Canada: U.S. National Security Tariffs On Autos: A Blow To Canada And NAFTA?

Last Updated: July 20 2018
Article by Clifford Sosnow and Peter E. Kirby

In March 2018, President Trump imposed a 25% tariff on steel imports and a 10% tariff on aluminum imports after directing Commerce Secretary, Wilbur Ross to investigate the national security impact of steel and aluminum imports into the U.S. The tariffs came into effect for Canada and Mexico on June 1, 2018. As serious as steel and aluminum tariffs are, especially for those directly affected by the tariffs, the threat of proposed Section 232 national security tariffs on Canadian automobiles and automobile parts creates serious concern for the automotive industry but also brings with it the threat of possible structural and lasting harm to Ontario's economy. This bulletin highlights the potential harm Section 232 tariffs could cause automobile companies and suppliers, as well as potential responses should such tariffs be imposed.

Section 232 Investigations: The Ground Rules for Claiming a National Security Threat From Imported Automobiles and Automobile Parts

Using the Section 232 national security power of the Trade Expansion Act of 1962 (19 U.S.C. 1862), the U.S. President is able to impose tariffs on imported goods without Congressional approval. Under Section 232, the Secretary of Commerce can conduct investigations on the effects of the importation of any article on the national security of the U.S. Within 270 days of initiation of the investigation, the Secretary must submit a report to the President providing recommendations on whether the importation of an article threatens to impair national security. The President has discretion to agree or disagree with these recommendations and, accordingly, can take measures to respond to the threat, such as "adjust[ing] the imports of the article and its derivatives".

Upon President Trump's request, Secretary Ross commenced an investigation on May 23, 2018 into whether imported automobiles and auto parts threaten U.S. national security. In an official statement, Secretary Ross said that automobile imports had been eroding the U.S. auto industry for decades and this investigation would determine "whether such imports are weakening our internal economy and may impair the national security". While the government has until February 2019 to complete this investigation, Secretary Ross has said that he expects it to be completed in July or August 2018, allowing for the imposition of tariffs before the U.S. mid-term elections, in November 2018.

Secretary Ross has stated that national security is a concern because declining domestic automobile and automotive parts production "threatens to weaken the internal economy of the United States, including by potentially reducing research, development, and jobs for skilled workers in connected vehicle systems, autonomous vehicles, fuel cells, electric motors and storage, advanced manufacturing processes, and other cutting-edge technologies." But a legitimate question is whether this is a tactic to pressure Canada and Mexico into making politically difficult NAFTA concessions including on automobile rules of origin. Indeed, Senior members of the U.S. administration, including the President, have made it clear that national security tariffs on Canadian steel and aluminum are intended to force Canada to make concessions in the ongoing NAFTA negotiations.

The Potential Significant Impact of National Security Automotive Tariffs on Canada

The North American automotive sector is highly integrated through a complex supply chain that has been built up over decades. If national security automotive tariffs on Canada and Mexico were to be set at 25%, the percentage that has been suggested by President Trump, automobile manufacturers would likely need to make drastic changes to their operations that would disrupt the current supply chain. Economic modelling suggests such tariffs would cause significant job losses in all three NAFTA countries. According to a report from Trade Partnership Worldwide, a 25% tariff would add approximately US$6,400 to the price of an imported US$30,000 car, and pressure Canadian and Mexican companies to relocate automotive plants to the U.S. A TD Economics Scenario Report predicts U.S. national security automobile tariffs would create a short recession in Canada and result in permanent damage to Canada's economic output. Automotive exports account for a quarter of the economic activity in Ontario where Canada's automotive sector is concentrated. In Ontario, the tariffs would mean reduced growth by up to 2% and a potential loss of 1 in 5 manufacturing jobs. While government support programs may mitigate some of the negative impacts, they would not fully buffer Canadian industry from the effects of such tariffs.

Canada's Response to National Security Tariffs: Retaliation and WTO Challenges?

Canada imposed retaliatory tariffs on C$16.6 billion worth of U.S. exports on July 1, 2018 in response to US imposed tariffs on steel aluminum, in a dollar for dollar retaliatory exchange. It is questionable whether Canada could impose dollar equivalent retaliatory tariffs on US imports of automobiles and automobile parts. In addition to the severe impact a U.S. 25% tariff would have on the Canadian economy, the highly integrated supply chains between Canada and the U.S. means that the tougher the Canadian tariff response is, the greater the likelihood that such response could harm the Canadian automotive industry and the Canadian economy.

What about a World Trade Organization (WTO) challenge? Canada, along with the European Union, Mexico, and other countries, has filed a WTO challenge to the Section 232 tariffs on steel and aluminum, arguing the tariffs violate WTO safeguard rules and other obligations. A WTO decision on the steel and aluminum tariffs will take several years. While WTO challenges are a legitimate response, any WTO challenge of Section 232 tariffs on the automotive sector would face a similar long delay before resolution.

Retaliatory tariffs and WTO challenges, while part of the legal toolbox of legitimate responses, may have limited short term beneficial impact on a suffering Canadian automotive industry and economy.

Responses to a Potentially Difficult Threat Environment

The next several months will be anxious times for the automotive industry as the threat of Section 232 tariffs on automobiles and automotive parts, combined with stalled NAFTA negotiations, generate a level of uncertainty and unpredictability that makes long term planning extremely difficult. In the wake of this uncertainty, Canadian automobile companies and suppliers are examining Plan B and even Plan C options: These include a concerted effort to identify alternative sources of inputs, suppliers and markets. While not without concern, the two most promising options for exploring other markets in the face of Section 232 tariffs are the recently implemented Comprehensive Economic and Trade Agreement (CETA) with Europe and the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) that is being ratified by Canada, Japan and the other signatories, which is the legal step each of the CPTPP participants must take before the CPTPP comes into force. While neither the CETA nor the CPTPP will provide immediate relief to a sector that is so deeply integrated in the North American market, prudent responses include a serious analysis of the opportunities offered by these important agreements.

In North America, the automotive industry no doubt is aware that the reasons Secretary Ross has given to justify a national security investigation into the automotive sector - maintaining manufacturing jobs in the US and loss of market share for automotive R&D dollars - are the issues NAFTA parties have been negotiating in trying to reach agreement on NAFTA automobile rules of origin content rules. Automotive tariff retaliation between the NAFTA parties makes reaching a NAFTA agreement that much more difficult, however understandable or justified the response to Section 232 tariffs. Considering that the alternative to failed NAFTA negotiations may be automotive tariff walls that cause permanent harm to the Canadian (and US) automobile industry, the Canadian government is under deep pressure to do all that it must and can to unlock the NAFTA negotiations and secure an agreement.

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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