Canada: NAFTA Modernization: What Happens If The Negotiations Fail? Do You Have A "Plan B"?

In this international trade brief, we discuss the status of the North American Free Trade Agreement (NAFTA) renegotiations, whether President Trump has the authority to terminate NAFTA, and why your business should have a strategic  plan for the contingency of failed negotiations, which should include options for diversifying trade and investment, including taking advantage of Canada's new Comprehensive Economic and Trade Agreement (CETA) with the EU.

At the close of the fourth round of the NAFTA  renegotiations, which ended on October 17, Canadian and Mexican government officials rebuked the United States administration for its intransigence and for failing to strive for a modernized NAFTA.  

Canadian Foreign Affairs Minister Chrystia Freeland was quoted as saying that the  mindset of the U.S. negotiators was not to improve on NAFTA, but instead to "turn back the clock 23 years" in terms of progress: "a negotiation where one party takes a winner-takes-all approach is a negotiation that may find some difficulties in reaching a conclusion."1

This statement appears to have been in response to U.S. Commerce Secretary Wilbur Ross stating on television that the U.S. was "...asking two countries to give up some privileges that they have enjoyed for 22 years, and we're not in a position to offer anything in return, so that's a tough sell."2

The Mexican Economy Minister Ildefonso Guajardo also expressed concern and confirmed that Mexico could move on without NAFTA, if necessary. U.S. Trade Representative Robert Lighthizer has framed the Canadian and Mexican negotiating positions  as a "resistance to change."

A fifth round of negotiations is scheduled for November 17-21, 2017. Two further rounds of talks are expected in the first quarter of 2018, pushing the previously announced U.S. deadline for completing the negotiations past the end of 2017 to the first quarter of 2018. 

Poison pill proposals

Several U.S. proposals have been termed "poison pills" by its NAFTA partners, that eventually could derail the negotiations, and which certainly created conditions for a very difficult and contentious end to the fourth round and the postponement of the fifth round to mid-November.  These include:   

  • a "sunset clause" so that the renegotiated NAFTA will automatically expire in five years, unless it is reviewed and extended. This would embed a never-ending negotiation process within NAFTA. The continuing uncertainty around the longevity of  NAFTA would undermine long-term investment decisions, especially in Canada and Mexico;
  • eliminate the Chapter 19 binational dispute settlement process for review of anti-dumping and countervailing duty findings;
  • "opt in" application of Chapter 20 government-to-government dispute resolution concerning the interpretation and application of NAFTA;
  • reduce the ability of Canadian and Mexican businesses to participate in the U.S. government procurement market based on reciprocal monetary limits, instead of further liberalizing this sector;
  • impose a new 50% U.S. value content requirement for automotive goods and a significantly higher NAFTA content requirement of 85% (up from the current 60-62.5%, depending on the type of vehicle); and
  • in the case of Canada, a challenge to its continuation of supply managed system for dairy, poultry and eggs. 

Difficult timeline

President Trump's team is working against a challenging timeline. The "fast-track" Trade Promotion Authority (TPA) that enables the U.S. President to present a "take it or leave it" deal to Congress will expire on July 1, 2018. Assuming he is inclined to do so, the President will need to request Congress before April 1, 2018, to extend the TPA, and report on progress made in the negotiations. Commerce Secretary Ross has noted that "if we lose TPA, I don't think you'll ever see a deal done here."3

If the NAFTA renegotiations do conclude by the end of the first quarter of 2018, it would seem that the earliest an amended  agreement  could be signed is mid- 2018, due to procedures required under U.S. law. However, this timing will coincide with the Mexican election scheduled for July 1, 2018. The Mexican election campaigns have already included anti-NAFTA rhetoric, and a renegotiated NAFTA that places Mexico at a disadvantage may precipitate a change in the government in Mexico.

In addition, the U.S. mid-term elections will take place on November 6, 2018, thus complicating both the schedule for Congressional approval and the current composition of both the U.S Senate and the House of Representatives.

President's authority to terminate NAFTA

President Trump has frequently proclaimed that the way forward with NAFTA involves signifying an intention to terminate the deal. He has said "I happen to think that NAFTA will have to be terminated if we're going to make it good. Otherwise, I believe you can't negotiate a good deal."4  President Trump has admitted this strategy in private briefings with various Republican Senators, indicating that his threat to "tear up" NAFTA is a negotiating tactic that will ultimately result in a NAFTA acceptable for the U.S.

What will happen if the negotiations break down in the next few weeks, or if no deal is reached by the end of negotiations? Does President Trump have the authority to unilaterally terminate NAFTA?

Article 2205 of NAFTA allows a party to withdraw after giving at least six months' notice to the other parties. However, it is not entirely clear that the giving of notice by the current U.S. administration results in the termination of NAFTA as between the U.S. and the other parties to NAFTA. In addition, it is likely  the withdrawal and termination of all of the elements of NAFTA would have to comply with the withdrawing party's own laws. As the U.S. Congress implemented many of the provisions of NAFTA by specific legislation, to terminate these provisions it would appear necessary for Congress to repeal the legislative provisions.  

Conclusion

If the renegotiations do not result in an amended NAFTA, the current agreement will continue. However, the giving of notice of termination — even if Congress takes steps to preserve NAFTA — is likely to result in considerable uncertainty.

Prudent business planning suggests that steps should be taken now to assess the potential implications of a notice of termination from the U.S. administration. Businesses should be working towards a "Plan B" which takes into account scenarios including the possibility that the U.S. may take further steps beyond the giving of the notice to terminate. For example, other free trade agreements, including the Canada-EU CETA, could provide tariff-free inputs for the Canadian manufacturing sector that were previously sourced from the U.S.

Footnotes

1 Canada Warns NAFTA Talks Can't be 'Winner Take All', Bloomberg Politics, October 26, 2017

2 Ibid.

3 Ana Swanson, October 17, 2017, Nafta Talks' Extension May Make for Slow, Painful Demise, The New York Times.

4 Randall Lane, October 10, 2017, Inside Trump's Head: An Exclusive Interview With the President, And The Single Theory That Explains Everything, Forbes.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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