Some thoughts on USMCA: Good as it Gets?

Last night’s just-before-deadline announcement that Canada and U.S. had reached a deal was met with a sigh of relief in many capitals but especially Ottawa. Reaching a deal on the two linked bilateral deals was definitely better than the alternative of no deal and related uncertainty for investors and certainty of a tough congressional approval process for a bilateral U.S. Mexico deal. It reduces the risk of a negative market outcome for one of the more integrated blocks, a fact that was largely priced in, but it is hard to see the deal as more than defensive.

In short, it seems to be a deal narrower in scope, one that was defensive (holding back on U.S. protectionism), raising the question about the deployment of political capital. Next up – legislative approval in the three countries (tricky in all, mostly in the U.S.) and dealing with the bigger issue/challenge – China. The outcomes for both congressional passage and a deal with China may both be harder than markets expect.

The good news is that it sets in motion more of that negotiating capital to be used on the bigger issues – combating Chinese policies – a priority that dominated the U.S. trade policy agenda in NYC, during the UNGA. The multilateral agreement between the U.S.- EU and Japan, as well as separate announcements of potential trade negotiations with the EU and Japan should be viewed in this vein. Completing the successor deal  to NAFTA (a tough to pronounce USMCA), allows for some greater coordination among OECD countries… and likely includes some details and draft text on issues like FX, SOEs and other FTAs we should expect to see in future deals with the U.S.

A bigger question is what lessons will be drawn around the combined negotiating tactics and strategy, which came down to the wire.  The success is mixed, with all sides maintaining some of the most important elements including dispute settlement and parts of supply management (Canada), tighter rules of origin (U.S.).  Had Canada signed up a few weeks ago it would not have maintained those concessions. Politically, in the U.S., it was important to have a deal before the midterms and the formal Mexican power shift to sell as a win – along with some of the other deals. This can definitely be sold as a success by the USG, though it definitely took a while and the U.S. yielded on some of the important measures. Expect those same political pressures to increase efforts to secure some “early harvest” quick wins from the EU and Japan – trends that may be almost as hard as some of the early harvest attempts with China last year.

Assuming it passes, it allows for focus to shift back to countering China and building a coalition to do so among developed economies (something that was partly deterred by the bitter negotiations with Canada). It may also limit (if not avoids) a bitter congressional approval process (from the Republican pro-trade side) as many members of congress were concerned about a solely U.S. Mexico deal. Now the bigger obstacle is likely to come from the Democrats, despite some support from Labor, raising interesting questions about where trade fits among the priorities of the next congress.

Many are asking whether there are any lessons for a potential  US approach will be bluster, hard lines and debate, and eventual agreement when the costs of no deal become too high. This suggests there may eventually be a deal with China, its unlikely to be  easy or long-lasting given the scale of issues and the bipartisan agreement of the need for new rules for China. There is not the same degree of business and congressional support for a deal with China as there is with NAFTA or indeed the EU. This argues against some grand bargain and suggests that there may be smaller deliverables.

Key catalysts include the US discussions with Japan and EU both bilaterally and trilaterally. That united front if it lasts will be very challenging to China, given the scale of the markets and might encourage greater Chinese willingness to negotiate or concede. On China, unlike the new NAFTA the US asks and demands still seem more opaque – mixed between market access, end to forced technology transfer, reduction in Chinese exports to US, cuts to overcapacity. Its harder to negotiate when its less clear what a good deal would look like. I think it might be a long road, with desire for some deliverables in the next month across all the main negotiations. I would expect to see the US going to all negotiating partners looking for “early harvest” deliverables to help on the campaign trail and in return to kick the auto tariffs down the road or replace them with very high quotas. That will likely be harder with China.

 

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