North American Free Trade Agreement: Impacts and Implementation
Released: 1997-09-11T00:00:00

Letter

Background

NAFTA, which went into effect on January 1, 1994, was intended to facilitate trade and investment throughout North America. It incorporates features such as the elimination of tariff and nontariff barriers. NAFTA also supports the objective of locking in Mexico’s self-initiated, market-oriented reforms. By removing barriers to the efficient allocation of economic resources, NAFTA was projected to generate overall, long-run economic gains for member countries—modest for the United States and Canada, and greater for Mexico. For the United States, this is due to the relatively small size of Mexico’s economy and because many Mexican exports to the United States were already subject to low or no duties. Under NAFTA, intra-industry trade and coproduction of goods across the borders were expected to increase, enhancing specialization and raising productivity. Although a substantial majority of economic studies concluded that only modest economic and employment effects were likely, NAFTA generated a heated public debate before the agreement’s passage by Congress in 1993. NAFTA critics asserted that up to 1 million U.S. jobs would be lost, while the President projected that the agreement would generate 200,000 U.S. jobs.

NAFTA also included procedures first to avoid, and then to resolve, disputes between parties to the agreement. Separately, the three NAFTA countries negotiated and entered into two supplemental agreements designed to facilitate cooperation on environment and labor matters among the three countries.

Before I get into the specifics of these topics, I will summarize our main points.

Reviews of NAFTA’s Impacts

The impact of NAFTA on the U.S. economy cannot be directly ascertained since changes in trade and investment also reflect other influencing factors. The results of economic analyses of NAFTA’s impact on U.S. gross domestic product (GDP) are consistent with the pre-NAFTA long-run projections described by the ITC. In contrast, estimates of the agreement’s impact on aggregate employment are widely divergent. Differences in the studies’ assumptions and methodologies account for this divergence.

Since NAFTA’s first round of tariff reductions went into effect in 1994, total U.S. merchandise trade (exports plus imports) with Canada and Mexico has increased from an annual average of $269 billion (1991-93) to an annual average of $384 billion (1994-96). (See apps. I-III.) A significant factor influencing trade was the severe 1994-95 Mexican financial crisis.This growth in total trade has been accompanied by an increase in the U.S. merchandise trade deficit with its NAFTA partners, from $8.6 billion to $34 billion, as import growth outpaced export growth. U.S. investment in Mexico has grown since NAFTA’s implementation. From 1994 to 1996, the United States had an annual average of $3.1 billion in foreign direct investment to Mexico, compared to $2 billion from 1991 to 1993.

Recent Studies of NAFTA’s Economic Impact

Mr. Chairman, let me now summarize the findings from three major reports on NAFTA’s impact: (1) the in-depth June 1997 ITC study of NAFTA;(2) the President’s July 1997 report on the operations and effect of NAFTA;and (3) a June 1997 study by some of the major critics of NAFTA.

The ITC 3-Year Assessment

The June 1997 ITC assessment of NAFTA impacts represents the most comprehensive research effort we identified to date. Using an econometric approach, ITC sought to separate other trade-influencing factors, particularly Mexico’s financial crisis, from NAFTA’s impact on the U.S. economy as a whole, and on nearly 200 industrial sectors of the U.S. economy. In addition, the ITC assessment included a qualitative review of 68 aggregated sectors.

Based on all of its analysis, ITC concluded that NAFTA had a modest positive effect on the U.S. economy during its first 3 years of operation. ITC was unable to quantify a discernible effect on U.S. GDP, aggregate investment, or aggregate employment that can be attributed to NAFTA during its first 3 years. ITC concluded that NAFTA has significantly affected the aggregate levels of U.S. trade with Mexico, but not with Canada.

In its sectoral analyses, ITC found changes in trade, employment, and earnings that were due to NAFTA in a limited number of sectors. Among the nearly 200 sectors whose trade ITC modeled, U.S. exports to Mexico increased significantly in 13 sectors due to NAFTA, while no sector showed decreased exports to Mexico due to NAFTA. U.S. imports from Mexico increased significantly in 16 sectors after the effects of other influencing factors were taken into account, while U.S. imports from Mexico decreased significantly in 7 sectors due to NAFTA. In an econometric analysis of 120 industrial sectors, ITC found that 29 industries had changes in hourly earnings and employment levels. Among these 29 sectors, hours worked most often increased due to NAFTA, while hourly earnings were more often found to decrease. In their qualitative sectoral analysis, ITC industry experts found that employment declined due to NAFTA in 2 out of 68 sectors: the apparel and women’s non-athletic footwear sectors. While some effort was made to address productivity impacts, ITC was unable to evaluate the direct impact of NAFTA on labor productivity in the various sectors due to data constraints. However, the indirect evidence examined by ITC suggested a positive impact on U.S. productivity in certain industries.

The President’s Report

The President’s report on NAFTA presents the findings of recent studies that estimate the agreement’s impact. These include a commissioned DRI analysis and research published by the Federal Reserve Bank of Dallas.Both studies isolate the effect of the Mexican financial crisis from NAFTA’s effect on bilateral U.S.-Mexico trade flows. In contrast to the ITC effort that modeled the employment impact of NAFTA, the President’s report uses a simple job-multiplier analysis that assumes about 13,000 jobs are supported for every $1 billion in increased exports.

The Federal Reserve study modeled the impact of NAFTA on U.S. bilateral trade with Mexico. They found that NAFTA has on average boosted export growth by about 7 percentage points each year since implementation, for a cumulative expansion of exports of about $5 billion through 1995. U.S. import growth from Mexico on average has been about 2 percentage points greater each year, for a cumulative impact of about $1.8 billion in additional imports. The DRI assessment found larger trade effects than the Federal Reserve study. The DRI study used a model of the Mexican economy to evaluate NAFTA’s impact on bilateral trade with the United States, but excluded the petroleum sector. It found that in 1996, NAFTA increased U.S. exports to Mexico by $12 billion and imports from Mexico by $5 billion. The estimated trade impacts were then applied to a DRI macroeconomic model of the U.S. economy to simulate their impact on U.S. GDP and investment. According to the President’s report, DRI estimates that NAFTA contributed $13 billion to U.S. real income and $5 billion to business investment in 1996, controlling for the impact of Mexico’s financial crisis.

The President’s report uses the export estimates from the two studies to compute NAFTA’s impact on job creation. The President’s report estimates that NAFTA export expansion supported between 90,000 and 160,000 jobs in 1996. The President’s report did not compute any employment impact from increased imports from Mexico.

Consolidated NAFTA Critique

The Economic Policy Institute (EPI) prepared an assessment of NAFTA that also used a job-multiplier analysis. This assessment was included in the consolidated critique of NAFTA. However, the EPI analysis differed from the President’s report in several notable respects. First, EPI did not separate the impact of Mexico’s financial crisis from NAFTA’s effects on trade flows.Secondly, to compute job losses from NAFTA, EPI applied the export job multiplier to the increase in imports rather than just to exports as done in the President’s report. Also, EPI included changes in U.S.-Canadian bilateral trade in its assessment of NAFTA.

The critique concluded that the increased U.S. trade deficit with Mexico and Canada on balance has cost the United States 420,208 jobs since 1993. It states that the move to a $16.2 billion U.S. bilateral trade deficit with Mexico in 1996 from a bilateral surplus of $1.7 billion in 1993 cost the United States 250,710 of these jobs. The critique also notes that the real wages of U.S. blue-collar workers has declined for almost 2 decades and suggests that imports from low-wage countries such as Mexico are an especially important cause of increasing wage inequality.

NAFTA Adjustment Programs

The benefits of trade agreements are widely dispersed, and the costs or dislocation effects are more concentrated. In recognition of the anticipated dislocation of some workers, the NAFTA Implementation Act established the NAFTA-TAA program in 1994. The program was designed to assist workers in companies affected by U.S. imports from Mexico or Canada or by shifts in U.S. production to either of those countries. The program is authorized to continue until September 30, 1998. NAFTA-TAA benefits include basic readjustment services; employment services; training; job search allowances; relocation allowances; and the feature that most distinguishes the program from basic unemployment insurance, income support for up to 52 weeks after exhaustion of unemployment insurance when enrolled in training.

As of September 4, 1997, NAFTA-TAA certifications (verification of potential job losses since NAFTA’s implementation) have been issued for 1,206 worker groups in firms located in 48 states. Department of Labor statistics indicate that 142,884 workers have been certified as eligible for NAFTA-TAA benefits due to (1) increased imports from Canada or Mexico or (2) a shift in U.S. production to Canada or Mexico. Of these certifications, 623 were based on a shift of production to Canada or Mexico, 380 were based on increased customer imports, 167 were based on increased company imports, and 36 were based on high and rising aggregate imports from Canada or Mexico. As shown in table 1, the top five sectors in terms of worker group certifications and the number of workers covered were apparel, electrical and electronic equipment, lumber and wood products, fabricated metal products, and industrial/commercial machinery, and computer equipment. The top 10 states with NAFTA-TAA workers covered by certifications were Texas (12,797), Pennsylvania (12,788), North Carolina (12,001), New York (11,924), California (7,773), Georgia (6,556), Indiana (6,077), Tennessee (5,786), Arkansas (5,397), and New Jersey (4,788).

Because of the intense interest in NAFTA’s impact on U.S. labor and the difficulty in calculating such impact, analysts have used NAFTA-TAA data as a proxy for job dislocations attributable to NAFTA. NAFTA-TAA certifications are not an accurate measure of jobs lost due to NAFTA, however, because certifications are likely to either underrepresent or overrepresent the actual number of jobs affected. On the one hand, NAFTA-TAA certifications are not required to be caused by, or linked to, NAFTA—they can be due to general trade effects between the United States and Canada or Mexico. In addition, NAFTA certifications represent potential job losses, not the actual number of jobs lost. These factors could potentially lead to the NAFTA-TAA figures being overstated. On the other hand, not all categories of workers potentially affected are covered by the program (for example, some services workers). Additionally, some researchers have questioned whether employees of small, nonunionized firms are fully aware of program benefits and are thus not being served by the program. Further, workers may opt to apply for other programs, particularly given the strict training requirement for NAFTA-TAA. These factors could potentially lead to understatement. While NAFTA-TAA is fully operational, little evaluation has been done of how effectively the program serves to provide retraining and adjustment assistance to affected workers.

The NAFTA implementing legislation established an additional program to deal with job dislocation effects from NAFTA: the U.S. Community Adjustment and Investment Program under the North American Development Bank. The program was designed to provide loans and loan guarantees (up to $22.5 million, according to authorizing legislation) to businesses seeking to locate or expand existing operations in communities with job losses caused by NAFTA. It was to be implemented by a program office in Los Angeles, two advisory committees, and an ombudsman appointed by the President. However, during the first 3-1/2 years of NAFTA, no loans were approved under the program. The Treasury Department issued its first designation of qualifying communities on August 1, 1997. That announcement declared 35 communities in 19 states eligible for business loans and loan guarantees.

Comments on Methodology

It is very difficult to evaluate the impact of NAFTA since the agreement’s provisions are generally being phased in over a 10- to 15-year period, and it is hard to isolate the impact of the agreement from contemporaneous economic trends and other unique events. While recent studies offer valuable insights into the initial effects of NAFTA, in reviewing the studies we encountered methodological issues that need to be kept in perspective.

The estimates of NAFTA’s impact on GDP derived from econometric analyses are consistent with expectations of NAFTA’s long-term impact. The ITC reports that NAFTA had no discernable impact on GDP after 3 years. The President’s report finds that the short-term, transitory GDP gain from NAFTA was $13 billion in 1996, which represents less than 0.2 percent of U.S. GDP. Both estimates can be considered consistent with pre-NAFTA projections that the likely long-term impact of NAFTA would be a modest, positive increase in GDP—between 0.02 and 0.5 percent.

Several of the reports include conclusions about NAFTA’s impact on U.S. aggregate employment. However, there is widespread consensus among many economists that aggregate employment is primarily determined by demographic conditions and macroeconomic factors such as monetary policy or interest rates. These economists would argue that trade agreements, such as NAFTA, primarily impact labor markets by shifting the composition of employment, potentially altering wages and income distribution, rather than affecting the overall level of employment in the country.

The President’s report as well as the EPI study rely on the job-multiplier approach to estimate the potential job impact of changes in the nation’s trade balance. This approach is questioned by many economists for computing the employment impacts of trade. Furthermore, as an application of this methodology, the President’s and EPI’s analyses both exaggerate their estimates of NAFTA’s job impact. For example, the President’s report did not calculate any job losses associated with increased U.S. imports from Mexico due to NAFTA. Likewise, the job losses estimated by EPI are exaggerated, since some of the increase in U.S. imports from Mexico displaces imports from other nations rather than U.S. production.

The impact of NAFTA on wages, low-skill workers, and income inequality is a controversial issue related to NAFTA’s impact on the economy. ITC analyzed the impact of NAFTA on sectoral wages but did not attempt to determine the impact on low-skill workers or income inequality. The President’s report largely recapped the ITC analysis. While the critique associated trade expansion with two decades of declining real wages, it did not analyze NAFTA’s specific impact.

An important methodological issue in analyzing NAFTA is how Mexico’s 1994-95 financial crisis is treated. Estimates of NAFTA’s impacts over its first 3 years differ greatly based on how the crisis is considered in the analysis. ITC’s and the President’s reports explicitly excluded its effects in their analysis, while the EPI study did not. While separating the crisis’ impact from that of NAFTA has merit, events in Mexico leading to the financial crisis and the response to the crisis are intertwined with NAFTA. The financial crisis tested whether NAFTA succeeded in locking in Mexico’s market-opening reforms. Mexican government officials noted that they met their NAFTA obligations rather than institute immediate tariff increases on U.S. products, as had occurred during a previous crisis in 1982. Furthermore, they undertook additional market-opening measures such as privatizing government-owned ports and railroads, according to Mexico’s Trade and Commerce ministry.

Mechanisms for Avoiding and Settling Disputes

NAFTA contains mechanisms to help avoid trade disputes and settle them effectively when they do arise. In an effort to head off disputes, NAFTA established a number of committees and working groups on key trade-related issues to provide a channel for discussion of member countries’ ongoing concerns. In addition, NAFTA’s dispute settlement process includes a consultation mechanism that encourages members to make every effort to resolve differences in meetings and discussions before requesting a review. Further, the agreement’s formal dispute settlement mechanisms address member countries’ potential use of unfair trade practices, the interpretation and application of NAFTA, and the protection of investor rights. Finally, changes in NAFTA member countries’ trade laws were required by the agreement to increase the level of transparency in countries’ trade remedies determinations.

U.S., Mexican, and Canadian private sector and government officials with whom we spoke were generally supportive of NAFTA’s dispute settlement process over the past 3 years. For example, they cited increased transparency in member countries’ administration of trade remedy laws required by the agreement. However, some U.S. and Canadian officials were concerned about the timeliness of NAFTA’s panel selection process. In addition, Mexican officials acknowledged that Mexico’s pool of potential panelists is somewhat limited because Mexican attorneys are still developing expertise in trade dispute matters. Furthermore, questions have arisen regarding the constitutionality of NAFTA’s dispute settlement provisions dealing with countries’ determinations of alleged unfair trade practices.

Dispute Avoidance

NAFTA established a number of committees and working groups on significant trade-related issues to enable member countries to discuss their concerns. In addition, NAFTA committees and working groups provide forums for consultation on comprehensive trade-related subjects, such as rules of origin, agricultural subsidies, financial services, standards-related measures, trade and competition, and temporary entry by business persons. They are composed of trade and other relevant officials from the three governments.

Canadian, Mexican, and U.S. trade officials told us that, in general, NAFTA committees and working groups have helped all three countries to address important trade issues. They believe that these groups have prevented many issues from being elevated to the trade minister level and thus have minimized their politicization. One Canadian trade official commented that the working groups allowed government officials to settle their differences informally. U.S. embassy officials told us that Mexico and the United States are participating in NAFTA working groups to reduce delays that U.S. exporters encounter in meeting Mexican product standards. For example, to facilitate U.S. tire exports, Mexican officials told us they agreed to accept test data from U.S. tire manufacturers for the first time. A Canadian trade official cited a committee’s work on accelerating the elimination of tariffs on certain products. Other examples of committee and working group efforts mentioned by government officials included harmonizing labeling requirements on apparel among NAFTA countries and resolving disagreements on classifying goods to meet NAFTA rules of origin.

NAFTA has also built into its dispute settlement process opportunities for disputing parties to participate in consultations, or face-to-face meetings, to resolve their differences. These consultations are meant to allow parties to air their concerns and seek mutually agreeable solutions before pursuing more formal institutional review under NAFTA. If the parties resolve their differences through consultations, they do not need to go any further in NAFTA’s dispute settlement process. If differences are not resolved, the parties can request dispute settlement panel review. For example, seven such prepanel consultations are currently ongoing, one of which recently ended in a mutually acceptable resolution.

Enforcement

The three major dispute settlement provisions of NAFTA are set forth in chapters 19, 20, and 11. These chapters provide mechanisms for dealing with the three primary areas in which disputes can arise, that is, unfair trade practices (chapter 19), the interpretation and application of NAFTA (chapter 20), and the protection of investor rights (chapter 11). NAFTA’s chapter 20 also promotes the use of arbitration and other forms of alternative dispute resolution for international commercial disputes between private parties in the free trade area, although it does not prescribe or establish arbitration procedures.

There have been 32 chapter 19 requests for binational panel review as of July 1997, including 14 completed cases with final panel decisions, 9 cases still active, and 9 cases terminated without a decision (see app. IV for more information on completed cases.) There were no requests for Extraordinary Challenge Committee review under NAFTA. Officials from all three countries with whom we spoke considered the chapter 19 process to be working very well. They believed that the final panel decisions made thus far had been balanced and fair and completed in a timely manner.They observed that in their view, concerns about panels voting along national lines or the nature of the panel majority influencing its final outcome have proved to be unfounded. In fact, of the 14 completed panel decisions, 11 (79 percent) were unanimous. Chapter 19 binational panels took 457 days on average to complete cases and issue a final decision. Chapter 19 establishes a 315-day guideline to issue a final decision from the date a panel was requested.

Two requests for chapter 20 panel reviews have been made under NAFTA. In one case, a final panel decision has been issued, and in the other case oral argument has been held. A decision is due by the end of the year. A total of seven prepanel consultations are ongoing, including two in which the United States is the petitioner, and five in which the United States is the respondent. Officials with whom we spoke believed that the chapter 20 prepanel consultation process helped parties avoid formal disputes by allowing them to resolve their differences before requesting a chapter 20 panel. However, Mexican government officials and a member of a U.S. business association operating in Mexico expressed concern that, in their opinion, some of the prepanel consultations under chapter 20, were taking too long. NAFTA provides for no time limits on consultations other than those agreed to by the consulting parties.

Two U.S. firms have filed complaints under the NAFTA chapter 11 investor arbitration clause. In one case a panel convened in July 1997, and in the other case, a panel is still being formed.

Appendix IV further describes the chapters 19, 20, and 11 provisions and provides information on the dispute cases initiated since NAFTA’s implementation.

Implementation Progress

According to U.S., Mexican, and Canadian government officials, changes in NAFTA member countries’ trade laws precipitated by the agreement have increased the level of transparency in countries’ trade remedy determinations, particularly in Mexico. While government officials were generally pleased with the operation of NAFTA’s dispute settlement process to date, they expressed some concerns about the panel selection process. In addition, a constitutional challenge to the chapter 19 process is pending in U.S. federal court.

Changes in Signatory Trade Laws to Conform to NAFTA Requirements

All three signatories agreed to make changes in their trade remedy laws to comply with NAFTA provisions. For example, NAFTA obligated Mexico to make 21 procedural amendments to its laws. They were intended to reduce the potential for arbitrary antidumping and countervailing duty administrative determinations by increasing the level of transparency in the administrative process. The amendments Mexico was obligated to make to its law included allowing interested parties to fully participate in the administrative process, including the right to administrative and judicial review of final determinations, elimination of the possibility of imposing provisional duties before the issuance of a preliminary determination, and explicit timetables for determining the competent investigating authority and for parties to submit evidence and comments. The United States and Canada included changes required by NAFTA in their implementing legislation, while Mexico amended its new Foreign Trade Law shortly before NAFTA became effective.

In accordance with the NAFTA Implementation Act, the President reported to Congress on December 27, 1993, that Mexico implemented the statutory changes necessary to bring it into compliance with its obligations under NAFTA. In addition, Mexican officials stated that Mexico also amended its foreign investment, telecommunications, and intellectual property laws at that time. Mexico’s first trade remedies law, including antidumping and countervailing duty measures, was enacted in 1986 when Mexico joined the General Agreement on Tariffs and Trade (GATT). According to Mexican officials and the U.S. Section NAFTA Secretariat, the law, now in its fourth revision, has dramatically increased the levels of transparency and public participation in Mexico’s trade remedy determinations. However, these officials admitted that Mexico’s system for finding redress to unfair trade practices was still slow and costly to petitioners.

Canadian officials told us that both U.S.-Canadian Free Trade Agreement and NAFTA provisions on unfair trade practices have encouraged more thorough review and documentation of original antidumping and countervailing duty cases by Revenue Canada, an agency that administers Canadian trade laws. Prior to these agreements, these same officials said that Revenue Canada’s review processes of these cases had been less documented and less subject to outside scrutiny.

Quality of the Operation of Dispute Settlement

In general, U.S., Mexican, and Canadian government officials with whom we spoke were favorably impressed with the operation of the NAFTA dispute settlement process over the past 3-1/2 years. They considered the panelists reviewing the cases brought forward to date to be of high quality, professional, neutral, and unbiased. Panelists, we were told, went out of their way to hear all of the arguments relevant to each case. In addition, they were pleased that panel reviews and decisions were conducted with little attention from the media. Officials observed that the cases that did attract media attention tended to be those concerning issues that had been sensitive long before NAFTA. They further noted that the controversy over these cases concerned the substance of the issues rather than the dispute settlement process itself.

U.S., Canadian, and Mexican business groups we spoke with believed that the dispute settlement framework has provided an orderly, fair, and predictable mechanism with which to resolve differences. One U.S. business association member explained that such a mechanism provided certainty and reduced risk to all participants, thereby facilitating trade among the three countries. Another businessperson noted that the outcome of the panel decisions was not as important as the certainty that the dispute settlement system was unbiased and based upon the rule of law.

Considering the increased trade among the United States, Canada, and Mexico since NAFTA’s implementation, many of the private sector and government officials with whom we spoke regarded the number of dispute settlement cases over the past 3-1/2 years to be remarkably low. They attributed this to opportunities to work out differences through the NAFTA working groups and the consultation process built into the dispute settlement process.

Panel Selection

Notwithstanding the support expressed by many business and government representatives for the agreement’s dispute settlement process, some participants in the dispute settlement process expressed concern about the timeliness of the panel selection process.

NAFTA’s chapter 19 provides that involved parties agree on their selection of panel members within 55 days of the request for a panel. The average delay over and above the required 55 days for panel selection under NAFTA chapter 19 had been 53 days. Participants attributed this delay to the logistics of finding qualified potential panelists, in particular panelists who meet the NAFTA code of conduct that requires that panelists meet certain criteria, including lack of a conflict of interest. One participant cautioned that such delays could potentially cause problems since NAFTA requires the respondent to respond to the complainant’s brief within 60 days of the request for a panel. In fact, thus far nine panels have been temporarily suspended to deal with such situations.

In addition, a Canadian official responsible for monitoring NAFTA issues believed that the two cases involving requests for chapter 20 panels had been delayed due to the absence of a chapter 20 roster. Under NAFTA, the chapter 20 panel members are normally to be chosen from a roster agreed upon by all three signatories. Without a roster, panelists in the two cases had to be selected from a general population of potentially eligible panelists. According to a U.S. Trade Representative official, the chapter 20 roster has not yet been formed because the parties could not agree on its composition.

Mexican officials admitted that Mexico’s pool of potential panelists was rather limited because Mexican attorneys are still developing expertise in trade dispute matters. Moreover, the limited number of Mexican trade attorneys increases the potential that panelists might represent clients in the industries subject to panel review, a situation not allowed under NAFTA’s conflict of interest provisions. Mexican officials explained that their government is making every effort to train more professionals in the area of trade law. For example, the Mexican government is currently sponsoring seminars on trade law and requiring that Mexican universities provide classes in antidumping and countervailing duty law as well as in NAFTA dispute settlement.

Challenge to Constitutionality of Binational Panel System

Critics have questioned whether the chapter 19 binational panel review system, by replacing federal court review with binational panel review, violates article III of the U.S. Constitution that provides that judicial power be exercised by U.S. federal courts. They also question whether the chapter 19 system may violate the appointments clause of article II of the U.S. Constitution, which requires that judicial officials be appointed by the President with the advice and consent of the Senate, since chapter 19 panelists are not nominated by the President and confirmed by the Senate. In January of this year, the American Coalition for Competitive Tradefiled a lawsuit in the U.S. Court of Appeals for the District of Columbia Circuit charging that chapter 19 violates articles II and III of the U.S. Constitution.

In view of these developments, it is possible that questions concerning the constitutionality of the chapter 19 binational panel review system may be resolved by the federal courts. However, if and when the courts will ultimately decide these issues is uncertain.

Implementation of Environment and Labor Agreements

During the NAFTA negotiation process, parallel negotiations were undertaken to address environment and labor issues. The two resulting agreements emphasized cooperation to improve environment and labor conditions in North America; they also created mechanisms to address enforcement of environment and labor laws in each of the three countries. After 3-1/2 years of implementation, it is too early to say what definitive effect these side agreements will have on the environment and labor. The commissions set up to implement the two agreements have been acknowledged for their efforts to date to further cooperation in their respective areas, but observers also have concerns about various aspects of the agreements’ implementation.

Coverage and Results of the Environmental Agreement

The North American Agreement on Environmental Cooperation signed by Canada, Mexico, and the United States in September 1993, went into effect along with the NAFTA on January 1, 1994. The environmental agreement aims to protect, conserve, and improve the environment through increased cooperation and transparency among the three governments and greater public participation. In addition, the agreement provides citizens and governments an opportunity to file complaints regarding a country’s failure to enforce its environmental laws.

The environmental agreement established the Commission for Environmental Cooperation in Montreal to help the three signatory countries achieve the objectives set forth in the agreement. Its organizational structure consists of a Council, a Secretariat, and a Joint Public Advisory Committee. Since 1995, this commission has been funded at approximately $9 million per year, with equal contributions from each member country. In 1996, the commission created a fund for community-based projects in Canada, Mexico, and the United States that promotes the commission’s goals and objectives. In 1997, $1.6 million of the annual budget was used for this fund.

Cooperative Efforts

Since its first full year of operation in 1995, the environmental commission has undertaken a work program designed to improve environmental cooperation. Work program areas and examples of projects undertaken by the commission are outlined in table 2.

The environmental supplemental agreement provides two separate mechanisms regarding a government’s failure to enforce its environmental laws: (1) articles 14 and 15 provide for citizen submissions on enforcement matters and (2) part V provides for government-to-government consultation and resolution of disputes. Environmental officials from Canada and the United States generally believe that the citizen submission process is working well. They believe the submissions are being fairly reviewed by the Secretariat. In Canada, one official commented that this process has even helped the provincial and national environmental agencies harmonize their responsibilities.

Citizen submission process. Under the citizen submission process, a citizen or citizen group may submit a claim to the environment commission’s Secretariat that a party to the agreement is failing to effectively enforce its environmental laws. If two out of the three countries agree that the submission has merit, the commission will prepare a factual record (that is, an investigation of the matter) that could lead to public pressure to improve enforcement. Unlike part V of the agreement for resolving government-to-government environment disputes, the citizens submissions process does not provide this commission with the ability to impose sanctions.

Since the citizen submission process came into effect, 11 submissions have been filed. Of these 11, 3 cases were submitted alleging that the United States had failed to enforce its environmental laws. Of these three submissions, two were terminated because they dealt with legislative changes or new environmental laws rather than nonenforcement, and the third was withdrawn. In this third instance, the submitter alleged that the Department of Defense’s expansion of Fort Huachuca, Arizona, would drain the local water supply and destroy the ecosystem that is dependent upon it. In its response, the U.S. government contended it was not failing to enforce environmental law and that the citizen submission did not warrant an inquiry to gather factual information. In July 1997, the submitter withdrew the filing, and the process was terminated.

The remaining cases were against Canada and Mexico, with six being filed against Canada and two against Mexico. The case that has proceeded the furthest involves a submission filed by three Mexican nongovernmental organizations in 1996, alleging that the Mexican government failed to effectively enforce its environmental laws regarding the construction and operation of a public harbor terminal in Cozumel. The Secretariat recommended, and the Council approved, that a factual record be prepared in this case. The Secretariat transmitted the final factual record to the Council on July 25, 1997. The Council may, upon a two-thirds vote, make the final record a public document.

Government-to-government disputes. Although a process for consulting on and resolving government-to-government disputes regarding a “persistent pattern of failure to effectively enforce its environmental laws” is called for under the agreement, no rules of procedure for implementing this segment—part V—of the agreement have been established to date.Unlike the citizen submission process identified in articles 14 and 15 of the environmental agreement, part V allows an arbitration panel reviewing the case to impose monetary sanctions or to withdraw NAFTA benefits if it determines that the government against which a complaint was filed persistently failed to enforce its environmental laws. Without rules of procedure, no NAFTA member country can raise a complaint under this section of the environmental agreement, which was designed to help resolve disputes arising between governments.

Implementation Progress and Issues

The environmental commission is credited with making some progress in implementing the environmental agreement. However, implementation issues involving the focus of the commission’s cooperative work programs, transparency of the enforcement mechanisms, and the governments’ commitment to the agreement remain.

Progress on cooperation and participation. Officials we spoke with at the U.S. and Canadian environmental agencies, as well as at a Mexican nongovernmental organization, were generally pleased with implementation of NAFTA’s environmental agreement. According to these officials, the agreement and its commission provide the three countries an opportunity to examine broader, regional environmental objectives and to develop cooperative action plans on agreed-upon priorities. Actions taken by the commission in implementing the environmental agreement are listed in table 2.

Environmental officials in all three NAFTA countries also commented on the increased level of public participation achieved through the agreement. This is especially true in Mexico, according to a Mexican expert we spoke with, who told us that the agreement has given the Mexican government the political will to strengthen its environmental laws and include citizen input. Another Mexican environmental expert has stated that the commission has been an important catalyst for developing a more transparent regulatory process and ensuring a more consistent application of environmental laws in Mexico.

Similar reactions were also expressed by some other environmental experts reviewing implementation of the environmental agreement. In a letter sent to the Council, an independent panel of experts said that the environmental agreement and the commission have done much to develop as an important focus for environmental cooperation and dialogue in North America.

Concerns about work programs and studies. Despite the achievements acknowledged by government officials and experts, some observers have raised concerns about the work undertaken by the commission. For example, Mexican trade officials stressed their concerns about both the process and content of the work program. According to these officials, the commission needs more transparent criteria for its selection and funding of projects, and the Mexican government should have much more input into the funding of projects earlier on in the process. Furthermore, they believe that the commission is funding several environmental projects that are duplicative of some ongoing efforts to improve conditions along the U.S.-Mexico border. The U.S. Environmental Protection Agency (EPA) has raised other concerns about the process used to determine the studies undertaken by the commission. Specifically, an agency official told us that the process used to determine whether or not to prepare a study needs to be more transparent. Canadian trade and environment officials did not express any concerns about the commission’s work programs or studies.

Concerns about the citizen submission process. Questions regarding the consistency with which the citizen submission process has been applied, the transparency of this process, and the guidelines developed to implement it were raised by officials we spoke with.

Mexican officials believe the environment commission has been inconsistent in its handling of the cases filed under the citizen submission process, showing more flexibility towards some governments involved in cases than others. Specifically, they are dissatisfied with the application of the process in the Cozumel public harbor case alleging Mexico’s failure to effectively enforce its environmental law.

Mexican environmental experts believe the environment commission needs to increase the transparency of the submission process. For example, they believe the submitter should be allowed to review a draft of the factual record prepared by the secretariat, as the government is allowed to do, before it is finalized.

U.S. environmental officials are concerned that the citizen submission guidelines currently allow the submitter to withdraw a filing at will. Once the Secretariat receives notification of the withdrawal, it is required to halt the process of investigation. According to an official at the EPA, it was a mistake to include such a provision in the guidelines because the process may be halted at any stage regardless of the level of resources the commission and the governments may have put into processing and responding to the allegation. The official told us these guidelines are currently being revised.

Concerns about an independent commission. A panel of experts and officials at the environmental commission we spoke with stressed the importance of improving the commission’s independence and its ability to autonomously decide to undertake a study or a work program. Problems associated with this issue arose during the annual program and budget review process in which Mexican government officials withheld their support and approval for a project to study the environmental effects of NAFTA in certain sectors. Officials from Mexico objected to the project because they believed the commission had not adequately consulted them in the identification of the sectors—energy and agriculture—to be studied. While support for the project, referred to as the second phase of the NAFTA Environmental Effects project, was eventually granted for the remainder of 1997, its continuation beyond that was made contingent upon a group of trade and environment officials from each country recommending the terms of reference for future work in this area.

Concerns about national commitment to the environmental agreement. Experts, some government officials, and officials at the commission’s secretariat were concerned about what they regard as a low level of national commitment to the environmental agreement. A commission official we spoke with commented that agencies responsible for implementation of the NAFTA environmental agreement in both the United States and Mexico have been constantly understaffed, which has had an adverse impact on the agreement’s implementation. For example, Canadian officials told us that without an adequate level of staff to implement the agreement in each country, marketing of the agreement’s strengths, its cooperative work efforts, and its enforcement mechanisms suffer. Furthermore, officials we spoke with said that it was surprising that, compared to Canada and Mexico, the United States has consistently had the least number of staff—one—assigned to oversee implementation.

Coverage and Results of the Labor Agreement

The North American Agreement on Labor Cooperation signed by Canada, Mexico, and the United States in September 1993, went into effect on January 1, 1994, along with NAFTA. The agreement aims to improve working conditions and living standards in each country, encourage exchange of information on and foster transparency in the administration of labor law, and pursue cooperative labor-related activities among the three countries. The three governments have also committed themselves to promote compliance with and effectively enforce (subject to domestic law) 11 labor principles, including the freedom of association and protection of the right to organize; the right to bargain collectively and strike; minimum employment standards; elimination of employment discrimination; equal pay for women and men; and protection of migrant workers.

The labor agreement established the Commission for Labor Cooperation in Dallas as a trinational organization responsible for fostering cooperative labor-related activities and performing independent evaluations. The commission was funded in equal parts by the three countries at $1.8 million in 1996. In addition, the labor agreement permits the parties to develop a consultative system to address domestic labor-related issues. This includes a dispute settlement mechanism to address lack of enforcement by a party of certain labor law standards.

Cooperative Efforts

The commission, in order to meet its obligations to pursue cooperative labor-related activities, has completed a number of efforts since it went into operation in September 1995. Examples include those listed in table 3.

The labor agreement provides for a series of processes to ensure the enforcement of each country’s labor laws, emphasizing cooperation and consultation throughout the various steps. If a person or group wishes to allege that one country has failed to effectively enforce its labor laws, it may file a submission with the National Administrative Office of another country. The National Administrative Office receiving the submission may then investigate the allegation, including holding public hearings to gather information. Consultation with other National Administrative Offices follows if the submission is accepted. The Secretary of the National Administrative Office receiving the submission may then recommend that ministerial consultations take place on the subject. Depending on the nature of the allegation, additional steps in the process could include the formation of an evaluation committee of experts if ministerial consultations have not resolved the issue, as well as other cooperative and consultative steps.

If cooperative efforts to resolve problems fail, the labor agreement provides a dispute settlement mechanism in three instances where a submission involves an allegation of a persistent pattern of failure to effectively enforce labor rights: occupational safety and health, child labor, and minimum wage technical labor standards. In such a case, an arbitration panel may be formed to review the matter and make recommendations for corrective action. Failure of one of the parties to fully implement the panel’s recommendations could ultimately lead to a monetary sanction to be placed in a fund to be used to improve or enhance labor law enforcement in the non-conforming country. Failure to pay the monetary sanction could result in suspension of NAFTA benefits.

Eight cases have been submitted since the establishment of the National Administrative Offices. Seven have been submitted to the U.S. National Administrative Office against Mexico, and one has been submitted to Mexico’s National Administrative Office against the United States; none have involved Canada. None of the cases submitted so far has fallen in a category of labor principles that could ultimately qualify for dispute settlement and sanctions. A more detailed description of the submissions can be found in appendix VI.

Implementation Progress and Issues

The labor agreement is the first international agreement to link labor issues to an international trade pact. Recent efforts to link trade agreements and labor issues, building on NAFTA, have proven to be very controversial. For example, at the first ministerial meeting of the World Trade Organization (WTO) at Singapore in December 1996, WTO members rejected a U.S. proposal to create a working group to study the relationship between trade and labor standards. Thus, while the labor agreement is limited in its scope, according to some critics, it remains a visible experiment in the linkage of labor standards to international trade agreements.

Labor officials knowledgeable about the labor agreement in each country told us that they believe that the agreement has had a positive effect on increasing the level of understanding about labor issues in North America—one of its major objectives. Many of the activities associated with the agreement have been focused on improving the level of understanding of each country’s labor system because, according to one National Administrative Office Secretary, such understanding has been woefully lacking in the past.

Personnel issues. Difficulty in hiring and retaining staff has been identified as an impediment to the implementation of the labor agreement. The National Administrative Offices in each country went into operation in January 1994 at the same time that NAFTA went into effect. At the first meeting of the commission’s Council in March 1994, labor ministers from each country indicated they planned to hire an Executive Director by June 1, 1994. However, the position was not filled until April 1995 due to difficulties in hiring a Canadian Executive Director, according to commission officials. Because of this delay, the commission’s opening did not occur until September 1995, almost 2 years after the labor agreement went into effect. In addition, turnover at both Mexico’s National Administrative Office and at the labor commission has disturbed the continuity of operations, according to U.S. and Canadian officials. Finally, disparate national treatment in the application of personal taxes for employees at the commission has resulted in different net salaries for each nationality, and has negatively affected both recruiting efforts and morale, according to commission officials.

Budgetary issues. Funding levels for the commission have also been raised as a concern related to the effectiveness of the commission. The NAFTA Implementation Act authorized a U.S. contribution to the commission of $2 million for each of fiscal years 1994 and 1995. Since the burden of funding the commission must be borne equally by each country, this indicated a potential annual commission funding level of $6 million. However, the actual annual commission budget for the past several years has been $1.8 million (U.S. contribution totalling $600,000). A commission official explained that by the time the commission was ready to be funded, Mexico had entered into its financial crisis and requested a temporary funding limit on the commission of $600,000 per country.

The funding limitations are causing concern on the part of some observers that the commission does not have adequate resources to meet its obligations. The Director of the Mexico National Administrative Office told us that while the commission has requested a budget raise from its Secretariat, the Mexican government has decided not to authorize an increase until it has had an opportunity to examine the commission’s annual work plan. Commission officials told us that the Canadian government has already appropriated $1 million for its share of the budget and is diverting 40 percent of it to support NAFTA environment efforts to remain in compliance with labor agreement provisions that no country contribute more than any other to support the commission.

Thank you Mr. Chairman, this concludes my prepared remarks. We will be happy to answer any questions you or Members of the Subcommittee may have.

Selected Statistics on NAFTA Member Countries

Population (1995, in millions)

Per capita GNP (1995, PPP dollars)

Average annual growth rate of real per capita GNP, 1985-95 (percent)

Average annual inflation rate, 1985-95 (percent)

Merchandise Trade Relationships Between NAFTA Members, 1991-93 and 1994-96

rate (percent)

U.S. Merchandise Trade With Mexico, 1990-96

NAFTA Dispute Cases

NAFTA chapters 19, 20, and 11, respectively, deal with the three primary areas in which disputes can arise—unfair trade practices, the interpretation and application of NAFTA, and the protection of investor rights. In the 3-1/2 years since NAFTA’s implementation, dispute cases have arisen in all three areas. A brief description of the three chapters’ provisions and information about the dispute cases initiated to date are provided in the following tables.

Chapter 19

Chapter 19 lays out the system for the review of antidumping and countervailing duty final determinations made by the domestic agency of the importing country in the dispute. Chapter 19 replaces domestic judicial review of those final administrative determinations with binational panel review. Five-member binational panels of experts chosen from rosters developed by each of the three signatories review the determinations and issue final decisions. Panels apply the law of the country whose agency is under review. These panels usually consist of lawyers, sitting or retired judges, former government officials, noted academics, and others who specialize in trade dispute settlement and international affairs. Panels may either uphold a determination or remand it to the investigating authority. The panel’s decision on the case is final and binding and cannot be appealed in the domestic courts. In certain extraordinary circumstances, such as the gross misconduct of a panel member, a party involved in a chapter 19 dispute can request that a final panel decision be reviewed by an Extraordinary Challenge Committee. Table IV.1 provides information on the chapter 19 NAFTA dispute settlement cases for which there were final panel decisions.

Case identification (in descending order)

Countervailing duties (CVD)

Crystal and solid polystyrene from U.S.

Cut-to-length plate products from U.S.

Refined sugar from U.S.

Certain malt beverages from U.S.

Certain corrosion-resistant steel sheet products from U.S.

Certain corrosion-resistant steel sheet products from U.S.

Unanimous decisions?

Reduced duties for 3 producers from 39.95% to 18.20% Reduced duties for all producers from 23.79% to 21.70% Agency instructed to adjust methodology for determining rebated or uncollected value-added tax Duty lowered from 13.35% ad valorem to none for 2 producers Reinstated the sows and boars subclass and set a separate CVD rate for it Domestic agency determination declared null and void and duties revoked.

Panel’s remand did not result in any change in the domestic agency’s determination Duty for one importer decreased from 13.2 percent to 13.1 percent; duty for another importer increased from 8.4 percent to 8.5 percent (continued)

Case identification (in descending order)

Synthetic baler twine from U.S.

Unanimous decisions?

Chapter 20

Chapter 20 establishes NAFTA’s procedures for settling disputes between the signatory governments regarding NAFTA’s interpretation and application. Chapter 20’s dispute settlement provides for (1) consultations between disputing parties to resolve their disagreement and, if that fails, referral of the dispute to the Free Trade Commission; (2) referral of the dispute to a panel of independent experts; (3) dissemination of panel findings and recommendations; (4) resolution of the dispute through nonimplementation or removal of the nonconforming measure; and (5) suspension of application of benefits by the complaining party if agreement on resolution to the dispute cannot be reached. Chapter 20 panels are chosen from a roster of experts agreed upon by the three signatories. Table IV.2 provides information on the chapter 20 disputes initiated under NAFTA.

Retaliatory action in response to U.S. safeguard action on broomcorn brooms Small parcel delivery (UPS)

Chapter 11

NAFTA is unique among trade agreements because, under chapter 11, it contains a comprehensive regime for settling disputes between foreign investors and host governments. International trade agreements have generally concentrated on removing government barriers to trade in goods and services and not on resolving disputes between private parties or regarding investment issues. Chapter 11 makes investor-state disputes subject to binding arbitration for monetary compensation. If a dispute is not resolved through consultations, the investor may seek arbitration through a World Bank facility or through ad hoc proceedings under United Nations arbitration rules. Table IV.3 shows the status of the chapter 11 cases brought forward under NAFTA.

Metalclad Corporation (U.S. company)

Desechos Solidos de Naucalpan (U.S. company)

Citizen Submissions Under the North American Agreement on Environmental Cooperation

Submitter(s) and year filed Complaint Biodiversity Legal Foundation, et al. (1995)

Sierra Club, et al. in the U.S., and Canadian and Mexican environmental groups (1995)

Comité para la Protección de los Recursos Naturales, A.C., et al. (1996)

Mr. Aage Tottrup, P. Eng (1996)

Friends of the Old Man River (1996)

The Southwest Center for Biological Diversity, et al. (1996)

Fort Huachuca (AZ) base expansion will drain local water supply and destroy ecosystem dependent on it (San Pedro Reservoir)

British Columbia Aboriginal Fisheries Commission, et al (1997)

Secretariat reviewing submission in light of Canadian response (continued)

Submitter(s) and year filed Complaint Comité pro Limpieza del Rio Magdalena (1997)

Centre Quebecois du Droit de L’environement, et al. (1997)

Canadian Environmental Defense Fund (1997)

Animal Alliance of Canada, et al. (1997)

Labor Submissions Under the North American Agreement on Labor Cooperation

After holding a hearing, the U.S. National Administrative Office recommended ministerial consultations on the relationship between international treaties, constitutional provisions, and domestic law protecting freedom of association. On September 3, 1997, the three labor ministers agreed to conduct a formal exchange of information and hold a public conference on issues raised by the case (continued)

Related GAO Products

Trade Liberalization: Western Hemisphere Trade Issues Confronting the United States (GAO/NSIAD-97-119, July 21, 1997).

Commercial Trucking: Safety Concerns About Mexican Trucks Remain Even as Inspection Activity Increases (GAO/RCED-97-68, Apr. 9, 1997).

International Environment: Environmental Infrastructure Needs in the U.S.-Mexican Border Region Remain Unmet (GAO/RCED-96-179, July 22, 1996).

Commercial Trucking: Safety and Infrastructure Issues Under the North American Free Trade Agreement (GAO/RCED-96-61, Feb. 29, 1996).

Mexico’s Financial Crisis: Origins, Awareness, Assistance, and Efforts to Recover (GAO/GGD-96-56, Feb. 23, 1996).

U.S.-Canada Free Trade Agreement: Factors Contributing to Controversy in Appeals of Trade Remedy Cases to Binational Panels (GAO/GGD-95-175BR, June 16, 1995).

Dislocated Workers: An Early Look at the NAFTA Transitional Adjustment Assistance Program (GAO/HEHS-95-31, Nov. 18, 1994).

NAFTA: Structure and Status of Implementing Organizations (GAO/GGD-95-10BR, Oct. 7, 1994).

Dislocated Workers: Proposed Re-employment Assistance Program (GAO/HRD-94-61, Nov. 12, 1993).

Dislocated Workers: Trade Adjustment Assistance Program Flawed (GAO/T-HRD-94-4, Oct. 19, 1993).

North American Free Trade Agreement: Assessment of Major Issues (GAO/GGD-93-137, Sept. 9, 1993, 2 vols.).

U.S.-Mexico Trade: The Maquiladora Industry and U.S. Employment (GAO/GGD-93-129, July 20, 1993).

NAFTA: Issues Related to Textile/Apparel and Auto and Auto Parts Industries (GAO/T-GGD-93-27, May 5, 1993).

U.S. Trade Data: Limitations of U.S. Statistics on Trade with Mexico (GAO/GGD-93-25, Apr. 28, 1993).

CFTA/NAFTA: Agricultural Safeguards (GAO/GGD-93-14R, Mar. 18, 1993).

Pesticides: U.S. and Mexican Fruit and Vegetable Pesticide Programs Differ (GAO-T-RCED-93-9, Feb. 18, 1993).

U.S.-Canada Trade (GAO-GGD-93-10R, Dec. 12, 1992).

Dislocated Workers: Improvements Needed in Trade Adjustment Assistance Certification Process (GAO/HRD-93-36, Oct. 19, 1992).

International Trade: Implementation of the U.S.-Canada Free Trade Agreement (GAO/GGD-93-21, Oct. 10, 1992).

North American Free Trade Agreement: U.S.-Mexican Trade and Investment Data (GAO/GGD-92-131, Sept. 25, 1992).

Dislocated Workers: Comparison of Assistance Programs (GAO/HRD-92-153BR, Sept. 10, 1992).

U.S.-Mexico Trade: Assessment of Mexico’s Environmental Controls for New Companies (GAO/GGD-92-113, Aug. 3, 1992).

Pesticides: Comparison of U.S. and Mexican Pesticide Standards and Enforcement (GAO/RCED-92-140, June 17, 1992).

Mexican Oil: Issues Affecting Potential U.S. Trade and Investment (GAO/NSIAD-92-169, Mar. 18, 1992).

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