Two Trade Agreements Offer Optimism, But Uncertainty Remains

Trade Updates: USMCA and Phase-One China Deal

On December 13, 2019, the United States and China announced a “phase one” trade agreement just before new tariffs were scheduled to go into effect.¹ Six days later, the House of Representatives passed the United States-Mexico-Canada Agreement (USMCA) in an overwhelming bipartisan vote, virtually assuring enactment of the long-awaited replacement to the North American Free Trade Agreement (NAFTA).²

Both of these deals were expected to be enacted in early 2020, though details of the China pact remained unclear as of late December. The two agreements are important steps toward resolving conflicts with our three largest trading partners that had cast a pall over a generally strong U.S. economy.

Market Reaction to Trade News

While the USMCA had been on the table for more than a year, the China agreement is a wild card and more critical to addressing economic damage to U.S. manufacturing and agriculture. Leaders in both industries were cautiously optimistic, pending further details and proof that China would carry out its end of the deal.³

U.S. and global stocks soared to record highs on December 12 when President Trump tweeted that a deal was “very close,” but the reaction was mixed when the agreement was officially announced the following day. After an early surge, U.S. stocks lost their gains and closed flat for the day as investors reacted to the lack of details and limited scope of the deal.^4-5 The U.S. market closed at another record high on December 16, suggesting a more optimistic view for long-term economic growth.⁶

Skinny China deal

The so-called “skinny” trade pact with China marks a truce in the U.S.-China trade war. It could also serve as a stepping stone to a broader agreement.

The U.S. dropped plans to impose new tariffs on $156 billion of Chinese goods, including smartphones, consumer electronics, and toys. These tariffs were scheduled to start on December 15. Analysts estimate they would have cost U.S. households about $150 annually, in addition to $400 from previous tariffs. This rollback is good news for consumers. The U.S. also cut tariffs on $120 billion of Chinese goods from 15% to 7.5%. However, 25% tariffs on $250 billion of goods remain, giving the U.S. leverage for future negotiations.^7-8

In return for the tariff relief, China has agreed to purchase an additional $200 billion in U.S. goods and services over the next two years, with pre-tariff 2017 levels as a baseline.⁹ This would include an additional $32 billion in agricultural goods over the two-year period, bringing total Chinese agricultural purchases to $40 billion annually, with China working to raise it to $50 billion.¹⁰ After a difficult year of weather- and tariff-related losses, U.S. farmers welcomed the potential market expansion. Still, there are concerns about how China might reach these levels, which are significantly higher than peak agricultural imports before the tariffs.¹¹

Although no details were released, the deal also addresses intellectual property rights, forced technology transfer, financial services barriers, and unfair currency practices.¹²

North American market

The U.S.-Mexico-Canada Agreement (USMCA) governs more than $1.2 trillion in annual trade among the three countries. It keeps the NAFTA framework of an open North American market but adds new controls, mainly affecting the auto industry, the Mexican labor market, and Canadian dairy.¹³

To avoid tariffs under the USMCA, a car or truck must have 75% of its components manufactured in the United States, Canada, or Mexico, up from 62.5% under current rules. At least 30% of labor on a vehicle must be performed by workers earning a minimum of $16 per hour, about three times what Mexican workers currently earn, increasing to 40% for cars by 2023. While these rules should help U.S. workers, they may also lead to higher auto prices and drive manufacturing of some small cars to Asia.¹⁴

Labor and Safety Provisions

Mexico must make it easier for workers to form unions, which could increase wages and reduce incentives for U.S. companies to move operations south. Mexican trucks crossing the border will face stricter safety rules. Strong enforcement of these provisions helped gain support from U.S. labor unions, which traditionally oppose free-trade agreements.15

For those interested in broader retirement planning and long-term investment strategies, trade developments can indirectly influence market conditions and growth prospects.

Agriculture and Trade

• U.S. farmers gain expanded access to Canadian dairy markets, as well as additional sales of U.S. eggs and poultry.

• Canada retains a dispute process, which it has used to contest U.S. lumber restrictions successfully.16

Modern Protections

The USMCA strengthens protections for intellectual property and data. It also adds environmental measures, such as safeguarding marine wildlife from pollution and overfishing, and improves provisions against currency manipulation.¹⁷

Economic Impact

Analysis by the U.S. International Trade Commission projected that the USMCA could:

• Raise U.S. GDP by 0.35% over six years

• Create 176,000 U.S. jobs, including 28,000 in the auto industry

The Trump administration projects 76,000 new auto industry jobs specifically under the agreement.¹⁸

Looking ahead

These agreements could reduce some of the uncertainty surrounding trade and provide new business opportunities that may help stimulate the U.S. economy. As with any agreement, however, their impact depends on compliance by all parties. The China deal is tenuous, and it remains to be seen whether China will fully comply with the phase-one agreement and — perhaps even more important — whether there will be a phase two that leads to a broader resolution of conflicts between the world’s two largest economies.

All investing involves risk, including the possible loss of principal, and there is no guarantee that any investment strategy will be successful.