The fledgling Trump Administration sowed confusion and alarm in its first week with a series of Presidential and staff statements involving trade with Mexico. First, the President signed an Executive Order directing construction of a wall along the United States’ border with Mexico (although Congress would need to approve and fund any such project). Second, a few days later, the President reiterated his campaign pledge that Mexico would pay for the wall, causing Mexican President Pena Nieto to cancel a planned visit to Washington to discuss trade issues.

Following the cancellation, Administration spokespersons indicated that the President was considering imposition of a 20% tariff on all goods imported from Mexico, with a goal of funding construction of the border wall. Later, this morphed into a proposal to levy a 20% tariff on all imports, before Press Secretary Sean Spicer “walked back” this talk, suggesting that the 20% levy was but one of the options the Administration was considering.

Combined with the President’s repeated demands for renegotiation of the North American Free Trade Agreement (NAFTA) – with one Presidential adviser claiming that Canada has nothing to fear from the renegotiation – the new Administration’s first week in office left many dazed and confused about what might be in store for U.S. – Mexico economic relations under the Trump Administration. This was further complicated by the Administration’s conflating of the border wall, posited as an immigration issue, and the tariff financing regime, claimed to be justified by the $50 billion annual merchandise trade deficit between the countries.

This Memorandum briefly describes the remedies available to the President to address U.S. – Mexico trade issues. While it also offers an assessment of the likelihood that these powers will be used, the quixotic, shoot-from-the-cuff style the Trump Administration has thus far exhibited makes predictions a tricky matter.

 

Can the President Proclaim Increased Tariffs on Mexican Goods?

While tariff-setting and regulation of international trade is Constitutionally the province of the Congress, over the years the Congress has delegated to the President some of its powers in the regard, particularly to allow him quickly to address international economic emergencies.  At least three statutes – the Trading With the Enemy Act (TWEA), the International Emergency Economic Powers Act (IEEPA) and the Trade Expansion Act of 1962 – authorize the President to impose additional duties and other measures, on a temporary basis, if he first proclaims that an “economic emergency” exists.

These powers were most notably exercised in 1971, when President Nixon, confronted with rising inflation and a rather alarming drain of cash reserves to support the United States dollar, invoked the TWEA to impose a 10% ad valorem surcharge on all imported goods. The surcharge was stated to be “temporary”; it did not apply to goods which were unconditionally duty free, and if a 10% surcharge would cause the duty rate for a good to exceed the Column 2 rate, then the rate was limited to the Column 2 rate. As a result, the net impact of the surcharge was closer to 6% ad valorem. President Nixon’s surcharge (which was combined with a wage and price freeze) did little to improve economic conditions, and was lifted after 5 months.

Many importers who were assessed with the surcharge sued for refunds in the Customs courts, challenging the legality and Constitutionality of the executive order which imposed it. Ultimately, in the case of United States v. YoshidaInt’l,  Inc.,  526F.2d560,  572(C.C.P.A.  1975), the Court of Customs and Patent Appeals upheld the surcharge proclamation.

The Yoshida court noted that courts would generally not question a President’s determination that an “economic emergency” existed, but would look at the remedy selected to decide if it was reasonably designed to address the emergency identified. In this regard, the court noted that the relief would need to be temporary in nature. The President has no inherent foreign trade or tariff-setting powers, and cannot substitute his judgment for that of the Congress. Thus, it would be difficult for the President to impose tariffs or surcharges on goods which Congress has deemed to be unconditionally duty free. Because the Nixon surcharge steered around these pitfalls, the Federal Circuit upheld it.

It would be difficult to reasonably discern an “economic emergency” arising out of the U.S – Mexico trade relationship or even the U.S.’s $50 billion annual trade “deficit” with Mexico. The two countries enjoy a $582 billion two-way trade relationship. Against that figure, a $50 billion deficit is not hugely significant. The countries have robust two-way trade, and do not impose barriers to each other’s goods. Considering the population disparity between the United States and Mexico, it is clear that Mexico’s purchases of U.S. goods on a per capita basis is much greater than the United States’ per capita purchases of Mexican goods.

When United States imports of Mexican petroleum products are factored out, the trade deficit disappears. When one takes into account that 40% of the value of goods the United States purchases from Mexico represents returning American content, a case can be made that the United States runs a practical trade surplus with Mexico.

Even if the objective were to address a $50 billion trade deficit, a 20% tariff surcharge on Mexican goods would be a wildly excessive response.

 

What Would Happen if the United States Imposed a Surcharge or Tariff on Mexican Goods?

The result of a United States tariff surcharge on Mexican goods would be to trigger a trade war that would have grave consequences for both countries.

The United States and Mexico are both members of the World Trade Organization (WTO), and they have “bound” their most-favored nation tariffs. Any derogation from those bound tariffs – even if to address economic emergencies – would constitute a “nullification and impairment” of those bound tariff commitments. The nation raising tariffs – the United States – would need to offer Mexico “compensation” in the form of equivalent tariff reductions on other goods. Since most United States “bound” tariff rates are very low, it would be impossible, as a practical matter, for the United States to adequately compensate Mexico for a 20% tariff surcharge.

In that case, the WTO would authorize Mexico to retaliate against American goods by increasing tariffs in a dollar amount (not a rate) equal to the damage done to Mexico by the breach of WTO commitments.  Mexico could use that power to effectively destroy numerous U.S. industries with large markets in Mexico. For example a 100% retaliatory tariff on soy products, corn products and beef, would cause U.S. prices for those commodities to collapse, resulting in many grower and rancher bankruptcies.

Article 302 of NAFTA also prohibits a signatory country from erecting new tariffs. A tariff surcharge would breach that obligation, and allow Mexico to withdraw NAFTA treatment from United States goods.

Numerous voices in Congress and business have cautioned against taking the rash steps which could lead to such a destructive trade and tariff war.

 

Could the President Withdraw the United States from NAFTA?

Yes he could. Article 2205 of the NAFTA allows the President to withdraw the United States from NAFTA by providing a six (6) month notice to the other parties. If this were to happen, the United States and Mexico would, at the conclusion of the 6 month period, impose Column 1 Normal Trade Relations (NTR) tariffs on each other’s products. Things like the NAFTA Marking Rules would cease to apply, and binational dispute resolution procedures would no longer be available to the two countries. 

A number of Mexican agricultural products would likely become subject to tariff-rate quotas.

As for the U.S. – Canada trading relationship, if NAFTA were terminated, the United States-Canada Free Trade Agreement, the forerunner to NAFTA, would resume in effect between the two nations.

Fortunately, there appears to be virtually no appetite in Congress for withdrawal from NAFTA, and many influential legislators, including many in the President’s party, have urged the President not to consider withdrawal.

One of the Trump Administration’s first official acts was to withdraw the United States – foolishly, by most estimations – from the Trans Pacific Partnership (TPP) trade agreement negotiations. Mexico is of course a party to the TPP agreement, whose final text has been concluded.  Rather than bringing his supposedly great “deal making” powers to bear on the TTP, the President has simply jettisoned the agreement entirely. Mexico and the other remaining signatories have indicated a willingness to move forward without the United States, and possibility that China will join (and by virtue of its economy’s size, lead) the modular TPP agreement.  While NAFTA would still create an important U.S. – Mexican trade relationship, Mexico could in the future look elsewhere for trade expansion.

 

What About the President’s Pledge to Re-Negotiate NAFTA?

President Trump has indicated an eagerness to re-negotiate the NAFTA, and both Canada and Mexico have expressed a willingness to do this. However, Canada and Mexico have both made it clear that they expect to emerge from such negotiations with gains.

How, precisely, the Trump Administration would want to renegotiate NAFTA is unclear. Rules of Origin are a likely focus of any renegotiation. The President has made repeated references to the automotive sector, so a renegotiation of NAFTA’s highly complex origin rules for automotive goods is likely. That being said, it is hard to see how any renegotiation could result in a stricter rule of origin than the one currently in place, which effectively requires a 62.5% regional value content for qualifying vehicles.

Of equal importance is who will speak for the United States in any NAFTA renegotiation. As of this writing, President Trump’s designate for United States Trade Representative, Robert Lighthizer, has not been confirmed by the Senate and is not yet on the job. Lighthizer is a knowledgeable trade professional, and his department has the expertise to handle a renegotiation in a highly competent manner. But Trump has also indicated that his Commerce Secretary designee, Wilbur Ross, will have a hand in trade negotiations. He has also formed a Trade Advisory Council and appointed one of his lawyers as “Chief Negotiator”.  In all likelihood, Mexico and Canada will insist that Lighthizer’s USTR office head up any negotiations for the United States.

USTR exercises trade responsibility delegated by Congress to the President. Some legislators are concerned about the Trump Administration’s wild pronouncements, and legislation is pending in Congress which, if enacted, would return some of these delegated powers to the Congress.

As that trade specialist Bette Davis might have said, “Fasten your seatbelts! It’s going to be a bumpy night!”

 

What Should My Company Be Doing as this Situation Unfolds?

More than 8 million jobs in the United States alone depend on trade with Mexico. Companies trading with Mexico have a stewardship obligation regarding these jobs – and their own investment and profits. Confronted with an erratic administration, companies can still do a lot to protect themselves.

 

•   Strengthen Your NAFTA and Trade Compliance Activities.  In the current environment, any major scandal or penalty involving failure to comply with NAFTA rules or other international trade rules could give NAFTA opponents the ammunition they need to try and torpedo the Agreement.  Companies should review their NAFTA operations, ensure they are in compliance with applicable rules, and take corrective actions, if necessary.

•   Engage Your Representatives in Congress.  Make sure your elected representatives understand how many jobs in their district depend on NAFTA and a smoothly-working U.S. – Mexico trade relationship.

•   Engage Your Communities.  Make sure the people living and working in the communities you serve understand the importance of the U.S. – Mexico trade relationship to their economic health. While this is obvious to folks working directly in international businesses, it is often not so obvious to shopkeepers, teachers, service workers and others whose focus may be more localized.

 

Our firm stands ready to furnish any additional information or assistance that may be required to address these thorny issues.