Business

An industry on the line

As a ruling against the Auto Pact looms, Canada weighs broader tariffs

Mary Janigan August 9 1999
Business

An industry on the line

As a ruling against the Auto Pact looms, Canada weighs broader tariffs

Mary Janigan August 9 1999

An industry on the line

As a ruling against the Auto Pact looms, Canada weighs broader tariffs

Business

Mary Janigan

In the 34 years since Prime Minister Lester Pearson and President Lyndon Johnson signed the Canada-U.S. Auto Pact at LBJ’s Texas ranch, the agreement has evolved into a powerful symbol of prosperity and patriotic pride. Before the pact, the domestic auto industry was a pitiful, costly operation that churned out small numbers of many car models to avoid Canada's even-higher tariff on imports. The pact swept away that restrictive system. Both nations eliminated their tariffs on two-way trade. U.S. carmakers promised that the value of the cars they assembled in Canada would at least equal the value of the cars they sold—and that a large portion of the content in each vehicle would be made in Canada. In return,

Canada abolished its duties on U.S. carmakers’ imports of vehicles and parts.

Almost overnight, the economy hummed with new life. Canadian assembly lines, largely in southern Ontario, began to turn out the entire North American output of key models. Car prices dropped. Employment soared. Today, the $86-billion auto and parts industry is the economy’s highly productive backbone: in size it is more than 12 per cent of the manufacturing sector. “For every car that Canadians buy, we are now assembling almost 1.8 vehicles—virtually all for North American markets,” says University of Toronto political scientist John Kirton. “It is a Canadian success story.”

Given that history, it is no wonder the Canadian government is anxiously awaiting a World Trade Organization

judgment next month that could undermine the pact’s very existence. The Geneva-based group’s hearing began last January when Japan and the European Union complained that Canada’s 6.1per-cent tariff on vehicle imports from overseas was unfair because it did not apply to imports by the Big Three automakers—General Motors of Canada Ltd., Ford Motor Co. of Canada Ltd. and DaimlerChrysler Canada Inc.— from their overseas subsidiaries.

The WTO decision could declare that Canadas tariff policy is discriminatory. If that occurs, Ottawa has several choices: it could abolish the tariff, apply it to all imports or adopt the U.S. approach—which consists of a 2.5-percent tariff on all overseas car imports— to cushion the impact on the Big Three. Although contingency plans have not

been finalized, Macleans has learned that Ottawa is leaning towards extending its 6.1-per-cent tariff to all imports. The WTO could also decide the production and content conditions imposed on the Big Three in 1965 contravene WTO rules. That would scrap the very guts of the original deal. “Right now, the overriding feeling is worry,” says an Ottawa trade consultant. “Autos play such an important role in this economy.” Warns another: “Were going to get clobbered.” Policy-makers are deeply concerned about the pact’s demise because that could affect their long-term ability to

Ford trucks being assembled at a plant in Oakville, Ont. (left); Hargrove: ‘We are the Cub Scouts of trade'

sway the Big Three’s decisions on where to put future investment. Without the right to offer tariff breaks in return for the Big Three’s production and content pledges, Ottawa may find it difficult to convince U.S. automakers to build future plants in Ontario instead of Michigan. Canadian Auto Workers union president Buzz Hargrove says Canada simply does not know how to bargain: in 1996, it unilaterally removed its tariff on all parts imports—without first securing any promise of more domestic production from Japanese or European carmakers. “Who is going to act in our interests?” he asks. “We are the Cub Scouts of international trade.”

Trade experts also warn that the Big

Three could eventually lose a portion of their market if Canada loses the case. If Japanese and European dealers faced the same import costs as the Big Three, the sales of Canadian-made cars could decline as purchases of foreign models rise. That would reduce the number of Canadian jobs. “Tariff elimination would unquestionably permit the Japanese and European producers to capture a bigger share of the market over time with production from overseas,” predicts Ottawa trade consultant Gordon Ritchie.

In the short term, however, the pact’s demise would have few immediate repercussions. Canada produced almost 2.6 million vehicles worth $52.7 billion in 1997—while the tariff applied to fewer than 150,000 cars and light trucks. Well-established, the Big Three have long since surpassed the Auto Pact’s demands, producing almost twice as many cars here as they sell. Since the early 1980s, Canada has piled up huge surpluses in its U.S. automotive trade: in 1997, the vehicle and parts surplus was a staggering $11.7 billion.

In fact, the Auto Pact may have brought U.S. automakers to southern Ontario—but it is the region’s highly competitive advantages that have kept them here. The Big Three now form part of a highly competitive cluster of autoparts and assembly plants that work together to churn out “just-in-time” inventory in response to demand. Their workforce is highly skilled. Publicly funded health care obviates the need for costly private insurance. And the low Canadian dollar creates a huge crossborder cost advantage. When the CAW goes to the bargaining table next month on behalf of its 49,000 Big Three employees, it will argue that Canadian

workers cost roughly $18 an hour less than their U.S. counterparts in salary and benefits. “Elimination of the tariff would have virtually no immediate effect,” says Kirton.

Still, an adverse WTO decision will eventually force Canada to overhaul its trade policies to cope with a rapidly changing world. In 1965, Ford did not own Jaguar and Volvo, Chrysler had not merged with Daimler-Benz AG, which produces Mercedes-Benz, and GM did not own half of Saab. Those foreign cars now enter duty-free. Meanwhile, Honda Canada Inc. and Toyota Canada Inc.—which employ 5,900 workers to build 490,000 cars in Canada—¡must pay duty on their imports. “This Auto Pact privilege is getting to be less reasonable because it is who owns the imported vehicle that determines the tariff—not where it is actually made,” argues C. D. Howe Institute economist Daniel Schwanen.

Worse, the Auto Pact ruling will come amid four other WTO decisions over the next eight weeks on everything from dairy exports to technology subsidies. Because Canada will likely lose key portions of most of those decisions, Canadians will get a formidable reminder of the challenges and perils that an outgoing, export-oriented economy faces. “We are being highly scrutinized because we are so export-dependent: basically everything we do tends to be examined by WTO rules,” says Schwanen. “It can be unfair.”

In the end, experts argue that the answer lies on two fronts. At home, Canada should bolster programs that enhance its attractiveness to the Big Three, such as higher educational standards. Abroad, Canada should work to ensure that when the 134-nation WTO begins its second round of negotiations next year, subsidy rules are clarified. “When you go to the WTO rule of law, you take your chances,” says Gerry Shannon, senior counsel at Government Policy Consultants. “But it is better than facing the bully on the block and getting clobbered.” With their cherished Auto Pact under attack, Canadians may find it hard to remember that advice. ES3