Why fears over NAFTA's fate are overblown

Trump's triumph creates winners and losers among Canadian stocks.

Rudy Luukko 10 November, 2016 | 3:00AM

Canadians who are worried about the economic impact of the U.S. election can take consolation in the fact that Donald Trump has no intention of building a wall across the world's longest undefended border and sending the bill to Prime Minister Justin Trudeau.

What remains to be seen is what other types of barriers the U.S. president-elect, backed by Republican majorities in both the Senate and the House of Representatives, may attempt to erect that would be detrimental to Canadian businesses and jobs.

But on the basis of stock-market reaction the day after the election, there appeared to be little cause for alarm, at least from the perspective of investors in Canadian equities.

The S&P/TSX Composite Index gained 0.7% by the close of Nov. 9 trading, though some stocks fared far better than others. Within the energy sector, for instance, the oil and gas industry is a winner, but alternative-energy providers face less sunny prospects.

The Republican candidate's surprising victory creates uncertainty over the future of the North American Free Trade Agreement, since Trump condemned it during the election campaign as the worst trade deal ever for the United States. He promised to renegotiate NAFTA to obtain more favourable terms, or serve notice of intention to withdraw from the 22-year-old deal.

The stakes for Canada are high, since the U.S. is by far our biggest trade partner. For all of 2015, Canada had a total of $525.3 billion in merchandise exports, of which more than 75% went to the U.S., according to Statistics Canada.

However, there are reasons to believe that fears over the fate of NAFTA are overblown. With the votes now counted, Trump's actions related to NAFTA are likely to be far less consequential than his rhetoric would lead you to believe.

First of all, tariffs or other trade barriers imposed by the U.S. could lead to retaliatory measures on the part of its biggest trade customers, who happen to also be its NAFTA partners. The biggest importer of U.S. goods is Canada, followed by Mexico, with China a distant third.

Canada had only a modest trade surplus with the U.S. in the nine months ended in September, according to U.S. government data. Canada exported US$206.5 billion to the U.S., while importing US$200.6 billion -- almost as much. Over the same period, Mexico had a larger trade surplus with the U.S, with US$218.9 billion in exports, and a still very substantial US$172 billion in imports of U.S. goods.

All this suggests that the U.S. isn't the only NAFTA partner with clout. Just as Canadian and Mexican jobs are tied to NAFTA, so are the jobs of millions of American workers.

Most of the U.S. imports are related to the integration of business operations between the NAFTA countries. According to the Office of the U.S. Trade Representative, an arm of the outgoing Barack Obama administration, nearly 60% of the goods imported by the U.S. from Canada and Mexico are used in the production of made-in-the-U.S.A. goods and services.

Furthermore, Trump's blunt anti- NAFTA comments were aimed primarily at Mexico, from which he said he wants to bring manufacturing jobs back into the U.S., and build a wall across the southern U.S. border, paid for by Mexico, to keep illegal immigrants out. Canada was essentially ignored, as it often is during U.S. election campaigns.

A more logical trade villain for Trump to go after is China, by far the biggest source of the U.S. trade deficit. The U.S. imported US$337 billion from China in the year to date to Sept. 30, while exporting only US$79.3 billion. For that reason, China would presumably be a higher priority for Trump's trade negotiators than the two NAFTA partners.

Elsewhere on the trade front, the proposed Trans-Pacific Partnership -- of which China is not a signatory -- appears to be dead. Trump's top plank in his trade-related election platform is to withdraw from the unratified Trans-Pacific deal involving the U.S., Canada, Japan and nine other mainly Asian countries. The defeated Democratic candidate, Hillary Clinton, also opposed the agreement.

In pre-election estimates, Global Affairs Canada said the Trans-Pacific Partnership would provide a net advantage to Canada and would be the most significant regional trade agreement that Canada has negotiated since NAFTA. According to the federal department, the Trans-Pacific deal, if ratified, would permanently boost Canada's GDP by 0.127% above baseline estimates.

Unaffected by Trump's victory, and now all the more important for Canada as a highly trade-dependent country, is the Canada-European Union Comprehensive Economic and Trade Agreement signed in late October, less than 10 days before the U.S. election. Once CETA is fully implemented, according to Ottawa, 99% of tariff "lines" will be eliminated, up from 25% currently.

A trade agreement that helps diversify Canada's export revenues is a welcome development, given the increased risk of U.S. protectionist measures. However, the EU is a much smaller trading partner than the U.S. The value of Canada's exports to the U.S. is currently 10 times greater than exports to the EU.

On a positive note, one of the potential beneficiaries of a Trump administration is Canada's oil sector because of the prospect of greater access to the U.S. market. Unlike Obama, who refused to issue the required presidential permit for the proposed Keystone XL pipeline, Trump is a supporter.

To be built by  TransCanada Corp. (TRP), the 1,900-kilometre oil pipeline would run from Alberta to Nebraska to link up with other U.S. pipelines. TransCanada shares closed at $59.96 today, up 3%.

But the incoming Trump administration is bad news for alternative-energy providers, given Trump's standing as the world's most high-profile climate-change denier and his opposition to Obama's environmental-protection initiatives. For example, among today's stock-market losers was NASDAQ-listed  Canadian Solar Inc. (CSIQ), a solar-power manufacturer based in Guelph, Ont., whose shares plunged by 13.5% to close at US$11.52.

Securities Mentioned in Article

Security NamePriceChange (%)Morningstar Rating
Canadian Solar Inc19.05 USD3.81
TC Energy Corp67.53 CAD0.27

About Author

Rudy Luukko

Rudy Luukko  Rudy Luukko is a freelance writer who contributes to Morningstar.ca on topics involving fund industry trends and regulatory issues. He retired in May 2018 from his position as editor, investment and personal finance, at Morningstar Canada, where he had worked since 2004. He has also worked as an editor and writer for various general, specialty and institutional media, and he has co-authored courses for the Canadian Securities Institute. Follow Rudy on Twitter: @RudyLuukko.