Trilateral NAFTA Deal Reached But a Long Road Ahead

The trilateral deal announced by the US, Canada, and Mexico reduces but does not eliminate NAFTA uncertainty. The US midterm election poses some risk to the deal, as there could be less support for it in a Democratic-controlled House than a Republican-controlled one, and enactment in the US is unlikely until 2019. At that point, it is possible that the White House could announce the intent to withdraw from the existing NAFTA in order to pressure Congress to enact the replacement. The deal includes auto quotas in the event the US imposes a global auto tariff, which reinforces our view that the Administration might try the same approach in negotiations with the EU and Japan.

Our view is :

1. The agreement reduces, but does not eliminate, uncertainty regarding NAFTA. A detailed draft of the revised NAFTA, to be known as the US-Mexico-Canada Agreement, has been released and includes specifics on the agreement with Canada as well as previously unreleased US-Mexico details. Of greatest importance for financial markets is the reduced uncertainty that a trilateral agreement poses, particularly for Canada. While we had expected that Canada would ultimately enter the revised agreement, a failure to do so prior to the September 30 deadline could have led to procedural complications. Releasing the trilateral draft by the self-imposed soft deadline ensures that Congress considers a trilateral deal, rather than two bilaterals.

2. The parties now have 60 days to finalize the legal text and sign the agreement.Under US rules, this cannot occur before November 30, outgoing Mexican President Pena Nieto’s last day in office. Assuming the three parties sign on November 30, the US International Trade Commission (ITC) will have until March 15, 2019 to release its assessment of the agreement, a required step before Congress can approve it under the expedited Trade Promotion Authority (TPA) or “fast track” process. While the ITC assessment could be completed earlier, the TPA procedural requirements make it much more likely that the agreement will be considered later than January 3, 2019, when the midterm election result takes effect.

3. The midterm election poses some uncertainty for the trilateral deal. At the moment, Democrats look well-positioned to win the House of Representatives in the upcoming midterm election that takes place on November 6. A slim Democratic majority in the Senate is possible though less likely. A Democratic majority is likely to make USMCA approval more difficult, but we expect that the agreement would ultimately win the simple majorities needed in both chambers under the TPA process. Although Democratic leaders have often conditioned their support for prior trade agreements on stronger labor- and environment-related provisions, we would expect that some Democrats would support the revised NAFTA agreement in light of its more restrictive auto sector rules of origin, for example. To the extent there is not sufficient support for the just-released agreement, we would expect that some specific Democratic concerns might also be addressed through side-agreements that would not require wholesale revision to the deal.

4. If the legislative outlook worsens, NAFTA could face another bout of temporary uncertainty. Earlier this year, the White House was widely reported to be considering announcing its intent to withdraw from NAFTA as a means of exerting pressure on Congress to pass the deal. That did not happen, because the trilateral agreement was not reached at that point. If Democrats win a majority in either chamber, there is a clear chance that President Trump could announce the intent to withdraw from the existing NAFTA agreement in order to put pressure on Congress to approve the new USMCA.

5. The auto-related aspects of the agreement could foreshadow a broader Trump Administration strategy on auto tariffs. The US has negotiated side letters regarding treatment of auto imports from Canada and Mexico in the event the US imposes tariffs on auto imports . Under the agreement, each country would be able to export up to 2.6 million passenger vehicles (cars and SUVs) tariff-free in the event that the US imposes auto tariffs, which is well above the current level of exports to the US . There would be no limitation on light truck exports, and the limitation on tariff-free auto part exports is set at roughly double the current level. fs, the underlying auto-sector agreement looks as expected, with a 75% regional content requirement for assembled vehicles phased in over 5 years , as well as minimum regional content requirements related to the steel and aluminum used in production. As expected, the auto agreement also calls for 40% of the “labor value content” to consist of labor in a plant or facility with an average hourly wage of at least $16/hr.