The Future of North American Trade Policy: Lessons From NAFTA

IMGXYZ1474IMGZYXThe North American Free Trade Agreement (NAFTA) was first implemented on January 1, 1994. In the fifteen years since, Mexico’s annual growth of GDP per capita has stagnated; little has changed in total investment; macroeconomic vulnerability has increased; and progress in job growth has been weak. Despite success in increasing trade, foreign direct investment (FDI) and productivity, the outcome of Mexico’s development strategy under NAFTA has been a disappointment. NAFTA’s promise of broad-based dynamic growth has fallen short.

Carnegie’s Eduardo Zepeda, Kevin Gallagher, an associate professor of International Relations at Boston University, Timothy A. Wise, director of the Research and Policy Program at the Global Development and Environment Institute, Tufts University, and Robert Stumberg, professor of Law at Georgetown University Law Center, discussed the findings of two recently released reports. The first report, lead-authored by Zepeda, assesses the impact of NAFTA on Mexico and makes recommendations for developing countries negotiating NAFTA-style trade agreements.  The second report, co-written by the other panelists and published by Boston University's Pardee Center, is entitled “The Future of North American Trade Policy: Lessons from NAFTA”, which provides detailed proposals for reforming NAFTA and future trade agreements, based on the NAFTA experience. Carnegie’s George Perkovich opened the event.

More failures than successes

NAFTA has had positive impacts on Mexico’s economy:

• Mexico’s exports increased 311 percent in real terms between 1993 and 2007, and non-oil exports increased 283 percent.


• FDI, mostly coming from the United States, more than tripled between 1992 and 2006. Gallagher argued that NAFTA basically “crowded out” domestic investment as FDI began to increase rapidly.


• Inflation was brought down below 5 percent, from a high of above 80 percent in 1980s.


• Rising competition forced Mexican firms to be more efficient, leading to an approximately 80 percent increase in productivity in the manufacturing sector.

However, there are profound shortcomings of the ‘NAFTA model’:

• Annual GDP per capita growth rate was just 1.6 percent between 1992 and 2007. This is low by Mexico’s own standards: average real per capita growth rate was 3.5 percent between 1960 and 1979.


• Despite high FDI, domestic investment has receded, resulting in total investment levels (foreign plus domestic) of below 20 percent. The Growth Commission, an independent commission launched in April 2006 to better understand the policies and strategies that underlie rapid and sustained economic growth and poverty reduction, advises that 25 percent total investment levels are needed to achieve dynamic growth.


• Macroeconomic vulnerability has increased as the country remains heavily dependent on oil exports for government revenues. Tax revenues amount to less than 15 percent of GDP.


• Limited employment gains in manufacturing and services sectors have been offset by large employment losses in agriculture sector, which lost more than 2.3 million jobs between 1990 and 2008. Wise suggested that protective provisions, like the special safeguard mechanism (SSM) of the World Trade Organization, could have countered some of these heavy losses.


• NAFTA contributed to growing geographical inequality between Mexico’s southern and northern states. States along the U.S. border and those with good infrastructure had higher growth. The southern states languished behind.


• Commitment to environmental protection in the post-NAFTA period has not been strong.

“The collapse in employment in agriculture, coupled with a fall in producers and real prices of staple foods, mainly corn, due to import competition is partially feeding migration out of Mexico,” said Zepeda.

Lessons for developing countries, Mexico, and the United States

The situation in Mexico provides an example for other developing countries negotiating trade agreements.  Among the chief lessons are:

• Avoid NAFTA’s prohibitions on policies for industrial competitiveness, i.e. selective promotion of industries and temporary preferences to national entrepreneurs in particular areas. Enhancing competitiveness, Wise explained, will promote industrial development.


• Engage in careful liberalization of sensitive goods, like the staple-food producing sector.


• Include funding for development, like the EU does when it engages in trade agreements with developing countries. It helps developing countries to realistically compete with stronger trade partners. Wise suggested expanding financing through institutions like the North America Development Bank would also serve to increase necessary industrial development.


• Trade policy is not a substitute for coherent national economic development strategies.


• Gallagher emphasized that trade agreements should focus more strongly on job creation, including meeting labor and environment standards and providing protection for migrants.
• Stumberg argued that free-trade agreement should pay close attention to how service chapter can be used to promote better environment and labor standards.

“Future trade agreements between the United States and developing countries should pay close attention to the shortcomings of NAFTA and realize that trade policy is not the same as development policy,” Zepeda argued.