by Emma Dahl

Associate Program Analyst |

The U.S.-Mexico Canada Agreement (USMCA), or as Justin Trudeau calls it, New NAFTA, is the new trade deal that has replaced the North American Free Trade Agreement (NAFTA). NAFTA was implemented January 1 1994 with the goal of utilizing comparative advantages between Canada, the US, and Mexico. By lowering (and in some cases eliminating) tariffs between the three countries, the agreement made it easier for Mexico to manufacture goods that are primarily consumed in the U.S. and Canada like electronics and cars. It also reduced friction when trading between the U.S. and Canada.

NAFTA: good or bad?

While NAFTA did take advantage of Mexico’s ability to manufacture on the cheap, this also led to a decrease in manufacturing in the US. The U.S. is a service- based economy and most of our manufacturing isn’t competitive on an international level because high wages inflate the cost of production. Pre-NAFTA, we were producing more of our own goods because high tariffs increased the cost of manufacturing abroad. Although in the short run, trade deals like NAFTA mean a loss of manufacturing jobs in the U.S., in the long run, it allows countries to focus on producing goods and services that turn the highest profit.

Although NAFTA substantially expanded the manufacturing sector in Mexico, this expansion came at a price. The removal of tariffs made it cheaper to import heavily subsidized US agricultural products and tanked the farming sector in Mexico. It also led to serious human rights issues in Mexican manufacturing facilities that were not taken seriously by either management at these factories or by US manufacturers who had exported their facilities to Mexico. Wise and Cypher even suggested that NAFTA had the underlying goal of acquiring cheap, poorly trained labor . NAFTA also led to a drop in Mexico’s real GDP and a devaluation of the peso, in part because export-based manufacturing doesn’t create sustainable economic growth in a country. Most of the benefits of NAFTA were absorbed by management in manufacturing companies and by U.S. consumers that got lower prices on goods manufactured in Mexico.

USMCA: what changed?

One of the biggest changes that USMCA made was a broad increase in wages of auto workers. The agreement states that at least 40% of auto manufacturing that happens in the three countries must happen in factories that pay their workers at least $16 per hour. This wage increase is substantial given that the average wage of Mexican auto workers is currently $3.14 per hour. If companies do not pay this much, they face a 2.5% tariff to import the cars into the U.S. It will likely be less expensive for manufacturers to simply pay the tariff than increase wages fivefold.

The main advantage of using Mexico to manufacture is the low labor costs, and the deal eliminates this comparative advantage and passes the increased wage cost onto consumers. Instead of this working to bring manufacturing back to the U.S., in the long run it may be more cost-efficient for manufacturers to simply export manufacturing to another country (most likely in Central America or Asia) that has low labor costs. USMCA also increased requirements for percent of components manufactured in USMCA countries from 62.5% to 75%.

Another change made by the USMCA was a narrow opening of the previously impenetrable Canadian dairy market. After permitting a small quota of dairy products in, Canada previously imposed tariffs of anywhere from 241% for milk to nearly 300% for butter. The function of these tariffs was primarily to protect Canadian producers from U.S. prices that were highly competitive. Similar to the farming situation in Mexico, U.S. subsidies on agriculture lower the price of goods to the point where producers in other countries can’t compete. The new USMCA now allows U.S. dairy farmers up to 3.6% of the Canadian market, which is still only a very small fraction of the total dairy market, especially when considering the relative size of the
U.S. market.

While the USMCA applies to a wider range of products than just the dairy and auto industries, these industries illustrate both the benefits and downsides of trade deals. While on the net, trade deals encourage efficiency and specialization, it also impacts businesses in the short run that were only competitively priced when tariffs kept imported goods more expensive. Overall, the USMCA made a few changes to NAFTA that might create a slight advantage or disadvantage to each of the countries involved, but isn’t fundamentally different.