March 24, 2018

NAFTA Sunset Clause Is an Exit Ramp to Nowhere

Christine McDaniel

Senior Research Fellow

Veronique de Rugy

Senior Research Fellow

At a congressional hearing on trade policy this week, U.S. Trade Representative Robert Lighthizer was asked pointedly to explain why the Trump administration wants a sunset clause included in the renegotiation of the North American Free Trade Agreement (NAFTA).

This clause would force another renegotiation of the agreement every five years. He gave two reasons: the economic changes our country is undergoing, and the trade deficit.

To that, we say: no and no. One needs only common sense and a little bit of economics to understand why. Economic change is the one thing in life we can count on. In our land of economic freedom and opportunity (for the most part), this change is a good thing. 

But the free market has a messy way of delivering that type of progress, with a steady progression of exciting new hires and painful separations. Over the last 12 measurable months (ending in January 2018), there were 6.3 million job openings (of which 5.6 million were filled), and 5.4 million job separations (quits and layoffs). 

Lighthizer focuses on the negatives suffered by a few very well-organized special interest groups. As usual, foreign trade is the easy scapegoat. 

At the hearing, member after member recounted meetings with their constituents who pleaded for NAFTA to stay in place. We heard stories about how the agreement has allowed their firms to grow, hire more people and expand operations.

These real-life accounts mirror the data, which show that since 1995, the year NAFTA was signed, the economy has added billions of dollars in wealth, and a net 32 million jobs. It is clear that even though the progress is messy, regional economic cooperation through NAFTA has increased competition and opportunities for Americans. 

As for the trade deficit, it’s a good soundbite, but a phony issue. No one is getting ripped off.

The same amount of money comes into the United States that goes out of the United States. We have a trade deficit because, on net, for each dollar we spend on imports there exists someone abroad who wants to sell us goods and invest their money here. Simply put: Americans consume a lot, and foreigners like to invest here.

There are three ways to reduce the U.S. trade deficit and none of them has to do with trade policy:

First, you can incentivize Americans to consume less and save more. To do this, you would have to change the tax code. Second, you can depreciate the value of the dollar, which could fuel inflation. Third, you can tax capital inflows from other nations, which would reduce foreign investment in the United States.  

Unless the American public, Congress and the White House are committed to at least one of these policy changes, it’s not going to happen. 

None of the above is to say that we should never update trade agreements. There are good reasons to revisit some of the rules that govern the flow of goods, services and capital.

For example, when NAFTA was being negotiated, a little-known company called Amazon was about to go public and ecommerce was just a novelty. Today, digital platforms and financial technologies are changing the entire landscape of how businesses and consumers across borders interact.

Updating trade agreements is a good idea. But a sunset clause is not. If countries had an easy exit ramp, few would stay in any agreement for very long. When the going gets tough — and at some point, the going always gets politically tough — politicians predictably demonize foreign trade deals as the culprit. 

The real gem of an agreement is the commitment signal it sends to the market. It says, through the ups and downs, we will commit to economic cooperation. That makes it far easier for job creators and innovators do what we all need them to do.

NAFTA is ripe for modernization, and in doing so we should renew our vows to our neighbors and closest economic allies. Commit to the proven principles, and update the particulars. But a sunset clause is an exit ramp to nowhere.