16 Nov 2017
Domestic pressure from US businesses is likely to ensure an agreement to rewrite the North American Free Trade Agreement (NAFTA), with the fifth round of negotiations beginning this week in Mexico City.
Uncertainty surrounding the talks will weigh on the Canadian dollar and Mexican peso in the near term, says New York-based Thierry Wizman, Global Interest Rates and Currencies Sales and Trading Strategist at Macquarie.
But with Canada and Mexico a top two export destination for 41 and 28 US states respectively, Wizman believes the world's second largest economic bloc won't be allowed to fail.
“If negotiations veer in the wrong direction, the US business community will step up its lobbying efforts, making sure that things are set straight," he says.
Uncertainty already taking its toll
Citing the need to protect American jobs and cut the trade deficit, the Trump Administration said in August it would reformulate NAFTA or leave the 23-year-old pact.
The end of NAFTA would be detrimental to all three economies and lead to reciprocal retaliations, says Wizman.
These concerns have weakened the Canadian and Mexican currencies. The peso has dropped 9 per cent against the US dollar since July, while the Canadian dollar has slipped over 5 per cent since September.
Economic and ideological drivers
Many chapters of the agreement have been successfully reviewed, including those covering competition and digital trade.
But in October, the US introduced new demands, some deemed unacceptable to its NAFTA partners.
If negotiations veer in the wrong direction, the US business community will step up its lobbying efforts, making sure that things are set straight.
Among them is a request to raise the required percentage of regional and US component sourcing for vehicles to win preferential tariff status in the bloc.
Wizman says this provision may find a compromise as the bloc attempts to fend off Asian competition in the electric vehicle technology.
But he believes other measures requested by the US, such as the removal of binding dispute arbitration and introduction of a five-year sunset clause, are unlikely to be part of a final draft.
Politics complicates timeline for resolution
With trade negotiations now extended into 2018, negotiators may fail to complete talks and get legislative approval before the Mexican election in July, while US midterm elections in November may push the timeline back further.
However, US threats to leave NAFTA have mobilised US business groups in recent weeks.
Over 100 representatives from automakers, retailers and other industries met with US legislators in October to voice their support for NAFTA.
“NAFTA is unlikely to dissolve and in fact the negotiations outcome is likely to be fairly benign," says Wizman.
“While there are many organised special interests that want to preserve NAFTA, there are almost no organised special interests that wish to get rid of it.
“But headline market risk will remain elevated for the next few months," he says.