International Trade: Building Vehicles In Today’s Uncertain World

The USMCA and tariffs are expected to raise costs for producers of automobiles.

Alabama Secretary of Commerce Greg Canfield. Photo courtesy of Alabama Governor’s Office/Hal Yeager

After three years of negotiations, the new United States-Mexico-Canada Agreement (USMCA) took effect July 1, replacing the North American Free Trade Agreement (NAFTA). While the new USMCA was expected to bring stability to North American trade, the verdict is still out.

Just a few weeks after the new agreement became effective, President Donald Trump announced that the United States would reinstate a 10% import tax on Canadian aluminum. While Trump had originally imposed the tariffs on aluminum imports in 2018, he lifted them last year on Canadian and Mexican metals to smooth the way for the USMCA. “It is predicted that Canada will retaliate with tariffs of its own — unless U.S. and Canadian negotiators can reach a truce before the tit-for-tat import taxes begin,” says Greg Canfield, secretary of commerce for the state of Alabama.

This one step forward, two steps back progress has become typical in the realm of international trade. Not only do regulations change frequently, but exporters are now operating in an uncertain environment created by the ongoing coronavirus pandemic.

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“COVID-19 has caused a major disruption and that, along with tariffs, have affected [the] automotive industry,” Canfield says. “At this time, it is difficult to predict how things will proceed until there is a return to more consistent production.”

Changes in North American Trade

USMCA represents the biggest news in trade in recent months, and the new agreement is expected to eventually raise production costs for North American automakers. That’s because the agreement requires auto industry producers to adhere to new and elevated requirements. For example, some of the increased requirements include:

  • Regional Value Content — By 2023, the agreement requires 75% of passenger vehicle and light truck components to be manufactured in a USMCA country without being subjected to tariffs. The same standard will apply to core parts but will be slightly lower for complementary and principal parts, for which the content requirements will be 65% and 70%, respectively, by 2023. This is an increase from the current NAFTA provision of 62.5%.
  • Labor Value Content Rule — Beginning in 2020, 30% of work completed on passenger vehicles must be performed by workers earning at least $16 per hour. This percentage will increase to 40% in 2023.
  • Steel and Aluminum Purchases — Beginning in 2020, 70% of steel and aluminum purchases must be made in a USMCA country.

Most industry and trade experts believe the USMCA and its new requirements will result in higher costs. For instance, manufacturers may incur additional cost and time to meet content, labor and purchasing reporting requirements, Canfield says. “To meet wage requirements, the labor value requirement will likely lead manufacturers with deeper roots in USMCA countries to shift production jobs from Mexico to the United States and Canada,” he says.

The higher content percentage requirements are likely to increase material costs to original equipment manufacturers (OEMs). “Higher material and labor costs will ultimately increase retail prices that may influence consumers in the market for replacement vehicles to consider used vehicles that are less expensive,” Canfield says.

Negotiating the parameters of USMCA took three years, and that process was a source of uncertainty and unpredictability that has likely damaged the United States’ relationship with Canada, says Paul Vandevert, principal at Vandevert Trade Law, a Michigan-based firm focused on international trade law. “The North American auto industry supported the USMCA mostly because it recognized that NAFTA was gone, and it needed something to replace it, so that the industry, which is completely regionalized throughout North America, could continue to function,” Vandevert says. “[However], there are many plusses in the USMCA. In addition to new, stiffer content requirements, there are many new rules for automotive that can be used as tools to make the process of qualifying automotive products for USMCA benefits simpler, easier and cheaper.”

Ongoing Tariff Troubles

While the replacement for NAFTA is now settled, tariffs continue to fluctuate, potentially damaging the auto industry. For instance, since the United States has recently revived its tariffs on Canadian aluminum, many U.S. suppliers may be stuck with the bill. “Supply chains cannot be changed in a day,” Vandevert says. “Producers must be qualified by their auto customers, a process that takes months to complete.”

Because automotive suppliers typically purchase raw materials and supply components and assemblies to OEMs under long-term agreements with fixed prices, many have limited ability to pass on increased production costs related to the tariffs to their customers. It’s become an ongoing and difficult dance for auto industry players to keep up with changing tariffs.

“The auto industry can adapt to almost any set of circumstances, even very negative ones, so long as those circumstances are stable and predictable,” Vandevert says. “But no one can say what the latest is on tariffs, because there is always something new, even if just a threat, in the air. That is anathema to auto companies for whom stability and certainty are bedrock essentials. Just the threat of imposing tariffs, threatening tariffs on automotive goods from Europe, for example, significantly disrupts auto companies’ ability to plan and invest in future business. Building a new plant or designing a new vehicle takes years of planning. Introducing uncertainty suspends the planning process, which increases the likelihood that those plans will be canceled or just abandoned. Not knowing what is or may be happening with tariffs is very disruptive to auto companies.”

For instance, trade with China is very important to Southern U.S. auto manufacturers, but the Section 301 China tariffs are increasing their costs. To overcome the challenges, Vandevert is advising clients to focus on the fundamental mechanics of importing, such as making sure the tariff codes used for imports are correct.

He also recommends reviewing the Incoterms, which determine who has responsibility for export and import compliance, and making sure the correct amount of Customs duties are paid.

Automotive Trade in a Pandemic

In addition to changing government regulations, COVID-19 shutdowns also have affected automotive trade in recent months. “The supply chain is critical to automotive production and COVID-19 disrupted and impacted our OEMs,” Canfield says. “Many are now identifying alternative sourcing strategies and evaluating what this means for their operations.”

However, the pandemic also may result in increased demand for autos.

Canfield explains, “Reports in early March show that, in China, people’s attitudes toward vehicle ownership, public transportation and mobility solutions like ride hailing have shifted in the wake of the pandemic. Usage of personal or private cars nearly doubled after the outbreak, while reliance on public transportation has fallen by more than half, and China vehicle exports are also expected to rise by 15% in July.”

COVID-19 might be a one-time disruption, but since no one knows for sure, Canfield suggests companies reassess their technological gaps and put a plan in place.

Nancy Mann Jackson is a freelance contributor to Southern Automotive Alliance. She is based in Alabama.

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