opportunities south of the border, where per-hour wages are lower. In 1994, Michigan, the US state where Detroit is located, had 288,700 people working in car manufacturing. Today, Bureau of Labor Statistics data shows that this number has dropped to just 150,500.
“Trade helps most people but hurts some,” says Behravesh. “Certainly trade between a developed country in the case of the US and a developing market such as Mexico hurts unskilled workers because they are the ones competing for these low-skilled jobs, but it tends to help the economy as a whole.” And while there have undoubtedly been shifts in Mexico’s labour landscape, a 2010 Congressional Research Service report said that: “Most studies after NAFTA have found that the effects on the Mexican economy tended to be modest at most.”
On a macroeconomic level, thebalance seems to tip in favour of NAFTA. Indeed, in a recent paper entitled NAFTA at 20: Misleading Charges and Positive Achievements, economist Gary Clyde Hufbauer of the Peterson Institute for International Economics said that “as a rough rule of thumb, for advanced nations, like Canada and the United States, an agreement that promotes an additional US$1bn of two-way trade increases GDP by US$200mn.
For an emerging country, like Mexico, the payoff ratio is higher: An additional US$1bn of two-way trade probably increases GDP by US$500mn.” Based on this, he estimates that the US is US$127bn richer each year thanks to this ‘extra’ trade growth, Canada US$50bn richer, and Mexico US$170bn richer.
THE EFFECT ON TRADE
What does this growth in trade – and growth in trade facilitation – mean for financing trade between nations? “All the way up through the 1980s it was still a tough go if you were buying and selling overseas,” says Wells Fargo’s Lewis. “Things were done in a very formalised, restricted sort of way. From a banking perspective, we used lots of letters of credit to support trade transactions.
Over the last 20 years, the use of letters of credit has come down considerably and I put that down to treaties such as NAFTA where counterparties started to become more comfortable with each other because they were basically operating in the same economic zone.”
The US already has 20 active free trade agreements in place: the FTA with Israel in 1985 and the pact with Canada in 1989 are the only two that pre-date NAFTA. But the focus now is on large free trade zones, such as the Trans-Pacific Partnership (TPP), which will link NAFTA’s economies to nine others, forming a trade corridor encompassing Asia and the Americas. Could this be another step along the road to global free trade? If the current status of WTO talks is anything to go by, the answer is a resounding no as tit-for-tat spats and deadlocks over tariffs and subsidies have ground negotiations to a halt.
“What has happened with the WTO since the Doha round in 2001?” asks Lewis. “Nothing. It is very difficult to get a number of the participants to move off of certain points that they’re sticking to. It is becoming apparent that making the WTO into a real global proposition, like a United Nations of trade, is more problematic than people may have imagined back in 2001. That is why we are seeing the TPP being tabled.” Rather than make an attempt at an all-encompassing worldwide free trade zone, free trade proponents are instead trying to get things done amongst a few countries to keep the momentum going. There are positive signs coming out of
not just the TPP but also the Transatlantic Trade and Investment Partnership (TTIP) currently being negotiated between the US and the EU. “Trade overall is a good thing for the global economy and people in general in terms of bringing them out of poverty,
so I am all for more of it,” says Lewis.
While these successors to NAFTA are yet to be finalised, one NAFTA partner has taken important steps towards boosting the benefits of the trade deal. In what can only be described as sweeping reforms, Mexico’s government has thrown open the country’s energy sector to private investment, improved the rule of law and further reformed the telecommunications sector – all good news for foreign investors. “Mexico wasn’t really taking advantage of NAFTA previously in terms of doing some of the privatisation and some of the reforms that were needed, but the current government is doing this, so all of a sudden Mexico has a lot to gain,” says Behravesh. He highlights that in order to truly make the most of free trade agreements, countries have to allow the free market to work by opening up their economies.
After 20 years of NAFTA, one thing is clear. As the trend towards freer, more open trade increases, treaties have to make doing business easier in order to work. “Whether that’s addressing onerous customs requirements or whatever it might be, trade deals have to make it as easy as if you’re doing business in your own familiar location. That is ultimately what I would like to see and what a lot of others would like to see by the conclusion of any of these treaties,” says Lewis.