NAFTA Motor Vehicle Talks Reopen Old Trade Debate

NAFTA Motor Vehicle Talks Reopen Old Trade Debate

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February 23, 2018
NAFTA Motor Vehicle Talks Reopen Old Trade Debate
Automotive trade is among the most sensitive issues in
targeting imports from Japan, the bill passed the House
negotiations with Mexico and Canada over revisions to the
twice, but was not voted on in the Senate amid concerns
North American Free Trade Agreement (NAFTA). The
that it violated international agreements and faced a pledge
United States has proposed major changes in the rules of
by President Reagan to veto it.
origin that determine which vehicles and parts qualify for
tariff-free treatment when traded among the three countries. Congress revisited the domestic content of vehicles again in
1992, when the American Automobile Labeling Act
The proposal has reopened a decades-old debate about
(AALA; P.L. 102-388) required a label on all new vehicles
regulating the content of vehicles sold in the United States.
showing domestic and foreign content of parts and the final
If some variant of the proposed changes is accepted by
assembly location. Parts content does not include final
Canada and Mexico and then ratified by all three countries,
assembly, distribution, or other non-parts costs.
it would make the fifth time since 1965 that Congress has
sought to encourage greater use of domestic content in cars
AALA specifies that only U.S. and Canadian content is
and light trucks.
domestic; Mexican content does not qualify. If imported
parts count for no more than 30% of the value of a vehicle
History
component made in the United States or Canada, 100% of
Motor vehicle content rules were originally a response to
the value of the component is counted as domestic. For
rising imports of passenger vehicles, primarily from Japan.
engines and transmissions, however, a broader category of
Such rules were included in the Automotive Products Trade
assembly and labor costs is also included in the domestic
Agreement of 1965, better known as the U.S.-Canada Auto
content calculation. The country that contributes the most
Pact, which was designed to integrate U.S. and Canadian
value to the engine or transmission is considered the
vehicle manufacturing. Vehicles covered had to have 50%
country of origin, even if some parts are imported.
U.S. or Canadian content for free entry into the United
States, and separate provisions required Canadian content
Table 1.Top 10 Domestic Content Vehicles in 2007
for vehicles sold and parts used in Canada. (The Auto Pact
was terminated in 2001 after the World Trade Organization
U.S./Canada
found that some provisions violated its trade rules.)
Automaker
Vehicle
Content
Ford
Lincoln MKX
95%
In 1975, the Energy Policy and Conservation Act (EPCA;
P.L. 94-163) established the corporate average fuel
Ford
Expedition
95%
economy standards for light vehicles sold in the United
Ford
Edge
95%
States. To prevent U.S. automakers from importing fuel-
efficient vehicles to meet fleet-wide efficiency standards,
General Motors
Pontiac Grand Prix
90%
the law set one standard for domestic vehicles and a stricter
General Motors
GMC Sierra
90%
standard for imports. For a vehicle to be considered
domestic, at least 75% of its content had to be
General Motors
Chevrolet Silverado
90%
manufactured in the United States or Canada. (After
Pickup Truck
NAFTA went into effect in 1996, EPCA was amended to
count Mexican content as “domestic.”) EPCA states that
General Motors
Chevrolet Monte
90%
the value added from parts manufacturing and final
Carlo
assembly is the basis of determining whether a vehicle
General Motors
Chevrolet Impala
90%
meets the 75% domestic value standard. For components
assembled outside the NAFTA region, only the value of
General Motors
Buick LaCrosse
90%
parts produced in a NAFTA country counts as domestic
Ford
Mercury Mariner
90%
content. Unlike with other content provisions in later laws,
transportation and insurance costs within the NAFTA area
Source: American Automobile Labeling Act, 2007 Report, by
are included as domestic costs.
percentage, https://www.nhtsa.gov/part-583-american-automobile-
labeling-act-reports.
A third attempt at mandating vehicle content came during
the Reagan Administration, at a time when recession
The overall domestic content of many vehicles sold in the
reduced U.S. vehicle sales and Japanese automakers were
United States, as measured under AALA, has declined over
increasing their U.S. market share. The proposed 1982 Fair
the past decade as the vehicle supply chain has globalized.
Practices in Automotive Products Act would have
AALA reports show that many motor vehicle parts
eventually required vehicles sold in the United States to
manufactured in 2007 contained well over 75% domestic
have 90% U.S. content (including parts and labor). Seen as
content. Table 1 shows the 10 models with the greatest
domestic content in 2007. In contrast, only a few vehicles
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link to page 2 NAFTA Motor Vehicle Talks Reopen Old Trade Debate
had as much as 75% domestic content in 2017 (Table 2).
Over the same period, three factors have reshaped the
Despite the requirement that dealers post AALA
vehicle supply chain. First, vehicle assemblers have sourced
information for new cars, surveys have shown that few car
more parts from specialized parts makers. An estimated
buyers use the data in making purchase decisions.
70% of the value added in a finished motor vehicle now
originates with the parts makers, compared with about 40%
Table 2.Vehicles with At Least 75% Domestic Content
25 years ago. (Value added is the amount by which the
in 2017 AALA Report
value of a product is increased at each stage of its
production, minus initial costs.) Second, the parts industry
U.S./Canada
itself has seen a major consolidation in the past decade and
Automaker
Vehicle
Content
is now global in its own right, as parts makers have
Kia Motors
Optima 1.6L
83%
followed their vehicle assembler customers to new markets.
The auto parts industry now sources components from Asia,
Kia Motors
Optima 2.4L
83%
Europe, and Latin America. Third, parts suppliers have
Fiat Chrysler
Wrangler 4 Door
75%
increasingly turned to new production methods in which
they deliver complex modules to auto assemblers that
Honda
Acura
75%
include parts from many suppliers—and potentially many
countries. With as many as 15,000 parts in typical
Honda
CR-V All Wheel Drive
75%
passenger motor vehicles, tracing the origin of parts
Honda
Ridgeline Pickup Truck
75%
becomes much more complex than it was at the time current
laws governing domestic content were enacted.
Kia Motors
Optima 2.0
75%
Toyota
Camry
75%
Current Issues
An increase in the required RVC alone would not assure
Source: American Automobile Labeling Act, 2017 Report, by
that more parts and vehicles would be manufactured in the
percentage.
United States. The Trump Administration has called for an
NAFTA
additional change in NAFTA, requiring that vehicles
imported from Canada or Mexico have 50% U.S. content in
NAFTA has no provisions concerning U.S. content. It
order to benefit from tariff-free access to the U.S. market.
provides that vehicles and parts produced in Canada,
Canada and Mexico have reportedly opposed this change. A
Mexico, and the United States may move tariff-free in that
50% U.S. content provision might not lead manufacturers to
zone as long as at least 62.5% of the value of the assembled
assemble cars in the United States rather than in Mexico; it
motor vehicle is produced in the region. Parts and
could instead encourage auto producers in Mexico to import
components sold separately must have 60% regional
cheaper parts from Asia or Europe and pay the 2.5% U.S.
content to qualify for tariff-free status.
tariff on cars shipped to the United States. (This is less
likely with light trucks, on which the U.S. tariff is 25%.)
The calculation of regional value content (RVC) under
NAFTA is far more complex than the domestic content
Revising or eliminating the NAFTA tracing list is also an
determinations under EPCA and AALA. Vehicle and parts
issue. Calculating each of the separate costs required to
producers are required to use a “net cost” method that
determine RVC may be costly, especially for small parts
includes calculating six separate costs for each vehicle:
manufacturers. One option would be to eliminate tracing; it
materials, processing, labor, production equipment,
was not included in the proposed Trans-Pacific Partnership
overhead, and general expenses. In addition, the net cost
(TPP) trade agreement, which instead would have required
method requires that intermediate and indirect materials be
automotive products to undergo “substantial
traced back to their raw material origins. Tracing was
transformation” in North America to qualify as domestic.
included in NAFTA to eliminate imported material in a part
The United States withdrew from that agreement in 2017.
or vehicle net cost calculation. For example, engine
components purchased in Asia and assembled into a
Other options would lead to an expanded use of tracing.
finished engine in Mexico must be traced so that the Asian
Under current NAFTA rules, not all materials are included
parts are not counted as NAFTA content. This cumbersome
on the tracing list. Some steel, aluminum, electronics, and
process is governed by a list of products that must be traced
electric batteries are excluded from tracing, which means
by automakers back through each stage of production, until
that even if they are produced in a NAFTA country, their
there is a raw material not on the list. Not all products used
value does not count towards the 62.5% threshold for tariff-
in producing vehicles are included on the tracing list,
free trade. Another proposal is to include research,
however.
development, and software costs in determining RVC.
Evolving Motor Vehicle Supply Chain
Little software was installed in vehicles at the time NAFTA
was signed, but software is now a significant cost factor in
Since NAFTA took effect more than two decades ago, the
vehicle assembly and will likely become more so as
motor vehicle industry has changed significantly. More
manufacturers develop increasingly automated vehicles.
vehicles are being produced in North America by
automakers from Japan, South Korea, and Germany as the
market share of the Detroit Three—General Motors, Ford
Bill Canis, Specialist in Industrial Organization and
and Chrysler (now Fiat Chrysler)—has declined.
Business
IF10835
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NAFTA Motor Vehicle Talks Reopen Old Trade Debate

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