Order Code RL31870
CRS Report for Congress
Received through the CRS Web
The U.S.-Central America Free Trade Agreement
(CAFTA): Challenges for Sub-Regional Integration
Updated June 1, 2004
J. F. Hornbeck
Specialist in International Trade and Finance
Foreign Affairs, Defense, and Trade Division
Congressional Research Service Ëœ The Library of Congress

The U.S.-Central America Free Trade Agreement
(CAFTA): Challenges for Sub-Regional Integration
Summary
On May 28, 2004, the United States signed the U.S.-Central America Free Trade
Agreement (CAFTA) with Costa Rica, El Salvador, Guatemala, Honduras, and
Nicaragua. In addition, the Dominican Republic concluded a similar bilateral free
trade agreement (FTA) with the United States on March 15, 2004, which is expected
to be signed in July 2004 and integrated with CAFTA to be considered as a single
legislative package. Enacting the agreement requires the U.S. Congress to pass
implementing legislation and that similar action be undertaken in the other countries.
As required under Trade Promotion Authority (TPA) legislation (P.L. 107-210), prior
to any congressional consideration of implementing legislation, the Bush
Administration is required to send to Congress supporting materials within 60 days
of entering into the agreement.
CAFTA was negotiated, in part, as a regional agreement in which all parties
would be subject to the â€œthe same set of obligations and commitments,â€ but with
each country defining its own separate schedules for market access on a bilateral
basis. The flexibility of this framework allowed Costa Rica to negotiate longer, and
for a slightly different arrangement than the other four Central American countries,
each of which also negotiated separate schedules. It also allows for the Dominican
Republic to be added at a later date. CAFTA is a comprehensive and reciprocal trade
agreement, which distinguishes it from the CBI unilateral preferential arrangement
between the United States and these countries. It defines detailed rules that would
govern market access of goods, as well as services trade, government procurement,
intellectual property, and investment.
Under CAFTA, more than 80% of U.S. consumer and industrial exports and
over half of U.S. farm exports to Central America would become duty-free
immediately. To address asymmetrical development and transition issues, CAFTA
specifies rules for lengthy tariff phase-out schedules as well as transitional safeguards
and tariff rate quotas (TRQs) for sensitive goods. Although many goods would attain
immediate duty-free treatment, others would have tariffs phased out incrementally
so that duty-free treatment is reached in 5, 10, 15, or 20 years from the time the
agreement takes effect. Duty-free treatment would be delayed for the more sensitive
products, and in some cases, the tariff reductions would not begin until 7 or 12 years
into the agreement.
CAFTA is controversial and faces political uncertainty. Supporters hope that
CAFTA can be part of a policy foundation supportive of both improved intra-
regional trade and long-term social, political, and economic development. Concerns
remain, however, over the negative effects on certain sectors and employees of the
U.S. economy, and that a balanced outcome may be difficult to achieve if the FTA
fails to accommodate sufficiently the adjustment costs also facing certain Central
American workers, small farmers, and other groups. The history some CAFTA
countries have of poor labor rights enforcement raises questions over whether the
labor provisions will adequately promote social development.

Contents
Why Trade More Freely? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
The Impetus for a CAFTA . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
The Quest for Central American Integration . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
U.S.-CAFTA Country Trade Relations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
U.S.-Central American Trade . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
U.S. Imports . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
U.S. Exports . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
U.S.-Dominican Republic Trade . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
U.S. Foreign Direct Investment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
Status of Trade Negotiations and Policy Issues . . . . . . . . . . . . . . . . . . . . . . . . . . 16
Market Access . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
Investment and Services . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
Government Procurement and Intellectual Property Rights . . . . . . . . . . . . 22
Labor and Environment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
Environmental Issues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
Labor Issues, Congress, and TPA . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
Dispute Resolution and Institutional Issues . . . . . . . . . . . . . . . . . . . . . . . . . 28
Trade Capacity Building . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
Outlook . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
Appendix 1. Chronology of CAFTA Negotiations . . . . . . . . . . . . . . . . . . . . . . . 31
Appendix 2. Selected Economic Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32
Appendix 3. U.S. Merchandise Trade with CAFTA Countries . . . . . . . . . . . . . 33
List of Figures
Figure 1. Central Americaâ€™s Direction of Merchandise Trade, 2002 . . . . . . . . . 11
List of Tables
Table 1. Central American Exports as % of GDP . . . . . . . . . . . . . . . . . . . . . . . . . 9
Table 2. Top Eight U.S. Merchandise Imports from Central America, 2003 . . . 13
Table 3. Top Eight U.S. Merchandise Exports to Central America, 2003 . . . . . 14
Table 4. U.S.-Dominican Republic Merchandise Trade, 2003 . . . . . . . . . . . . . . 15
Table 5. U.S. Foreign Direct Investment (FDI) in CAFTA Countries . . . . . . . . 16

The U.S.-Central America Free Trade
Agreement (CAFTA): Challenges for Sub-
Regional Integration
On May 28, 2004, the United States Trade Representative (USTR) Robert B.
Zoellick and trade ministers from Costa Rica, El Salvador, Guatemala, Honduras,
and Nicaragua signed the U.S.-Central America Free Trade Agreement (CAFTA),
formally concluding the negotiation phase (see Appendix 1, Chronology of CAFTA
Negotiations). Enacting the agreement requires that the U.S. Congress pass
implementing legislation, and that parallel action be undertaken in the legislatures of
the other countries. Prior to congressional consideration of implementing legislation,
the Bush Administration is required under Trade Promotion Authority (TPA)
legislation (P.L. 107-210) to send supporting materials to Congress within 60 days
of entering the agreement. These include a description of changes to existing laws
necessary to bring the United States into compliance with CAFTA, the final legal
text, a draft implementing bill, statement of administrative action, and an explanation
of how it will meet congressional negotiation objectives set out in TPA.
In addition, the Dominican Republic concluded a similar bilateral free trade
agreement (FTA) with the United States on March 15, 2004, which is expected to be
signed in July 2004 and integrated with CAFTA to be considered as a single
legislative package. CAFTA is a complicated and controversial agreement and
because of congressional resistence to it, the Bush Administration does not anticipate
sending the agreement to Congress until after the November 2004 elections. This
update provides background and analysis on CAFTA, including new information on
the Dominican Republic, and will continue to be updated periodically.
Why Trade More Freely?
Countries trade because it is in their national economic interest to do so, a
proposition long supported by theory and practice. Comparative advantage has been
recognized for nearly 200 years as a core principle explaining the efficiency gains
that can come from trade among countries by virtue of their fundamental differences.
It states that countries can improve their overall economic welfare by producing those
goods at which they are relatively more efficient, while trading for the rest. Intra-
industry trade is the other major insight that explains trade patterns. Larger markets
allow for benefits from exchange among countries to occur based on specialized
production, product differentiation, and economies of scale. Many Latin American
countries have liberalized trade policies recognizing the contribution that trade (and
related investment) can have on economic growth and development. As an important
caveat, trade is at best only part of a broad development agenda, which must also

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include promotion of political freedom, macroeconomic stability, sound institutions,
and adequate levels of savings and investment, among many other factors.1
Comparative advantage and perhaps intra-industry trade provide the rationale
for U.S.-Central American (and Dominican Republic) trade. Comparative advantage
is at the heart of exchange between developing and industrialized countries, such as
Central America trading fruit and coffee for U.S. grains, cereals, and capital goods.
Intra-industry trade (e.g. goods within the same harmonized tariff system (HTS) code
number) is based on specialized production, but in this case relies in large part on
differences in wages, skills, and productivity.2 Certain specialized jobs have
developed in Central America (and other developing countries), where they
frequently reside in production sharing (maquiladora) facilities. Economists have
come to refer to such specialized production as â€œbreaking up the value added chainâ€
and it accounts for why products (and particularly parts thereof) as diverse as
automobiles, computers, and apparel are often made or assembled in Central America
and other countries in partnership with U.S. firms.3 This relationship, discussed in
more detail later, provides the basis for much of the labor policy debate on CAFTA,
and FTAs more generally.4
Measuring the benefits of freer trade is another difficult issue. There is a
tendency to count exports, imports, and the oft-misrepresented importance of the
trade balance as indicators of the fruits of trade. This approach often gives undue
weight to exports at the expense of understanding benefits from imports, where the
gains from trade are better understood by their contribution to increased consumer
selection, lower priced goods, and improved productivity. For example, high-tech
intermediate goods imported from developed countries are the basis for future, more
1 The role of trade is summarized well in: Rodrik, Dani. The New Global Economy and
Developing Countries: Making Openness Work. The Overseas Development Council,
Washington, D.C. 1999. p. 137 and Bouzas, Roberto and Saul Keifman. Making Trade
Liberalization Work. After the Washington Consensus: Restarting Growth and Reform in
Latin America. Kuczynski, Pedro-Pablo and John Williamson, eds. Institution for
International Economics. Washington, D.C. March, 2003. pp. 158, 165-67.
2 This case differs from the standard intra-industry case between two developed countries
in which goods, such as automobiles, are exchanged based on product differentiation and
economies of scale and where differences in wage levels are not a central factor.
3 For the theoretical foundation, see Krugman, Paul. Growing World Trade: Causes and
Consequences, in Brookings Papers on Economic Activity (1), William C. Brainard and
George L Perry, eds. 1995. pp. 327-76 and for the case in Central America, see Hufbauer,
Gary, Barbara Kotschwar, and John Wilson. Trade and Standards: A Look at Central
America. Institute for International Economics and the World Bank. 2002. pp. 992-96.
4 Note that this trend has not been a driving force in the aggregate unemployment rate of the
United States, but does affect the distribution of employment among sectors of the economy.
It is also important to emphasize here that wage levels are only part of the issue. Lower
wages correlate closely with lower productivity, hence an abundance of low-skilled (low
productivity) workers attracts these types of jobs. For a recent overview of the methodology
of measuring the effects of changes in trade policy, see Rivera, Sandra A. Key Methods for
Quantifying the Effects of Trade Liberalization. International Economic Review. United
States International Trade Commission. January/February 2003.

CRS-3
sophisticated, production in developing countries. In developed countries, imports
from developing countries, whether final goods for consumers or inputs for
manufacturing enterprises, reduce costs and contribute to productivity and economic
welfare. For all countries, exports are the means for paying for these imports and
their attendant benefits.
Three caveats related to negotiating FTAs are important. First, the discussion
of costs and benefits generally assumes that FTAs are executed and implemented in
a multilateral setting. In fact, given the slow pace of World Trade Organization
(WTO) negotiations, many countries are pursuing preferential arrangements, that is,
regional and bilateral agreements like CAFTA. Latin America is full of them and
depending on how they are defined, they may actually be trade distorting if they
promote trade diversion. This occurs when trade is redirected to countries within a
limited agreement that does not take into account countries outside the agreement,
some of which may be more efficient producers. Preferential trade agreements are
also cumbersome to manage, requiring extensive rules of origin, and economists
disagree over whether FTAs help or hinder the movement toward greater multilateral
trade liberalization.5
Second, trade, much like technology, is a force that changes economies. It
increases opportunities for internationally competitive sectors and challenges import
competing firms to become more efficient or do something else. This fact gives rise
to the policy debate over adjustment strategies, because while consumers and export
sector workers benefit, some industries, workers, and communities are hurt.
Economists generally argue that it is far less costly for society to rely on various types
of trade adjustment assistance than opt for selective protectionism, the frequent and
forcefully argued choice of trade-affected industries. The public policy difficulty is
that both options have costs and benefits, but result in different distributional
outcomes.6 Because trade agreements raise difficult political choices for legislators
in all countries, many of whom represent both potential winners and losers, FTA
provisions are typically limited in scope (so continue to protect partially or
completely certain products, industries, or sectors) and are phased in over time
(typically up to 15 years for very sensitive products).
Third, there are clearly implications in the trade negotiation process for smaller
countriesâ€™ bargaining leverage when they choose to negotiate with a large country in
5 U.S. businesses operating in Latin America have had to interpret a difficult road map when
dealing with multiple arrangements such as the Caribbean Basin Initiative, the Andean
Trade Preference Act, and the North American Free Trade Agreement. Each distorts
investment decisions in the region and can have a countervailing influence on the others.
Adding the many Latin American FTAs only makes the situation more confusing.
6 Importantly, when a staple, such as underwear, is produced abroad and sold in the United
States as a lower-priced import compared to a domestically produced good, it is equivalent
to an increase in real income for the U.S. consumer. This can be significant for low-wage
workers in the United States. The same idea holds true for industrial products and business
consumers. So, there is a â€œtrade offâ€ in the trade policy decision between keeping certain
jobs through protection and losing the income gains, or keeping the income gains and losing
certain jobs. One public policy response has been to pass trade adjustment assistance
legislation to help firms and workers transition more quickly to new opportunities.

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a bilateral rather than multilateral setting. Both Chile and the Central American
countries realized early in the process that there were negotiating issues over which
they would be able to exert little or no leverage. Both agreements deal little with
trade remedies (e.g. antidumping and subsidies) and resolving agriculture issues also
has been limited, given the politically sensitive nature of this issue.
The Impetus for a CAFTA
The United States moved decisively to negotiate preferential trade agreements
with Central America and the Dominican Republic. In part, this decision was
influenced by external events, as well as broader strategic interests. With the
proliferation of regional agreements around the world, trade negotiations for some
countries have become a tactical issue of picking off gains where they are perceived
relative to what other countries are doing. In response to this, it was repeatedly
argued by the U.S. business community that the U.S.-Chile agreement, for example,
was necessary to equalize treatment of U.S. businesses competing with Canadian
firms that already enjoyed preferential treatment with Chile. The case was made for
Central America as well, which has trade agreements with Mexico, Canada, and other
countries. The apparent impasse or delay of WTO and possibly the Free Trade Area
of the Americas (FTAA) negotiations only reinforces this attitude.
In the context of regional trade agreements, history, geographic proximity, and
economic complementarities also combine to make the formal deepening of trade
relations between Central America and the United States an apparently logical step.7
At least three cautionary notes, however, bear keeping in mind. First, because of a
historical pattern of U.S. political, military, and corporate intervention in the region,
a sense of disparity in power between the two partners lingers, which carried over to
the trade negotiations themselves. Second, intra-Central American squabbles and
instability have at times disrupted regional integration and especially foreign trade
relations. Third, it is easy to raise expectations of the effects of trade agreement on
broader social, economic, and political reform that some have proposed.
Economic fundamentals have shaped Central American trade relations. From
the early days of independence, agricultural exports were the centerpiece of Central
American economic growth. The British controlled primary export production
(coffee, bananas, sugar, and beef) until about 1850, when U.S. interests won over.
This continued until the 1980s when passage of the Caribbean Basin Economic
Recovery Act (CBERA â€” P.L. 98-67) began to transform the Central American and
Dominican economies. By becoming eligible for unilateral preferential tariff
treatment as part of the Caribbean Basin Initiative (CBI), U.S. investment fostered
growth in light manufacturing, primarily apparel.8
7 For an excellent economic history of the region, see Woodward, Ralph Lee Jr. Central
America: A Nation Divided. New York: Oxford University Press, third edition, 1999.
8 This legislation was amended twice, most recently by the Caribbean Basin Trade
Partnership Act (CBTPA â€” P.L. 106-200, Title II), which further loosened restrictions on
apparel imports from the Central American countries.

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The U.S.-Central American/Dominican Republic economic relationship changed
dramatically under the CBI, creating an environment in which businesses forged
strategic partnerships in the increasingly complex world of textile and garment
manufacturing. From 1974 until 1995, rules restricting trade in apparel between
developed and developing countries (mostly quotas) were set out in the Multifiber
Arrangement (MFA). Its successor, the WTO sponsored Agreement on Textiles and
Clothing (ATC) serves as a transitional agreement that oversees the reduction and
elimination of quotas by January 1, 2005.9 The CBI preferential arrangements were
defined under this system, which the United States created to help foster Caribbean
economic development, as well as to assist U.S. industry in responding to
competition from similar production-sharing arrangements in Asia that were taking
a toll on U.S. production and employment in the textile and apparel industries.
Both U.S. textile and apparel industries have been hit hard by foreign
competition. The textile industry (e.g., cloth, yarns, thread) has lost jobs, but has
remained marginally competitive internationally through more sophisticated use of
production technologies. The apparel manufacturing industry (e.g., shirts, pants,
undergarments) by contrast, is highly labor intensive, and in striving to reduce costs,
has moved production offshore to lower wage countries, with significant U.S. job
loss in that sector. As part of this process, and with the added incentive of CBI
benefits, U.S. firms invested in Central American and Caribbean countries to develop
assembly businesses that used mostly U.S. textiles as inputs. Although created as a
mutually beneficial pact, it was a controversial move because of the reliance on
foreign low-wage workers to the detriment of some U.S. employment. Many
economists argue, however, that the alternative would have been an even greater loss
of textile and garment jobs to Asian countries that use no U.S. inputs.10
Low-cost labor, however, is not the only, or even the most important, factor
driving competitiveness. Studies suggest that the economic and social networks that
developed between U.S. and Central American firms effectively created a
comparative advantage for the region in apparel exporting that has held up even with
the entry of China in the market.11 The key global challenge to this system comes
after 2004 when quotas are scheduled to end on textiles and apparel. Whether the
U.S.-Central American production relationship can withstand the expected increased
9 See CRS Report RL31723, Textile and Apparel Trade Issues, by Bernard A. Gelb.
10 ChacÃ³n, Francisco. International Trade in Textile and Garments: Global Restructuring
of Sources of Supply in the United States in the 1990s. Integration and Trade, Vol. 4, No.
11, May-August 2000. Inter-American Development Bank, Washington, D.C. and United
States International Trade Commission. Production-Sharing Update: Developments in 2002.
Industry Trade and Technology Review. November 2003. p. 12.
11 A more subtle distinction made by one economist notes that, â€œHow comparative advantage
is created matters. Low-wage foreign competition arising from an abundance of workers
is different from competition that is created by foreign labor practices that violate norms at
home. Low wages that result from demography or history are very different from low wages
that result from government repression of unions.â€ See Rodrik, Dani. â€œSense and Nonsense
in the Globalization Debate.â€ Foreign Policy. Summer 1997. p. 28.

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competition from large low-cost producers, such as China, is unclear, but CAFTA
is seen by some as a logical policy extension of a model intended to do so.12
Broader geopolitical and strategic concerns also sparked interest by all parties
in pursuing CAFTA. For example, proponents expect CAFTA to reinforce stability
in general by providing institutional structures that will undergird gains made in
democracy, the rule of law, and efforts to fight terrorism, organized crime, and drug
trafficking. CAFTA may also be a way to expand support for U.S. positions in the
FTAA, and in the event that the FTAA is delayed beyond its 2005 deadline, help
rationalize the system of disparate preferential trade agreements that currently define
Central American trade relations.
Critics of CAFTA point to equally broad themes, such as the pervasive social
and economic inequality in much of Central America, and so support labor and
environment provisions as important negotiating objectives. There is concern, for
example, over the adequacy of working conditions and core labor rights and whether
CAFTA can help change the situation, a reflection of the whole issue of â€œcivil
societyâ€™sâ€ role in the trade agreement that developed early in the negotiation process.
The broadest possible support for CAFTA is unlikely to materialize unless there is
some credible promise of accelerated social development, even if this is much to ask
of a trade agreement.
Strategic justifications may have helped get the process going, but ultimately it
is fair to ask what each side expects to gain commercially from the detailed
agreement that has emerged. The dollar value of U.S. trade with Central America
makes the region the United Statesâ€™ third largest Latin American trading partner;
right behind Brazil, although a distant third from Mexico. Although firms engaged
in this trade may find its effects significant, total CAFTA trade represents less than
1% of U.S. foreign commerce, and so would have only a small macroeconomic
effect.
For the United States, an FTA is a more balanced trade arrangement than the
unilateral preferences provided in the CBI. Market access (e.g., tariff rates, rules of
origin) was a core negotiating area. Although Central American tariffs are already
relatively low, they can be reduced further. In particular, U.S. business interests want
equal or better treatment than that afforded to exports from Canada and Mexico
based on their FTAs with Central American countries. Permanent and clarified trade
rules would also support the joint production arrangements already in place between
Central American and U.S. firms. Finally, as highlighted in the negotiations with
Chile, a bilateral agreement offers the United States a chance to address other trade
barriers that affect some of its most competitive industries. This includes clarifying
rules for the treatment of intellectual property, foreign investment, government
procurement, e-commerce, and services.
12 Gereffi, Gary. The Transformation of the North American Apparel Industry: Is NAFTA
a Curse or a Blessing? Integration and Trade. Vol. 4, No. 11. May -August 2000. Inter-
American Development Bank. Washington, D.C. pp. 56-57.

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From the Central American perspective, reducing barriers to the U.S. market
(especially for textile and agricultural products) and increasing foreign investment
were cause enough to proceed. This point is directed specifically at making
permanent the benefits Central America currently enjoys under the CBI legislation,
but which requires periodic reauthorization by Congress. This could increase U.S.
foreign direct investment (FDI) that developed the maquiladora relationship in the
first place and which supports Central Americaâ€™s export driven development strategy.
The Central American countries also faced important vulnerabilities, such as the
possibility that U.S. agricultural exports of key staples, such as corn and rice, might
overwhelm their small markets, causing huge displacement issues. Sensitivity to
these and other key industry sectors had to be considered.
Finally, two factors pointed to significant negotiation challenges. The first was
the need for better Central American integration. Individually, the Central American
countries may be too small to justify a U.S. bilateral agreement by themselves, and
also trade has been hampered within the subregion by cumbersome customs and
other rules. For CAFTA to work well, the United States needed some assurance that
goods could flow efficiently within the region. Second, much was made of the
difference in negotiating capacity between Central America and the United States.
U.S. and multilateral offers to assist these countries in developing such capacity were
viewed as generous, but also a little self-serving, which required a sensitive approach
to the whole negotiation process.
The Quest for Central American Integration
Because the Central American countries had to negotiate together, cooperation
was paramount. This is no small technical point; although the Central American
Common Market (CACM) has been in place for four decades, historically the
member countries have struggled to define unified positions in trade, a natural
consequence of trying to reconcile diverse national interests and economic
capabilities. The fact that Costa Rica took longer to conclude an agreement makes
the point.13
Since the Spanish colonial period, Central America has been an agricultural
exporting area, which by the modern period became concentrated in five major
commodities: bananas; coffee; sugar; beef; and cotton. The socioeconomic balance
that emerged from this trade regime was far from egalitarian. Economic gains have
been uneven. Concentrated land ownership led to highly skewed patterns of income
and wealth. Although underlying inequality was an inherent part of colonial Central
American society, the modern, foreign-dominated agricultural export model did little
to change this reality. The resulting highly stratified socioeconomic structure
fostered social discontent and political unrest, leading directly, and perhaps
13 This is not to suggest that all five countries were expected to strike the exact same bargain
with the United States in all cases, but that there was agreement among them regarding how
the final agreement was defined.

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unavoidably, to the turbulent 1970s and 1980s (see Appendix 2 for a comparison of
economic data among the five countries).14
There are important implications of this development pattern for regional
integration. The emphasis Central American leaders placed on economic integration
rested largely on expectations that the gains from economic growth and development
would be shared, at least among countries, if not within them. In the first two
decades of the CACM, economic analysis pointed to both static and dynamic gains
from trade. The CACM lowered and equalized external tariffs, expanded the internal
market, and helped diversify production and modernize economic activity. Benefits
arose from more open domestic policies as well as foreign investment and technology
transfer that accompanied trade. One study found that some of these gains were
shared broadly, as seen in lower prices and a greater selection of goods. Economic
integration, however, was not realistically expected to change the underlying social
and economic stratification that had dominated for centuries. What the CACM did
accomplish was to address, in part, the lack of opportunity that defined small closed
economies, presumably without introducing new distortions in trade relations.15
These gains were widely applauded in the first decade and intraregional trade
grew eight-fold from 1960 to 1968, when it peaked at 24% of total Central American
trade. After that, the CACM struggled as a unifying force for the region. Unequal
growth and development patterns eventually undermined the common market, largely
because of disappointment over efforts to achieve its unwritten, but widely accepted
goal of â€œbalanced development.â€ Historical inequalities among the five countries,
most evident between the two extremes of a relatively wealthy Costa Rica and a far
poorer Honduras, gave rise to chronic balance of payments problems. As economic
growth in Honduras continued to lag behind the rest, it pressured the common market
members to find a policy solution to the growing disparity in economic
performance.16
Unequal economic performance gave way to heated political debate and
eventually military conflict. The â€œSoccer Warâ€ between El Salvador and Honduras,
begun during the 1969 World Cup playoffs, was a major setback for the CACM
because the heart of this conflict was economic, arising out of long-term tensions
over land disputes and immigration pressures. The hostilities, although short-lived,
had lasting economic effects, with Honduras pulling out of the CACM and
suspending trade with El Salvador for over a decade. Despite these setbacks,
economic analysis strongly suggested that where reduced restrictions to trade were
14 An excellent discussion on the effects of the agricultural export model from a historical
basis may be found in: Brockett, Charles D. Land, Power, and Poverty: Agrarian
Transformation and Political Conflict in Central America. Boulder. Westview Press,
second edition, 1998. See especially pp. 93-94.
15 Cline, William R. and Enrique Delgado, eds. Economic Integration in Central America.
Washington, D.C. The Brookings Institution, 1978. pp. 405-10.
16 Ibid., pp. 30-45 and Carl, Beverly M. Trade and the Developing World in the 21st
Century. New York, Transnational Publishers, Inc, 2001. p. 106.

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allowed to operate, net welfare gains could be found for all countries, even if not
shared equally.17
The 1980s led off with the fall of the Somoza dictatorship in Nicaragua, civil
war in El Salvador, the 1982 Latin American debt crisis, and military repression in
other parts of Central America. Between a growing political mistrust and the
collapse of economic fundamentals, intraregional trade was halved by 1986, falling
to 15% of total trade. Policies meant to correct foreign debt buildup and balance of
payments problems resulted in increased non-tariff barriers, reducing trade growth
throughout the region. Over time Central America moved away from low value-
added primary-goods exports, and through this diversification process, there emerged
a renewed sense that the region would be served better by engaging the world as a
bloc, rather than individually.
As with most of Latin America, it took more than a decade for Central America
to recover economically from the 1980s downturn (see Appendix 2). A revived
commitment to deeper integration was codified in the 1991 Protocol of Tegucigalpa
that established the Central American Integration System, which operates as a
regional umbrella organization and includes Panama. Since then, most Central
American countries have experienced noticeable increases in trade as a percentage
of economic activity (see Table 1), although at levels that still leave much room for
growth, especially for countries with small internal markets.
Table 1. Central American Exports as % of GDP
Country
1991 Exports/GDP
2001 Exports/GDP
Costa Rica
22.8
31.0
El Salvador
11.3
20.8
Guatemala
12.8
14.2
Honduras
26.7
31.7
Nicaragua
21.4
32.6
Data Source: IMF, International Financial Statistics, and Central Banks of Costa Rica, El Salvador,
Guatemala, Honduras, and Nicaragua.
In 1993, the Protocol of Guatemala modified commitments of the original
CACM treaty, calling for deeper economic and political cooperation. This took form
in policies such as establishing a new common external tariff (CET) with a floor of
zero and a cap of 15%. This and other rules, however, were phased in at the
discretion of each country, so the prospects for deeper integration rests on a
17 Cline and Delgado, op.cit., pp. 22-23, 39-41, 110-15, and 296-300. Honduras actually
raised its tariffs for all CACM members and then proceeded to negotiate more limited
bilateral agreements with individual CACM countries, with the exception of El Salvador.
The Central American Bank for Economic Integration took responsibility for providing
resources to address uneven development issues. Interestingly, Honduras had the highest
level of outstanding loans (relative to total economic output) in the first two decades, but
this had failed to keep hostilities at bay.

CRS-10
foundation of flexibility that has served to unify the member countries by recognizing
their varying abilities to implement the agreementâ€™s provisions.18
This flexibility has been useful in CACMâ€™s trade agreement negotiation process
as well. The CACM has initiated negotiations for FTAs with both Chile and the
Dominican Republic, among others, setting a precedent for intra-regional cooperation
in trade negotiations. Individual countries, however, are also pursuing bilateral
agreements with various Latin American countries, again pointing to the fluid nature
of the CACM, but also blurring the distinction between the CACM operating as a
free trade area rather than a customs union with a well-defined and fully observed
common external tariff. This system raises a number of potential legal confusions
for international firms wishing to trade or operate in one or more of the Central
American countries.19
Such a concern has not been lost on the CACM countries. On March 24, 2002,
they signed a plan of action to move forward on integration issues including tariff
harmonization, reducing non-tariff barriers, finalizing dispute settlement procedures,
and developing a common foreign trade policy.20 Although it is unclear how soon
all these goals can be reached, the continuing commitment to regional integration
remains alive.
U.S.-CAFTA Country Trade Relations
â€œDockingâ€ the Dominican Republic FTA to CAFTA adds the largest of what
would be six trading partners covered by the two agreements. U.S. exports to the
Dominican Republic are nearly 25% greater than Costa Ricaâ€™s, the largest U.S.
trading partner in Central America. What makes the process feasible is the
Dominican Republicâ€™s willingness to accept the basic framework and rules of
CAFTA, while negotiating market access and other issues bilaterally, as was done
with each of the five Central American republics. In addition, the Dominican
Republicâ€™s economy and export regime are, in many ways, similar to those of Central
America. U.S.-Dominican Republic trade has been added to this report and is
discussed separately.
U.S.-Central American Trade
Because of its huge size and geographical proximity, the U.S. market has been
a natural destination for Central American exports. Merchandise trade with the
United States has dominated Central Americaâ€™s foreign commerce for 150 years, and
as seen in Figure 1, remains in that dominant role today. The United States is by far
the largest of Central Americaâ€™s trading partners, accounting for some 57% of its
18 Inter-American Development Bank. Integration and Trade in the Americas: Periodic
Note. Washington, D.C. December 2000. pp. 34-35.
19 Ibid., p. 35-36 and Carl, op. cit., pp. 110-11.
20 Inter-American Development Bank. Institute for Integration of Latin America and the
Caribbean. Monthly Newsletter. April 2002.

CRS-11
exports and 41% of its imports. The rest of Latin America collectively is the next
largest trading partner, accounting for 19% of Central Americaâ€™s exports and 28%
of its imports. The European Union and Asia together account for about 17% of
Central American exports and 19% of imports.
Figure 1. Central Americaâ€™s Direction of Merchandise Trade, 2002
Asia
European Union
European Union
Asia
3.0%
13.6%
8.9%
9.7%
Latin America
Latin America
19.1%
27.5%
United States
United States
Other
40.5%
57.3%
7.0%
Other
13.4%
Central American Exports
Central American Imports
Data Source: IMF, Direction of Trade Statistics, September 2003.
This distribution is not uniform throughout the region. Honduras, for example,
exports 70% of its merchandise goods to the United States, compared to 45% for
Costa Rica. Honduras also has the highest import percentage from the United States
at 55% compared to Nicaraguaâ€™s 24%, which is the lowest. Total trade (exports plus
imports) with the United States is also somewhat uneven country by country. Costa
Rica accounts for one-third of total Central American trade with the United States,
whereas Nicaragua amounts to only 7% of the total. Guatemala, Honduras, and El
Salvador account for 25%, 22%, and 12% respectively.
Trade volume with the United States varies among countries, but in most cases
the trend has been one of growth at a rate higher than the average for U.S. trade with
the world. Over the past six years, U.S. exports to Central America grew by 29.2%
(22.1% including the Dominican Republic), compared to 6.1% with the world and
5.2% with Latin America as a whole (see Appendix 3 for the data). U.S. imports
from Central America increased by 34.1% (23.1% including the Dominican
Republic) over the same time period, compared to 38.1% from the world and 49.7%
from Latin America.
For 2003, although trade growth varied among the five countries, U.S. export
growth to Central America far exceeded average export growth to the world. U.S.
merchandise exports to the world expanded by 4.4%, whereas exports to Central
America grew by 10.4% (7.0% including the Dominican Republic), with all five
countries experiencing solid growth. U.S. imports from Central America, by

CRS-12
contrast, grew at a much smaller rate than average import growth from the world.
U.S. imports from the world advanced by 8.4% in 2003, compared to 4.6% from the
Central American countries (5.2% including the Dominican Republic), all of which
experienced growth in the U.S. market over the last year.21
As these trends suggest, the United States tends to run small merchandise trade
deficits with all the Central American countries and the Dominican Republic. In
part, this is the nature of a production-sharing trade relationship, where parts and
materials are sent abroad for value-added processing and then returned to the United
States. Importantly, when services trade is added to the trade balance, the United
States tends to run trade surpluses with all these countries. This trend, too, is
indicative of the basic relationship between the United States, a service-based
economy, and developing countries.22
U.S. Imports. The major U.S. imports from Central America fall into three
main categories: fruit (mostly bananas) and coffee; apparel; and integrated circuits.
These three distinct categories, for various reasons, are not traded uniformly by the
five countries (see Table 2). First, Central America has traditionally exported
bananas and coffee, which is dominated by Costa Rica and Guatemala. Coffee has
actually declined for all countries except Costa Rica and constitutes only 3.2% of
U.S. imports from the region. This reflects the competitive nature of trade in coffee,
which is grown in vast quantities by Brazil, Colombia, and countries in Africa as
well. Banana trade has also declined in importance and accounts for only 5.4% of
U.S. imports from Central America.
Second, apparel has become the primary export good for all countries except
Costa Rica and accounted for nearly 60% of total U.S. imports from Central America
in recent years. As discussed above, the U.S. Congress has encouraged this trade by
enacting the CBI program in 1984, and amended it most recently in the CBTPA in
2000. Over 75% of apparel imported from all eligible countries in 2002 was sewn
from U.S. fabric and 95% of the amount that entered duty-free came from CAFTA
countries. This amounted to 79% of total apparel imports (including non-production-
sharing apparel imports) from eligible Caribbean countries in 2002. Honduras had
28% of the total, followed by the Dominican Republic with 27%, El Salvador with
19%, Guatemala with 11%, Costa Rica with 9%, and Nicaragua with 2%. Under the
CBTPA, these countries may engage in greater value-added operations such as
cutting and dyeing, which has allowed them to remain competitive with low-cost
Asian exports.23
21 Calculations are made from trade data compiled by the U.S. Department of Commerce.
Merchandise trade data have a two-month lag time from the time the goods enter the country
until they are reported. Services trade data have a much longer lag time and are not readily
available for many small U.S. trading partners, such as the Central American countries.
22 This trend is not disputed, but the U.S. Department of Commerce does not disaggregate
bilateral services trade data for the Central American countries. Estimates are provided in
some of the Country Commercial Guides produced by Commerce based on foreign country
reporting.
23 United States International Trade Commission. Production-Sharing Update:
(continued...)

CRS-13
Table 2. Top Eight U.S. Merchandise Imports from Central
America, 2003
($ millions)
Costa
Product and HTS Number
Total
Hon
Guat
El Sal
Nic
Rica
Total U.S. Imports
12,407
3,362
3,312
2,945
2,019
769
Knit Apparel (61)
4,737
309
1,887
1,076
1,318
147
Woven Apparel (62)
2,388
282
680
686
403
337
Edible Fruit & Nuts (08)
1,022
519
150
337
1
15
Bananas (0803)
(655)
(273)
(111)
(259)
(0)
(11)
Electrical Machinery (85)
975
814
98
2
34
39
Integrated circuits (8542)
(623)
(623)
(0)
(0)
(0)
(0)
Optical/Med. Equip. (90)
489
480
0
9
0
0
Spices, Coffee, Tea (09)
453
126
26
216
45
40
Coffee (0901)
(446)
(125)
(24)
(213)
(45)
(39)
Fish and Seafood (03)
293
69
124
21
19
70
Mineral Fuel, Oil (27)
181
4
0
177
6
0
Other
1,869
759
347
421
193
121
Top 8 Imports as % of Total
82.3
70.8
89.5
83.3
89.4
81.4
Data Source: U.S. Department of Commerce.
#HTS = Harmonized Tariff Schedule
Third, Costa Rica stands alone in having attracted $500 million in foreign direct
investment to construct a computer chip assembly and testing plant, which has
become its major export generator. This investment was augmented by an additional
$110 million in October 2003 for the production line of â€œchipsetsâ€ for personal
computers. In 2003, U.S. imports of integrated circuits grew by 39% on a dollar-
value basis and constituted 18% of total imports from Costa Rica. Similar growth
may be seen in imports of Costa Ricaâ€™s medical equipment, another indicator of its
relatively sophisticated production capabilities. Costa Rica is the fastest growing and
most diversified trader in Central America, which explains, in part, why it has
outpaced its neighbors on the development path and has been the leading advocate
of CAFTA.24
Many non-apparel items that the United States imports from Central America
face minimal or no tariffs. Bananas, coffee, oil, most fish products, and Costa Ricaâ€™s
integrated circuits and medical equipment enter duty free. Some enter the United
States under preferential arrangements, but the majority is free of duty under normal
(most favored nation â€” MFN) tariff rates. Apparel was technically excluded from
preferential treatment under CBI, but under a special access program (SAP), eligible
23 (...continued)
Developments in 2001. Industry Trade and Technology Review. November 2003. pp. 13,
21-22, 28, B1-4.
24 Hufbauer, Kotschwar, and Wilson, op. cit., p. 1003.

CRS-14
Central American apparel exports receive preferential treatment under production-
sharing arrangements (Chapter 98 of the Harmonized Tariff System â€” HTS). This
arrangement was extended under the Caribbean Basin Trade Partnership Act
(CBTPA) in October 2000 (P.L. 106-200), which allows duty-free and quota-free
treatment of apparel imports if assembled in the Central American countries from
fabrics made in the United States made of U.S. yarns, whether the fabrics were cut
to shape in the United States or Central America.25
U.S. Exports. The major U.S. exports to Central America include electrical
machinery; apparel; plastic; yarns; and fabric (see Table 3). Many of these goods are
processed in some form and re-exported back to the United States under production-
sharing arrangements. For example, nearly 60% of electrical machinery exports to
Central America is integrated circuits going to Costa Rica for processing and re-
export. The same may be said for fabric and yarns that are exported to all five
countries, sewn and otherwise assembled, and re-exported back to the United States.
Some of these goods are consumed in the CAFTA countries along with capital goods
(machinery and parts) and agricultural products.
Table 3. Top Eight U.S. Merchandise Exports to Central
America, 2003
($ millions)
Costa
Product and HTS Number#
Total
Hon
Guat
El Sal
Nic
Rica
Total U.S. Exports
10,859
3,414
2,845
2,274
1,824
503
Elec Machinery (85)
1,659
1,237
84
177
111
51
Integrated circuits (8542)
(999)
(997)
(0)
(1)
(1)
(0)
Knit Apparel (61)
821
103
423
36
252
8
Machinery (84)
993
307
224
220
195
48
Office Mach. Parts (8473)
(175)
(76)
(23)
(47)
(20)
(11)
Computer Parts (8471)
(139)
(48)
(13)
(33)
(35)
(9)
Knit/Crocheted Fabric (60)
663
34
340
16
266
8
Plastic (39)
574
256
81
147
79
11
Cotton Yarn (52)
570
13
307
165
74
11
Woven Apparel (62)
501
141
254
37
33
36
Cereals (10)
447
109
77
107
104
50
Corn (1005)
(196)
(57)
(29)
(54)
(47)
(8)
Wheat and Meslin (1001)
(162)
(34)
(27)
(44)
(39)
(18)
Rice (1006)
(87)
(17)
(20)
(9)
(17)
(23)
Other
4,631
1,214
1,055
1,369
710
280
Top 8 Exports as % of Total
57.4
64.4
63.0
40.0
61.1
44.3
Data Source: U.S. Department of Commerce.
#HTS = Harmonized Tariff Schedule
25 For the technical details of this arrangement, see CRS Issue Brief IB95050, Caribbean
Basin Interim Trade Program: CBI/NAFTA Parity, by Vladimir N. Pregelj.

CRS-15
The same distinctions seen in U.S. import trade are evident in U.S. exports. In
2003, 73% of knit and woven apparel and 80% of knit, cotton, and yarn fabric went
to Honduras and El Salvador. These two countries are the heart of the maquiladora
relationship. Although the United States exports machinery and parts to all five
countries, electrical machinery and particularly integrated circuits, are sent to Costa
Rica. All five countries import U.S. cereals and some, such as corn and rice, are
among the more import sensitive products that the Central American countries would
like to continue protecting.26
The significant aspects of this trade structure are that it reflects: 1) growing U.S.
direct investment over the long run; 2) a deepening economic integration; and 3) the
continued historical trend of regional dependence on the large U.S. market as an
important aspect of trade and development policy.
U.S.-Dominican Republic Trade
The Dominican Republic is the 26th largest U.S. export market (5th in the
Western Hemisphere) and ranks as the 38th largest import country (7th in the Western
Hemisphere). More so than any of the Central American countries, Dominican trade
is dominated by the United States (see Table 4 for details). The United States
absorbs 85% of its exports, with 10% going to other developed countries and only
5% entering developing countries. The Dominican Republic imports 49% of its
merchandise goods from the United States, 17% from other developed economies,
and 34% from various developing countries. Although the largest of the CAFTA
trading partners, U.S. exports actually declined by nearly 1% in 2003 because of a
severe economic downturn in the Dominican Republic.
Table 4. U.S.-Dominican Republic Merchandise Trade, 2003
U.S. Exports (by product
U.S. Imports (by product
$ millions
$ millions
and HTS Number*)
and HTS Number*)
Electrical Machinery (85)
431
Woven Apparel (62)
1,241
Oil (not crude) (27)
366
Knit Apparel (61)
858
Knit Apparel (61)
344
Medical Instruments (90)
450
Cotton Yarn, Fabric (52)
248
Electrical Machinery (85)
377
Plastic (39)
243
PreciousStones/Jewelry (71)
277
Woven Apparel (62)
235
Tobacco (24)
208
Machinery (84)
212
Footwear (64)
138
PreciousStones/Jewelry (71)
195
Plastic (39)
120
Other
1,940
Other
786
Total
4,214
Total
4,455
Top 8 Exports as % of Total
54%
Top 8 Imports as % of Total
82%
Data Source: U.S. Department of Commerce. #HTS = Harmonized Tariff Schedule
26 USITC, Production-Sharing Update: Developments in 2001. Industry Trade and
Technology Review. July 2002. pp. 39-42, B1-4

CRS-16
The joint-production arrangements of U.S.-Dominican trade are evident in
apparel and jewelry-making industries, as seen in Table 4. Apparel and textiles
constitute 20% of U.S. exports and 50% of U.S. imports. Other significant U.S.
exports include various types of machinery, refined oil products, and plastic. Other
important U.S. imports include medical instruments, electrical machinery, tobacco,
and plastic. In many ways, the structure of the U.S.-Dominican trade is similar to
that of U.S.-CAFTA trade, and hence the economic logic of â€œdockingâ€ it to the
Central American agreement.
U.S. Foreign Direct Investment
The CAFTA countries also benefit from foreign direct investment (FDI) as part
of the trade relationship with the United States, which is the largest foreign investor
in all six countries. To the extent that an FTA can be considered a stabilizing factor
in economic relationships, it is expected to encourage more FDI and thereby promote
longer term economic growth and development. U.S. FDI in the CAFTA countries
is presented in Table 5. The trends suggest that U.S. direct investment in the area
is relatively small and has grown erratically in recent years. Investment patterns have
also been skewed toward Costa Rica, which has over half of U.S. FDI in Central
America.
Table 5. U.S. Foreign Direct Investment (FDI) in CAFTA
Countries
($ millions)
Country
1999
2000
2001
2002
Costa Rica
1,493
1,716
1,677
1,602
El Salvador
621
540
361
580
Guatemala
478
835
389
391
Honduras
347
399
242
184
Nicaragua
119
140
157
242
Total Central America
3,058
3,630
2,826
2,999
Dominican Republic
968
1,143
1,233
1,123
Total CAFTA
4,026
4,773
4,059
4,122
Data Source: U.S. Department of Commerce. Bureau of Economic Analysis. Available at the
website at [http://www.bea.doc.gov/bea/di/usdlongcty.htm].
Data reflect stock of FDI presented on a historical-cost basis.
Status of Trade Negotiations and Policy Issues
All CAFTA-related negotiations were finally concluded on March 15, 2004, at
which time all five Central American countries, and separately the Dominican
Republic, had agreed to two FTAs that will be joined. President George W. Bush
formally notified Congress of his intention to sign CAFTA on February 20 and the
FTA with the Dominican Republic on March 24, 2004. USTR Robert B. Zoellick
and the five Central American trade ministers signed CAFTA on May 28, 2004, but

CRS-17
action still awaits on the U.S.-Dominican FTA. The Bush Administration does not
anticipate sending implementing legislation to Congress until after the November
2004 elections. The CAFTA negotiations were ground-breaking in trying to navigate
the needs of five (and eventually six) different U.S. trading partners within a
â€œbilateral framework.â€ The unusual nature of the process was reflected in the three
months that elapsed from the time the agreement was agreed to by four Central
American countries and when Costa Rica and the Dominican Republic acceded.
CAFTA was negotiated, in part, as a regional agreement in which all parties
would be subject to the â€œthe same set of obligations and commitments,â€ but with
each country defining its own separate schedules for market access on a bilateral
basis. The flexibility of this framework allowed Costa Rica to negotiate longer, and
for a slightly different arrangement than the other four Central American countries,
each of which also negotiated separate market access schedules. It is also what will
allow the Dominican Republic to be added at a later date.
Costa Ricaâ€™s delay centered on resolving details over how it would open its
state-run insurance and telecommunications industries, and the treatment of certain
sensitive agricultural products. In addition, it wanted special duty-free treatment
extended to apparel products made from materials outside the region, arguing that
because it has higher labor costs and standards, it should be allowed to deviate from
rules requiring the use of higher-cost U.S. materials. Costa Rica faces a serious
political challenge to opening its services industries and argued that a rebalancing of
the agreement in other areas was a necessary quid pro quo for CAFTA to be accepted
by its Congress. A compromise was struck eventually.27
The Dominican Republic was another matter. The United States originally
negotiated CAFTA with just the five Central American republics in mind. In fact,
the Central American countries first approached the United States separately as a
group because they already had a common market and a history of negotiating trade
agreements collectively. The Dominican Republic, however, has a similar economy,
an FTA with Central America, and solid political constituency in the United States,
making it a natural fit with CAFTA. So from the beginning, the U.S.-Dominican
agreement was negotiated with an eye on integrating it with CAFTA.
The USTR released CAFTA and U.S.-Dominican FTA draft texts on January
28, 2004 and April 9, 2004, respectively, which are the basis for the following
discussion. Both have undergone final revisions for legal clarity and accuracy. A
summary of the issues follows, organized topically by the five working groups and
capacity building.28 CAFTA is a comprehensive and reciprocal trade agreement,
27 This summary is based on news accounts and discussions with representatives of the
Costa Rican government. See Government of Costa Rica. Ministry of Foreign Trade. Press
Release: Central America â€” U.S. Free Trade Negotiations. December 18, 2003.
28 Bowing to Central Americaâ€™s limited resources and desire to consolidate negotiations, the
United States agreed to establish only five working groups responsible for: 1) market access
(including agriculture); 2) investment and services; 3) government procurement and
intellectual property; 4) labor and environment; and 5) dispute settlement and other
(continued...)

CRS-18
which distinguishes it from the CBI unilateral preferential arrangement between the
United States and these countries. In addition to detailed rules governing market
access, CAFTA potentially opens up opportunities for highly competitive U.S.
sectors by addressing services, government procurement, intellectual property, and
investment.
Market Access
The market access working group focused on key issues determining the tariff
structures and rules that would govern the movement of commercial, industrial, and
agricultural goods. Chapter 3, Market Access for Goods, and Chapter 4, Rules of
Origin, define most of these rules. Market access covers provisions that eliminate
or reduce barriers to trade such as tariffs, quotas, and safeguards. Rules of origin
detail which goods would be eligible for preferential treatment based on their
regional content, with the intent of preventing transshipment of goods from countries
outside the agreement. With the exception of safeguard language allowing for the
imposition of additional duties if imports cause or threaten to cause serious injury to
a domestic industry, trade remedy issues (antidumping and countervailing duties) are
not addressed in CAFTA.
The CAFTA countries had two important goals. First, consolidate access to the
U.S. market, which meant clarifying, making permanent, and improving on
preferential tariff treatment currently applied to many of their major exports under
the CBI and the Generalized System of Preferences (GSP). Second, specify rules for
safeguards and tariff rate quotas (TRQs) to assure domestic producers of recourse
should there be a spike in imports of sensitive goods from the United States (e.g.
beef, pork, corn, and rice). For the United States, CAFTA would change the trade
arrangement with Central America from one based on unilateral trade preferences to
a bilateral FTA. The United States sought equal or better treatment than what other
countries receive (especially Canada and Mexico) under their FTAs with Central
America, including obtaining access for sensitive agricultural products. In addition,
it had to address sensitive product issues as well, such as sugar and apparel. These
goals are set out in detailed schedules for each country.
Annex 3.3 of CAFTA defines the tariff elimination â€œstaging categories.â€ Each
traded good falls into one of eight different categories labeled A through H, which
defines the time period over which duties will be eliminated. Many goods would
attain immediate duty-free treatment, while others would have tariffs phased out
incrementally so that duty-free treatment is reached in 5, 10, 15, or 20 years from the
time the agreement takes effect. Duty-free treatment would be delayed for the more
sensitive products, and in some cases, the tariff reductions would not begin until 7
or 12 years into the agreement.
28 (...continued)
institutional issues. In addition, there is a non-negotiating multi-agency effort responsible
for supporting trade capacity building (TCB). By contrast, the U.S.-Chile negotiations used
17 working groups and the FTAA negotiations utilize nine, plus three non-negotiating
support groups.

CRS-19
According to the USTR, if CAFTA enters into force, 81% of non-agricultural
and non-textile exports would become duty-free immediately, with all tariffs
removed within 10 years (covering staging categories A, B, and C). Tariffs would
go to zero immediately on many product categories including information technology
products, agricultural and construction equipment, paper products, chemicals, and
medical/scientific equipment. For the Central American countries, benefits received
under the CBI would become permanent, allowing 100% of non-agricultural and non-
textile goods to enter the United States duty free immediately.29
Agriculture and apparel goods, Central Americaâ€™s major exports, were the most
difficult market access issues to resolve.30 Domestic support programs were not
addressed in CAFTA, but major strides were made to reduce tariffs, the major trade-
distorting policy, and also to provide generous transition schedules to all countries
with sensitive agricultural products. Agricultural products have the most generous
tariff phase-out schedules, with up to 20 years for some products (e.g. rice and dairy).
This approach acknowledges that countries dependent on small subsistence farms
require time to accommodate the structural adjustment taking place as their
economies transition toward larger farms, manufacturing, and services.31 All
agricultural goods would eventually become duty-free except for sugar in the United
States, fresh potatoes and onions in Costa Rica, and white corn for the other Central
American countries. Over half of current U.S. farm exports to Central America
would become duty free immediately, including high quality cuts of beef, cotton,
wheat, soybeans, certain fruits, and vegetables, processed food products, and wine.
At the same time, the U.S. conceded to slight increases in sugar quotas for all six
countries, which remains a controversial provision.32
Many agricultural products would be subject to tariff-rate quotas, or limits on
the quantity of imports that can enter the United States before a higher tariff is
applied. The phased reduction in agriculture protection also includes the transitional
use of price and volume-triggered safeguards, or applying temporarily an additional
duty on products that are being imported in quantities deemed a threat to the
domestic industry.33 Export subsidies would be eliminated except when responding
29 Office of United States Trade Representative. Free Trade with Central America:
Summary of the U.S.-Central America Free Trade Agreement. p. 1. Hereafter cited as the
CAFTA Summary. It may be found at [http://www.ustr.gov].
30 For more details, including sanitary and phytosantiary (SPS) provisions, see CRS Report
RL32110, Agricultural Trade in a U.S.-Central American Free Trade Agreement (CAFTA),
by Remy Jurenas.
31 Salazar-Xirinachs, Jose M. and Jaime Granados. The United States-Central America Free
Trade Agreement: Opportunities and Challenges. Paper prepared for the Institute for
International Economics Conference on â€œFree Trade Agreements and U.S. Trade Policy,
May 7-8, 2003. Washington, D.C. p. 19
32 U.S. Sugar Industry Group. Press Release: Mexican and US Sugar Industries Jointly
Oppose CAFTA Sugar Provisions. December 18, 2003.
33 For example, in the case of beef, the Central American countries have agreed to the
immediate elimination of tariffs on U.S. prime and choice cuts, but have a 15-year tariff
(continued...)

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to third party export subsidies. The United States would be able to impose a sugar
price mechanism to compensate sugar exports in lieu of according duty-free
treatment.
Apparel trade was the other major market access complication, with differing
opinions on CAFTA emanating from different subgroups. In general, apparel
representatives are on record as supporting CAFTA, whereas there is some
disagreement among the textile producers in the United States over whether CAFTA
would enhance the existing strategic partnership. Differences arose over detailed
elements of the agreement rather than the overall design, which is based on
reciprocity, flexibility, and transparency. Also, most supported the provision that
would make the textile portions retroactive to January 1, 2004 because it would be
â€œa powerful incentive to anchor apparel sourcing in the region in preparation for the
January 1, 2005 phase out of quotas,â€ which will increase competitive pressure from
China and other Asian apparel sources.34
Central American and Dominican apparel has been entering the United States
duty free for years provided it is assembled from U.S. materials under the so-called
â€œyarn forwardâ€ rule. This rule was widely supported as defined in CAFTA, but some
textile producers registered concern that it is overly restrictive. The CAFTA
countries wanted as much flexibility as possible to use fabrics from third countries.
Under the cumulation rule, CAFTA would allow duty-free treatment to be extended
selectively, and on a limited basis, to CAFTA products made from NAFTA-partner
materials, a new step toward integrating apparel manufacturing in the region. Duty-
free treatment would also be extended to goods with limited amounts of material
from third countries, which also engendered disagreement. There was also
considerable debate over the expanded â€œshort-supplyâ€ list (Annex 3.25), or duty-free
access given to goods made from a specific list of fabrics that are determined to be
in â€œshort supplyâ€ in the United States. In addition, Nicaragua, because of its lagged
development relative to the rest of the region, would receive special trade preference
levels (TPLs), criticized by some textile groups, that would allow additional duty-free
treatment for specified articles.35
Investment and Services
In 2002, the United Statesâ€™ stock of foreign direct investment (FDI) in the
CAFTA countries was $4.1 billion, which represents only 1.5% of U.S. FDI in Latin
33 (...continued)
phase-out on other products, with a backloaded schedule (no tariff reductions in the early
years) and a safeguard. The United States has a 26% out-of-quota tariff on beef that will be
phased out over 15 years, with the quota schedule defined for each country.
34 USTR. Report of the Industry Sector Advisory Committee on Textiles and Apparel.
March 2004.
35 Inside U.S. Trade. CAFTA Textile Rules Pave Way for Increase in Foreign Fabric Use.
December 19, 2003 and Press Release. NTA Denounces CAFTA as Threat to U.S. Textile
Industry. December 18, 2003 and USTR, CAFTA Summary, p. 2. Nicaragua received
special preferential treatment for certain â€œnon-originating apparel goodsâ€(Annex 3.27) and
Costa Rica received limited special treatment for certain wool apparel goods (Annex 3.28).

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America and the Caribbean. Nearly 40% of the FDI in CAFTA countries went to
Costa Rica. The United States has advocated clear and enforceable rules for foreign
investment in all trade agreements, which is largely accomplished by â€œstandardâ€
language requiring national and most-favored-nation (nondiscriminatory) treatment.
CAFTA would clarify rules on expropriation and compensation, investor-state
dispute settlement, and the expedient free flow of payments and transfers related to
investments, with certain exceptions in cases subject to legal proceedings (e.g.
bankruptcy, insolvency, criminal activity). Transparent and impartial dispute
settlement procedures would provide recourse to investors.
Two investment issues stand out. First, the CAFTA countries requested greater
flexibility in the treatment of certain sovereign debt. Annex 10-A allows sovereign
debt owed to the United States that has been suspended and rescheduled not to be
held subject to the dispute settlement provisions in investment chapter, with the
exception that it be given national and MFN treatment. Annex 10-E extends from
six months to one year the amount of time required before a U.S. investor may seek
arbitration related to sovereign debt with a maturity of less than one year. Both
provisions are intended, in the event of a financial crisis, to keep CAFTA from
interfering in any sovereign debt restructuring process, and are viewed by the U.S.
Treasury as an accommodation to Central American interests.
A second issue involves provisions covering indirect expropriation, which
protects foreign-owned property from government regulation and other action that
may have a negative effect â€œtantamount to expropriating the property.â€ Claims made
under NAFTA against U.S. environmental laws is one prominent example. The TPA
provisions called for a tightening of these provisions to make such claims harder to
pursue in accordance to U.S. legal standards, which was effectively accomplished in
both the U.S.-Chile FTA and CAFTA.36 Some parties have argued against any
recourse to indirect expropriation, believing that it impinges on a governmentâ€™s
ability to regulate, despite it being a well-established principle. Other groups have
disagreed over its application.
Services trade presented a number of hurdles given that the Central American
countries have adopted few commitments of the WTOâ€™s General Agreement on
Trade in Services (GATS). There are also many industry-specific barriers that exist,
such as: barriers to foreign insurance companies in Guatemala; â€œheavyâ€ regulation
licensing of foreign professionals in Honduras; local partner requirements in some
financial services in Nicaragua; and numerous services monopolies in Costa Rica
(insurance and telecommunications).37 CAFTA would provide broad market access
for most industries including telecommunications, financial services, distribution
services, computer and business technology services, tourism, and many others.
Banks and insurance firms would have full rights to establish subsidiaries, joint
36 For details, including how the provisions evolved from NAFTA to the U.S.-Chile FTA,
see CRS Report RL31638, Foreign Investor Protection Under NAFTA Chapter 11, by
Robert Meltz. pp. 11-14.
37 USTR. 2003 National Trade Estimate Report on Foreign Trade Barriers.

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ventures, and branches. Regulation of service industries is required to be transparent
and applied on an equal basis.38
Costa Rica and the United States agreed to negotiate bilaterally on a number of
key issues considered unique to Costa Rica. One of them was the language covering
opening of state-run telecommunications and insurance industries, where there has
been strong political resistence to deregulation.39 Unlike the other countries, doing
so would constitute a major structural adjustment for the Costa Rican economy, have
implications for Costa Rican social policy, and require amending the constitution, all
of which, the Costa Ricans argued, would be difficult for their legislature to support
without concrete tradeoffs in other areas, such as agriculture and textiles. These
issues were resolved in two week-long discussions held in January 2004 and their
detailed commitments are presented in the relevant chapters of CAFTA.
Government Procurement and Intellectual Property Rights
These two areas were also of particular interest to the United States. CAFTA
was seen as an opportunity to remedy many deficiencies and move toward strong
enforcement of standardized practice in the region. None of the five Central
American countries is a signatory to the WTO Agreement on Government
Procurement and allegations against the various purchasing processes vary from
dissatisfaction with less than transparent and cumbersome procedures in Costa Rica
to outright corruption in Guatemala. El Salvador and Nicaragua passed new
government procurement laws in 2000 and Honduras followed in 2001, and in
general, there have been improvements in all countries in dealing with project
bidding, although transparency issues remain.40 In part, this is due to a lack of
incentives given that many of these countries would not be able to compete in the
U.S. government procurement market.41
CAFTA would grant non-discriminatory rights to bid on contracts from Central
American ministries, agencies, and departments, with the exception of â€œlow-value
contractsâ€ and other exceptions. It would also call for procurement procedures to be
transparent and fair, including clear advance notices of purchases and effective
review. Specific schedules detailing exceptions and limitations were written by each
country, covering such diverse issues as the sale of firearms to supplying school
lunch programs. CAFTA would also make clear that bribery is a criminal offense
under the laws of all countries.42
All Central American countries are revising, or have revised, their intellectual
property rights (IPR) laws and some are closing in on complying with the WTO
Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPS). That
38 USTR, CAFTA Summary, p. 2-3.
39 Salazar-Xirinachs and Granados, op.cit., p. 22-23.
40 USTR, 2003 National Trade Estimate Report on Foreign Trade Barriers.
41 Salazar-Xirinachs and Granados, op.cit., p. 25-26.
42 USTR, CAFTA Summary, p. 5.

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said, all countries are subject to criticism for falling short on either clarifying or
enforcing penalties for noncompliance and in some cases have simply not adopted
reforms that many U.S. industries (e.g., sound and video recordings, pharmaceuticals,
book publishing, computer software) consider necessary to protect their intellectual
property. Piracy, incomplete or inadequate legal protection, and enforcement
capacity remain problems and ongoing concerns exist across the range of IPR issues
of patents, trademarks, and copyrights, covering print, electronic, and other media.43
The IPR provisions in CAFTA would provide that U.S. and Central American
businesses receive equal treatment in all areas and that the CAFTA countries ratify
or accede to various international IP agreements. Trademarks would benefit from a
transparent on-line registration process and special system to resolve disputes over
internet domain issues, among other benefits. Copyright provisions would clarify use
of digital materials including rights over temporary copies of works on computers
(music, videos, software, text), sole author rights for making their work available on-
line, extended terms of protection for copyrighted materials, strong anti-
circumvention provisions to prohibit tampering with technologies, the requirement
that governments use only legitimate computer software, the prohibition of
unauthorized receipt or distribution of encrypted satellite signals, and rules for
liability of internet service providers for copyright infringement. Patents and trade
secrets rules would conform more closely with U.S. norms. End-user piracy would
be criminalized and all parties would be required to authorize the seizure, forfeiture,
and destruction of counterfeit and pirated goods. CAFTA would also mandate
statutory damages for copyrighted material.44
For many countries, these commitments require significant changes in law,
which may prove politically challenging in countries where there is no tradition of
strong IPR protection. In general, there is a concern that strict IPR provisions may
impede technology transfer to the CAFTA countries. Pharmaceutical products is one
high profile case, pitting the social concern for making drugs available at an
â€œappropriate priceâ€ (branded versus generic) against the needs of the industry to
recover the high costs of research and navigating the regulatory process. Rules
governing the protection of firm and industry research data has also inflamed the
debate of pharmaceuticals. These issues, and more basic concerns over piracy,
present huge legislative and enforcement challenges.
Labor and Environment
Perhaps the greatest challenge to CAFTA arises from the environment and labor
chapters, which complicate the trade negotiation process by moving it beyond purely
commercial issues into the realm of social policy. Although it has become widely
accepted that social issues can be affected by trade liberalization, there is
considerable disagreement over how aggressive language in trade agreements should
be in accommodating this concern. Should trade agreements require all countries to
meet specific core standards, or is this approach too stringent? Is a trade agreement
43 Ibid.
44 Ibid., p. 4-5.

CRS-24
the best, or even a good enforcement mechanism for social policy that usually is the
purview of domestic laws and regulation?
From an economic perspective, labor and environment advocates in the United
States argue that developing countries may have an â€œunfairâ€ competitive advantage
because their lower standards are the basis for their lower costs, which in turn are
reflected in lower prices for goods that compete with those produced in developed
countries.45 It follows from this argument that the difference in costs is an enticement
to move U.S. investment and jobs abroad. On the other hand, studies also suggest
that these cost differentials are usually not high enough to determine business
location alone, and that productivity remains the primary decision factor.46 Further,
many economists view trade liberalization as part of the overall development process
that, in and off itself, can promote social change.47 Developing countries are also
concerned with sovereignty issues related to specifying standards in trade agreements
and the possibility that such provisions can be misused as a disguised form of
protectionism.
Environmental Issues. For environmental advocates, major goals include
protecting and assuring strong enforcement of existing domestic environmental
standards, ensuring that multilateral environmental agreements are not undermined
by trade rules, promoting strong environmental initiatives to evaluate and raise
environmental performance, developing a systematic program of capacity-building
assistance, and assuring that environmental provisions in FTAs are subject to the
same dispute resolution and enforcement mechanisms as are other aspects of the
agreements.48
The USTR summary states that congressional objectives on environmental
issues have been met in the proposed CAFTA agreement. It includes language
requiring all countries to enforce their laws and regulations and also creates an
45 The difference is that the social costs associated with environmental degradation,
pollution, poor working conditions, and low wages are not captured in the production
process. Through legal and regulatory measures, developed countries require that
businesses bear many of these costs, which are then reflected in the final (relatively higher)
price of the good or service in the market place.
46 See CRS Report 98-742 E, Trade with Developing Countries: Effects on U.S. Workers,
by J.F. Hornbeck. September 2, 1998, pp 11-13. Productivity and wage levels are, however,
highly correlated. See Rodrik, Sense and Nonsense in the Globalization Debate, pp. 30-33.
47 In addition to the specifics of CAFTA addressed in this section, it is interesting to note
that there is some broader evidence that FTAs have not â€œforced a race to the bottom of
regulatory standards,â€ but rather to the contrary, that policy convergence is affected more
by countries agreeing to â€œnorms of governanceâ€ via cooperation through international
agreements. See Drezner, Daniel W. Globalization and Policy Convergence. International
Studies Review. Vol. 3, Issue 1, Spring 2001. pp. 75 and 78.
48 See [http://www.sierraclub.org/trade/fasttrack/letter.asp], Principles for Environmentally
Responsible Trade. Another important issue for the United States is ensuring that its higher
environmental standards defined in law and regulation not be compromised by challenges
of protectionism. See CRS Report RS20904, International Investor Protection: â€œIndirect
Expropriationâ€ Claims Under NAFTA Chapter 11, by Robert Meltz.

CRS-25
environmental cooperation agreement with a framework for establishing a
cooperation commission and a process to conduct capacity building. All parties
would agree to commit to establish high levels of environmental protection, and open
proceedings in the administration and enforcement of laws and regulations.49
The environmental provisions are not the most contentious issues in CAFTA.
Advocates still raise the issue of the environmental effects of trade, particularly in
developing countries that may have lax laws and enforcement mechanisms. Many
of these same advocates, however, have conceded that trade agreements have not led
to catastrophic pollution problems nor encouraged a â€œregulatory race to the bottom.â€
There has also been a certain acknowledged degree of success in having
environmental issues addressed in the body of FTAs, in side agreements on
environmental cooperation, and through technical assistance programs, the latter of
which developing countries can use to respond to specific problems. Advocates still
note that much can be improved, such as tightening enforcement language and
ensuring that the United States allocates financial resources to back up promises of
technical assistance, particularly in the case of Central America, where commitment
to â€œpublic accountabiltyâ€ is questioned in some cases.50
The Trade and Environment Policy Advisory Committee supports most of the
environment provisions in CAFTA and particularly the enhanced public participation
process negotiated by the State Department in a environmental cooperation side
agreement. The dispute settlement provisions, which are effectively the same rules
governing labor disputes, were accepted as striking the â€œproper balance.â€ The
advisory committee still raised a number of specific environmental concerns, and
questioned whether CAFTA would be able to meet congressional objectives on
capacity building without concrete funding for the program.51
Labor Issues, Congress, and TPA. Arguably, the most contentious issue
of CAFTA, and identical to the debate waged over the U.S.-Chile FTA, is the extent
to which various parties are satisfied with the labor provisions. The USTR, in its
summary of the CAFTA labor provisions, makes three important claims with respect
to the agreement, that it:
! fully meets the labor objectives set out by Congress in the Trade
Promotion Act of 2002 and makes labor obligations a part of the
core text of the trade agreement;
! includes unprecedented provisions that commit CAFTA countries to
provide workers with improved access to procedures that protect
their rights;
49 For more details on congressional interest in environmental provisions in trade
agreements, see CRS Report RS21326, Trade Promotion Authority: Environment Related
Provisions in P.L. 107-210, by Mary Tiemann.
50 See Audley, John. Environment and Trade: The Linchpin to Successful CAFTA
Negotiations? Carnegie Endowment for International Peace. Washington, D.C. July 2003.
51 Trade and Environment Policy Advisory Committee on the Central American Free Trade
Agreement. The U.S.-Central American Free Trade Agreement. March 12, 2004.

CRS-26
! goes beyond Chile and Singapore FTAs through a 3-part cooperative
approach to improve working conditions by: 1) ensuring effective
enforcement of existing labor laws; 2) working with the ILO to
improve existing labor laws and enforcement; and 3) building local
capacity to improve workers rights.
U.S. labor advocates charge to the contrary, that â€œThe labor provisions of
CAFTA will not protect the core rights of workers in any of the six countries
participating in the agreement.â€52 The crux of the critique within CAFTA centers on
the dispute settlement provisions and the extent to which they are effective in
requiring countries to meet certain standards, and also to meet congressional trade
negotiating objectives defined in TPA. Labor advocates argue that they are a step
backward from the provisions allowing for the suspension of trade benefits found in
the GSP and CBI, which currently govern much of the U.S. trade with Latin America.
Specifically, there are three provisions given different weight in CAFTA: 1) the
effective enforcement of domestic labor laws, 2) the reaffirmation of commitments
to ILO basic principles, and 3) â€œnon-derogationâ€ from domestic standards (not
weakening or reducing protections to encourage trade and investment).53
Failure to enforce domestic labor laws can be formally challenged in the dispute
resolution process as defined in CAFTA. In the case of the other two provisions,
which are supported in principle, such recourse is not available (Articles 16.2 and
16.6). The USTR points to cooperative mechanisms for improving workersâ€™ rights
in the FTA, but labor advocates argue that unless all three are enforceable, CAFTA
does not provide a meaningful trade discipline, especially in Central America, where
lax enforcement of labor rights has been documented in many cases.54
In addition, for labor (and environment) issues, the dispute resolution process
operates differently than for commercial issues. If a commercial dispute remains
unsettled, the country faces the possibility of suspension of benefits under the FTA
â€œof equivalent effectâ€ (Article 20.16), resulting in the raising of tariffs, or payment
of a monetary assessment equal to 50% of what a dispute panel determines is â€œof
equivalent effect.â€ This article does not apply to the disputable labor provision. The
difference is that the option for failing to resolve a labor dispute is a monetary
assessment, which would be capped at $15 million per year, with recourse to an
equivalent dollar value of suspended benefits (higher tariffs) if the monetary
assessment is not paid. The monetary assessment would also be paid into a fund and
expended for â€œappropriate labor initiatives.â€ Labor advocates argue that by capping
the assessment at $15 million and having the assessment paid into a fund in the
offending country, the labor provisions are rendered ineffective. The USTR argues
52 Labor Advisory Committee for Trade Negotiations and Trade Policy (LAC). The U.S.-
Central America Free Trade Agreement. March 19, 2004. p. 1.
53 Ibid, p. 6 and Lee, Thea M. Assistant Director for International Economics, AFL-CIO.
Comments on the Proposed U.S.-Central American Free Trade Agreement, before the USTR
Trade Policy Committee, November 19, 2002.
54 For the Department of State reports on human rights, including labor rights, see
[http://www.state.gov/g/drl/rls/hrrpt/2003].

CRS-27
that for a small countries, such a fine would be significant relative to the dollar value
of the trade benefits it would receive.55
From a congressional perspective, there is the question of whether differences
in the treatment of the three labor provisions in some way fail to meet the principal
negotiating objectives as outlined in TPA legislation. Although the three provisions
are not accorded the exact same treatment in CAFTA, neither are they in the TPA
language. Section 2102(b)(11) of the Trade Act of 2002 (TPA) states that among the
principal labor negotiation objectives is the provision â€œto ensure that a party to a
trade agreement with the United States does not fail to effectively enforce the
environmental or labor laws.â€ This may be contrasted with the apparently weaker
objective â€œto strengthen the capacity of United States trading partners to promote
respect for core labor standards,â€ and, in Sec. 2102(a)(1)(7) to â€œstrive to ensure that
they do not weaken or reduce the protections afforded in domestic environmental and
labor laws as an encouragement for trade.â€
Although the TPA provisions seem to differ with respect to treatment of these
three labor provisions, under the dispute resolution provision (sec. 2102(b)(12)(G)),
a principal negotiating objective also listed is â€œto seek provisions that treat United
States principal negotiating objectives equallyâ€ with respect to the ability to resort to
dispute settlement, the availability of equivalent procedures, and the availability of
equivalent remedies. Whereas the labor groups have argued that this is not the case
with labor and commercial disputes, the USTR has responded that this standard has
been met since both commercial and labor disputes are subject to monetary
assessments and suspension of benefits. The dispute settlement procedures do
operate slightly differently, however, and it may be a matter of interpretation as to
whether there is a problem in their meeting congressional negotiating objectives.56
Unlike environmental advocates, labor groups have not agreed that a proper
balance has been struck within CAFTA. These same criticisms were made of the
U.S.-Chile FTA one year earlier and labor advocates have not supported CAFTA as
negotiated. Practical issues have also been raised. For example, support for core
labor rights is one thing, but actually monitoring them, identifying violations, and
resolving disputes in a uniform way would create immense measurement and
interpretive challenges for dispute arbitration panels. This raises two thorny
questions, the first being, could the United States be challenged over failure of its
labor practices to conform to all ILO core labor standards? The second question
addresses equity in practice. Would all countries be subject to the same standards
irrespective of economic size and strategic importance?57
55 Lee, op. cit., and Labor Advisory Committee Report.
56 It should also be noted that under the principal negotiating objectives with respect to labor
is the provision: 1) â€œto recognize that parties to a trade agreement retain the right to exercise
discretionâ€ in investigating and prosecuting compliance matters; 2) that â€œa country is
effectively enforcing its lawsâ€ if its reflects reasonable action as being taken; and 3) â€œno
retaliation may be authorized based on the exercise of these rights or the right to establish
domestic labor standards.â€ Sec. 2102(b)(11)(B).
57 These issues were explored in a report prepared by the National Academy of Sciences.
(continued...)

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Finally, whether CAFTA labor provisions conform to the negotiating objectives
of Congress is another matter. It is possible that CAFTA may be construed as
meeting the strict guidelines set out in TPA, but still fail to meet the standards of
many Members of Congress.
Dispute Resolution and Institutional Issues
This negotiation group focused on numerous aspects that define how the trade
agreement will operate, particularly with respect to rules governing procedures for
dispute resolution. Dispute resolution is modeled on previous FTAs, in which
disagreements are intended to be resolved cooperatively, first via a consultative
process. If this approach is not successful, the process moves to the establishment
of the Free Trade Commission of cabinet-level representatives, and finally an arbitral
panel. Arbitral panels are intended to broker mutually acceptable resolutions,
including providing for compensation if appropriate. If a mutually agreed solution
is not found, the complaining party may resort to a suspension of benefits of
equivalent effect. This may also be challenged and final resolution and how the
suspension of benefits are to be administered are set out in guidelines. Resolving
labor and environmental disputes would be slightly different (see previous section).
All dispute resolution procedures are defined in Chapter 20. Administrative and
other technical matters (e.g. transparency issues) of trade agreement implementation
were also addressed by this working group.
Trade Capacity Building
Even before detailed discussions began on CAFTA, the Central American
countries expressed a strong apprehension of being overwhelmed by the resources
and experience that the United States could muster to negotiate and later comply with
liberalized trade rules. Hence, the need for trade capacity building, which, now that
the negotiation process is over, may be classified into three distinct areas beyond
trade negotiation capabilities. First, the ability to identify priorities, including where
the major adjustment costs (losers) are expected to be and how to respond to them.
Second, the ability to develop resources to implement the agreement, including
institutional, financial, and analytical resources. Third, the capacity to benefit from
CAFTA.58 CAFTA would create a permanent Committee on Trade Capacity
Building to continue work begun in the negotiation process, and recommendations
in the agreement call for one of its first priorities to be customs administration.
The third category, however, is arguably the most challenging. Also referred to
as â€œsupply sideâ€ capacity, it refers to the ability of a business to: compete in a larger
market; learn how to export and use imports (as inputs) more to its advantage; tap
into global finance; navigate customs and trade logistics problems; and in other ways
57 (...continued)
A summary of the key issues is provided in: Moran, Theodore H. Trade Agreements and
Labor Standards. The Brookings Institution. Policy Brief #133. May 2004.
58 This typology of capacity issues was developed by Bernard Hoekman of the World Bank.
Earlier versions of this report mentioned a fourth area, trade negotiation capacity.

CRS-29
make the transition from local producer to international player.59 This will be a
difficult challenge for many Central American firms, particularly if barriers to world
trade are reduced outside the U.S.-Central American relationship (WTO/FTAA)
putting increasing pressure on marginally productive businesses. The joint-
production relationship already established in textiles and garments suggests that
certain firms have already developed some expertise in meeting these challenges.
From the outset of negotiations, the United States advocated assisting the
Central American countries. Each Central American country prepared a National
Action Plan based on a review of its â€œtrade-relatedâ€ needs. Assistance is being
provided by the United States, private groups (corporate and non-government
organizations â€” NGOs), and five international organizations (the Inter-American
Development Bank â€” IDB, Central American Bank for Economic Integration â€”
CABEI, United Nations Economic Commission on Latin America and the Caribbean
â€” ECLAC, Organization of American States â€” OAS, and the World Bank).60 In
the view of many, what is lacking is an adequate commitment for financial and
institutional support in the years to come.
Outlook
The CAFTA negotiations moved quickly and were concluded by the anticipated
year-end 2003 deadline, with the exception of a slight delay with Costa Rica and the
addition of the Dominican Republic. A final version of the agreement was signed
on May 28, 2004, but it appears as though implementing legislation will not be sent
to Congress until after the November 2004 elections, in large part because of
disagreement over politically sensitive labor provisions.
CAFTA was ambitious and innovative in melding the interests of the United
States with those of five (later six) smaller countries that vary significantly among
themselves. CAFTA would build on long-established trade partnerships, but would
also change the framework from a unilateral preferential arrangement defined under
the CBI program, as amended, to a negotiated bilateral agreement. These altered
terms would provide the United States with greater access for vital sectors of its
economy, but have also allowed the Central American countries greater say in how
controversial provisions, such as labor rights enforcement, would work. In the end,
supporters hope that CAFTA can be part of a policy foundation supportive of both
improved intra-regional trade and long-term social, political, and economic
development.61
59 Ibid.
60 Details of the program and the Central American National Action Plans may be found at
the USTR website: [http://www.ustr.gov].
61 Reducing rich-country protectionism is a critical goal set out by a study aimed at
highlighting policies that may effect social development and equity in Latin America. See
Birdsall, Nancy, Augusto de la Torre, and Rachel Menezes. Washington Contentious:
Economic Policies for Social Equity in Latin America. Carnegie Endowment for
(continued...)

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CAFTA, however, is controversial and faces political uncertainty. In addition
to concerns over increased competition by specific sectors of the U.S. economy
(sugar, textiles), detractors argue that a balanced outcome may be difficult to achieve
if CAFTA also fails to accommodate sufficiently the adjustment costs facing certain
Central American workers, small farmers, and other groups, despite efforts to phase
in the agreementâ€™s tariff schedules and rules over time. Some countries may find it
difficult to benefit fully given their level of development, an issue that arose during
the early years of the Central American Common Market. Another key concern is
the history some CAFTA countries have of poor labor rights enforcement, raising
questions of whether CAFTA labor provisions will adequately promote social
development. The potential for negative sectoral employment effects in the United
States also factors into critiques of CAFTA.
As indicated at the outset of this report, CAFTA presents challenges to
policymakers on multiple levels. First, there are very specific short-run economic
tradeoffs associated with any trade agreement, irrespective of long-run welfare gains
expected for all countries. Second, a trade agreement is only one aspect of broader
strategic considerations (political/security concerns) for the region. Third, whatever
decision is taken on CAFTA, it will likely have a far reaching effect on how (or even
if) future trade negotiations will proceed with Latin America and perhaps other areas
of the world. To complicate matters further, policymakers face competing goals and
constituencies both within and among these different levels of policy consideration.
61 (...continued)
International Peace and Inter-American Dialogue. Washington, D.C. 2001. pp. 65-66.

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Appendix 1. Chronology of CAFTA Negotiations
Date
Milestone
January 16, 2002
President George W. Bush announces his intention to
explore a free trade agreement (FTA) with Central America.
August 6, 2002
President Bush signs the Trade Act of 2002 (P.L.107-210),
which includes Trade Promotion Authority (TPA).
October 1, 2002
President Bush, as required under TPA, formally notifies
Congress of his intention to negotiate a U.S.-Central
America Free Trade Agreement (CAFTA) with Guatemala,
El Salvador, Honduras, Costa Rica, and Nicaragua.
November 19, 2002
USTR holds public hearings, accepting written and oral
testimony on CAFTA.
January 27, 2003
The first of nine negotiation rounds begins in San Jose,
Costa Rica.
December 17, 2003
CAFTA negotiations concluded in Washington, D.C. Costa
Rica decides not to accept the agreement pending further
discussion on telecommunications, insurance, agriculture,
and textile market access issues.
January 5-9, 2004
Costa Rica and the United States hold first round of bilateral
discussions on CAFTA.
January 12-16, 2004
First round of negotiations with Dominican Republic held.
January 19-24, 2004
Costa Rica and United States hold second round of bilateral
discussions on CAFTA.
January 25, 2004
Costa Rica and United States agree to CAFTA provisions.
January 28, 2004
USTR releases draft version of CAFTA to public.
February 20, 2004
President Bush formally notifies Congress of his intention to
sign CAFTA.
March 15, 2004
The United States and the Dominican Republic conclude a
bilateral FTA and the USTR announces it will be â€œdockedâ€
to CAFTA.
March 24, 2004
President Bush formally notifies Congress of his intention to
sign the U.S.-Dominican Republic FTA.
May 28, 2004
The USTR and trade ministers from the Central American
countries sign CAFTA in Washington, D.C.

CRS-32
Appendix 2. Selected Economic Indicators
(year 2003 data, except where otherwise indicated)
Costa
El
Guat-
Hon-
Nicar-
Dom.
Rica
Salvador
emala
duras
agua
Rep.
GDP ($ billions)
17.5
14.7
24.0
6.8
2.7
20.5
GDP Growth (%)
5.0
2.2
2.4
1.5
2.3
-1.3
GDP Growth 1980-
3.0
0.2
0.8
2.7
-1.9
3.1
1990 (%)*
GDP Growth 1990-
4.9
4.3
4.0
3.1
4.3
6.0
2002 (%)*
PPP Per Capita Gross
8,560
4,190
4,030
2,540
2,350
6,270
National Income**
Inflation (%)
9.3
2.8
5.5
9.8
6.1
28.0
Current Account
-5.9
-4.5
-4.3
-7.6
-17.6
4.5
Balance (% of GDP)
Pop. Below $1 per
2.0
31.1
16.0
23.8
45.1
<2.0
day (%)***
Human Development
42
105
119
115
121
94
Index (HDI) Rank#
Sources: World Bank, World Development Indicators 2004, pp. 14-15, 54-55, and 178-83, United
Nations, Human Development Report, 2003, and IMF website.
* Average annual percent growth.
** Gross national income (GNI) converted to international dollars using purchasing power parity rates.
An international dollar has the same purchasing power over the GNI as a U.S. dollar has in the United
States. GNI, formerly represented as GNP by the World Bank, is a different, but similar measure as
GDP. Data are for year 2002.
*** Percentage of population living on $1 per day or less, most recent survey year.
# HDI is a composite measure (education, income, and life expectancy) of average achievement in
human development. A lower ranking is better: e.g. United States (7), Italy (21), and South Korea
(30). The 2003 report reflects data for year 2001.

CRS-33
Appendix 3. U.S. Merchandise Trade with CAFTA Countries
($ millions)
%
%
Country
1998
1999
2000
2001
2002
2003
Change
Change
2002-2003
1998-2003
U.S. Exports
Costa Rica
2,296
2,381
2,460
2,502
3,117
3,414
9.5%
48.7%
Honduras
2,318
2,370
2,584
2,416
2,571
2,844
10.6%
22.7%
Guatemala
1,938
1,812
1,901
1,870
2,044
2,274
11.3%
17.3%
El Salvador
1,514
1,519
1,780
1,760
1,665
1,824
9.6%
20.5%
Nicaragua
336
374
379
443
437
503
15.1%
49.7%
Dominican Rep
3,944
4,100
4,473
4,398
4,250
4,214
-0.8%
6.8%
Total CAFTA
12,346
12,556
13,577
13,389
14,084
15,073
7.0%
22.1%
Mexico
78,772
86,909
111,349
101,296
97,470
97,457
0.0%
23.7%
LAC*
63,396
55,153
59,283
58,157
51,551
52,036
0.9%
-17.9%
Latin America
142,168
142,062
170,632
159,453
149,021
149,493
0.3%
5.2%
World
682,138
695,797
781,918
729,100
693,103
723,743
4.4%
6.1%
U.S. Imports
Costa Rica
2,745
3,968
3,539
2,886
3,142
3,362
7.0%
22.5%
Honduras
2,544
2,713
3,090
3,127
3,261
3,312
1.6%
30.2%
Guatemala
2,072
2,265
2,607
2,589
2,796
2,945
5.3%
42.1%
El Salvador
1,438
1,605
1,933
1,880
1,982
2,019
1.9%
40.4%
Nicaragua
453
495
589
604
679
769
13.3%
69.8%
Dominican Rep
4,441
4,287
4,383
4,183
4,169
4,455
6.9%
0.3%
Total CAFTA
13,693
15,333
16,141
15,269
16,029
16,862
5.2%
23.1%
Mexico
94,629
109,721
135,926
131,338
134,616
138,073
2.6%
45.9%
LAC*
50,266
58,464
73,348
67,370
69,503
78,857
13.5%
56.9%
Latin America
144,895
168,185
209,274
198,708
204,119
216,930
6.3%
49.7%
World
911,896
1,024,618
1,218,022
1,140,999
1,161,366 1,259,396
8.4%
38.1%
U.S. Balance of Trade
Costa Rica
-449
-1,587
-1,079
-384
-25
52
Honduras
-226
-343
-506
-711
-690
-468
Guatemala
-134
-453
-706
-719
-752
-671
El Salvador
76
-86
-153
-120
-317
-195
Nicaragua
-117
-121
-210
-161
-242
-266
Dominican Rep
-497
-187
90
215
81
-241
Total CAFTA
-1,347
-2,777
-2,564
-1,880
-1,945
-1,789
Mexico
-15,857
-22,812
-24,577
-30,042
-37,146
-40,616
LAC*
13,130
-3,311
-14,065
-9,213
-17,952
-26,821
Latin America
-2,727
-26,124
-38,642
-39,256
-55,103
-67,437
World
-229,758
-328,821
-436,104
-411,899
-468,263
-535,653
Source: Table created by CRS from U.S. Department of Commerce data.
* Latin America and the Caribbean, except Mexico.