Reversing NAFTA: A Supply Chain Perspective

Since the North American Free Trade Agreement (NAFTA) entered into force in 1994, production within the three NAFTA countries has become more specialized as foreign direct investment and trade have been allowed to thrive and firms have taken advantage of economies of scale and lower wages in Mexico. Extensive regional supply chains for producing motor vehicles, chemicals, wearing apparel, among other commodities have emerged. Using a global trade model tailored to include supply chains, we examine the impact of the United States extricating itself from the NAFTA. US tariffs on imports of goods from Canada and Mexico, currently covered under the NAFTA, are assumed to rise to US most favored nation (MFN) rates, compelling Canada and Mexico to reciprocate under World Trade Organization (WTO) rules. Overall, the results show that the United States’ reversal of NAFTA leads to a decline in real Gross Domestic Product (GDP), trade, and investment in the United States, Canada, and Mexico, with most of the losses resulting from Canada and Mexico’s reciprocation. The losses in low-skilled employment are most significant, with employment declining by 256,000, 125,000, and 951,000 in the United States, Canada, and Mexico, respectively. Production and specialization of production across the NAFTA region declines, particularly in those sectors with the highest levels of vertical specialization across NAFTA. The motor vehicles and services sectors in all three NAFTA countries decline, along with production of US meat, food, and textiles; Canadian chemicals and metals; and Mexican textiles, wearing apparel, electronics, and machinery.