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North American Free Trade Agreement (NAFTA)

A trading bloc in North America that includes the US, Canada and Mexico

What is the North American Free Trade Agreement (NAFTA)?

The North American Free Trade Agreement (NAFTA) is an agreement that brought together three North American countries, i.e., the United States, Canada, and Mexico, to form a trading bloc in North America. The agreement aimed to reduce trading costs and make North America a competitive trading bloc in the global market place.

 

North American Free Trade Agreement

 

NAFTA is the world’s largest trade agreement, with the three member countries reporting a gross domestic product (GDP) of more than $20 trillion. Through the agreement, the three signatory members agreed to remove the trading barriers that existed among them and increase investment opportunities for small- and medium-enterprises (SMEs) in the United States, Canada, and Mexico.

 

Summary

  • The North American Free Trade Agreement (NAFTA) is a trade agreement that took effect on January 1, 1994, and it encourages trade between the United States, Canada, and Mexico.
  • The agreement phased out most of the tariff and non-tariff trade barriers that existed among the trading countries.
  • NAFTA is the biggest free trade agreement in the world, with the gross domestic product of participating countries exceeding $20 trillion.

 

History of the North American Free Trade Agreement

The idea of establishing the North American free trade zone was first proposed by US President Ronald Reagan as part of his presidential campaign in 1980. President Reagan’s proposal was inspired by the success of the European Economic Community that stimulated trading activities among its member countries.

Proponents of the North American free trade area argued that the free trade zone would increase trade and production for businesses and create millions of jobs in the member countries. Participating countries would also benefit from a reduction or elimination of trade barriers that existed between the three countries.

The talk for a common trade zone was initiated in 1985 by Canadian Prime Minister Brian Mulroney with a proposal to formulate a Canada-US free trade agreement. The negotiations commenced in 1986, and the two countries signed the agreement in 1988. The Canada-US agreement came into effect on January 1, 1989.

In 1990, then Mexican President Carlos Salinas initiated discussions with the United States to join the North American free trade zone. Consequently, Reagan’s successor, President George Bush, began negotiations in 1991 for a North American trade agreement that would bring together the United States, Mexico, and Canada.

In 1992, President Bush (US), Prime Minister Brian Mulroney (Canada), and President Salinas (Mexico) signed the North American Free Trade Agreement. The parties also signed two supplemental agreements on labor and environmental protection. The legislatures of the three countries ratified the agreement in 1993, and it became active on January 1, 1994.

 

Highlights/Provisions of NAFTA

The following are the key provisions of the North American Free Trade Agreement:

 

1. Tariff elimination for qualifying goods

Before NAFTA, goods exported to Mexico attracted tariffs of 30% or higher, with US-produced goods being charged higher tariffs than the duties imposed on Mexican goods exported to the United States. NAFTA addressed the trade imbalance by removing some of the tariffs immediately, with other tariffs being phased out over a duration of 15 years.

Imports from participating countries were given the “Favored Nation” status, which banned any states or provincial governments from imposing tariffs on such goods. The agreement ensured duty-free access to a vast number of areas, such as construction, engineering, manufactured goods, consulting, health care management, accounting, etc.

 

2. Establishment of standards

The signatories of NAFTA also recommended putting in place standards on health, safety, and industry. The members also agreed to increase the speed of export-product inspections and certifications at the border and eliminate the use of national standards as a barrier to trade.

The agreement also provided administrative, civil, and criminal penalties that would be imposed on businesses that violated any of the agreed custom procedures and standards requirements.

 

3. Elimination of non-tariff barriers

Apart from the elimination of tariffs, the signatories of NAFTA agreed to streamline border processing and licensing requirements and reduce the waiting time for goods clearance. Member countries agreed to open up their border and interior to other members to ease trading activities.

 

4. Supplemental agreements

NAFTA included two main supplemental agreements that addressed concerns that businesses would relocate their production and manufacturing facilities to other participating countries to exploit lower wages and lenient worker health and safety regulations.

The first agreement was the North American Agreement on Labor Cooperation (NAALC) that protected factory workers from potential job losses. The second agreement was the North American Agreement on Environmental Cooperation (NAAEC). The NAAEC was signed to address environmental concerns by environmentalists on the potential impacts of rapid industrialization in Mexico due to its lack of experience in enforcing environmental regulations.

 

5. Protection of intellectual property rights

NAFTA also included provisions that increased protection of intellectual property rights, such as computer software and chemical production. Participating countries agreed to enforce rules that would protect the intellectual property rights of other members and take punitive measures against industrial theft.

 

6. Trade dispute resolution

The trade agreement provided rules for resolving trade disputes between investors, businesses, and participating countries. The agreement required traders to promote fair competition and uphold all regulations of the treaty.

The NAFTA Secretariat is tasked with taking measures to resolve disputes between businesses. If parties are not satisfied with the outcome of the process, the Secretariat establishes a panel to review the dispute and ensure the parties reach an amicable solution.

 

Criticisms of NAFTA

One of the criticisms of NAFTA centers on the destruction of American jobs. Critics argue that the agreement resulted in US jobs relocating to Mexico, even after participating countries signed the North American Agreement on Labor Cooperation.

The agreement affected thousands of American workers after US companies relocated their manufacturing facilities to Mexico to take advantage of the lower wages and relaxed worker health and safety regulations. In addition, according to the critics, the agreement led to environmental degradation due to the rapid industrialization in Mexico.

 

Additional Resources

CFI offers the Certified Banking & Credit Analyst (CBCA)™ certification program for those looking to take their careers to the next level. To keep learning and developing your knowledge base, please explore the additional relevant resources below:

  • Balance of Trade
  • Barriers to Entry
  • Common Market
  • Regional Trading Agreements

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