Making the Most of the USMCA Through Cross-Ownership

“Cross-ownership.”

That was the matter-of-fact reply to a question that I asked Peter Morici,¹ now a Professor of International Business at the R.H. Smith School of Business at the University of Maryland but then director of the Canadian-American Center at the University of Maine. My question was why, if Canada and the United States could negotiate an Auto Pact to manage automotive trade, the two countries could not do the same for steel, given that so much Canadian steel imported to the United States was for the auto sector.

In his answer, Morici identified an important but often ignored aspect of U.S.-Canadian trade: a lot of bilateral trade occurs between branches of the same company, or between firms that have the same owners. That has been the case for the auto industry from the beginning, with General Motors, Ford, and Chrysler shipping vehicles and parts between their plants in the United States and Canada from the first decade of the 20^th century, switching to full-time military production between 1942 and 1945, and then seeking to integrate production across the border to offer more models at a lower cost to consumers in both countries.

In effect, the Auto Pact was a concession to this integrated reality of cross-ownership but the governments, who wanted to get out of the way of industry and promote the competitiveness of Canada and the United States in the increasingly global auto industry.

Steel was a different case, as Morici indicated; U.S. and Canadian steel producers were competitors, owned by different people. When they clashed, they wanted trade remedy action, not trade deals.

Now in the first decades of the 21^st century, steel trade remains contentious, with the United States imposing tariffs on Canadian steel (and aluminum) on national security grounds. But Morici’s insight still holds: there is relatively little cross-ownership of steel production in the two countries, and U.S. and Canadian firms remain rivals. Resource sector trade follows a similar pattern. Cross-ownership of lumber companies, such as Weyerhauser’s take-over of Canada’s MacMillan Bloedel, has reduced the amount of trade tension between the two countries, though it hasn’t silenced small U.S. lumber producers without ownership ties to Canada from seeking trade protection.

This may explain why U.S.-Canadian trade relations over energy have been less contentious. Major U.S. oil and gas companies have operated in Canada for decades, and helped develop offshore oil in Newfoundland, Sable Island gas in Nova Scotia, and the oil sands in Alberta. In recent years several Canadian energy companies have invested in the United States, particularly in natural gas and in energy infrastructure.

The case of Canadian hydroelectricity has been more contentious, particularly over powerline infrastructure and renewable portfolio standards. But this lends support to Morici’s cross-ownership thesis: most provincial utilities are Canadian owned. However, there is evidence of growing cross-ownership in the electricity sector, too, as Canadian hydro firms invest in regional power companies in the United States.

The draft United States Mexico Canada Agreement (USMCA)² negotiated to replace NAFTA as the rulebook for North American trade contains important energy provisions that promote common energy performance standards, regulatory cooperation by governments related to the energy sector, and reinforces the rights of energy sector companies to operate in all three countries. Unlike NAFTA, which had a single energy chapter that conveniently combined all energy related provisions in one place, the USMCA has energy-relevant language in various places throughout the lengthy text. After combing through the draft, my preliminary judgment is that USMCA represents a step forward for Canadian energy, particularly oil and natural gas.

Cross-ownership ties between the United States and Canada in the energy sector are a positive indicator of better energy trade relations in the future. This feature of the U.S.-Canadian energy relationship could be expanded to include Mexico if U.S. and Canadian firms find attractive investment opportunities in Mexico and if incoming Mexican President Andrés Manuel López Obrador, a critic of his predecessor’s energy reforms, does not attempt to reverse them. Since 2014, Mexico has actively pursued³ Canadian energy investments in the Mexican market.

Although the USMCA would eliminate Investor State Dispute Settlement for Canadian firms in Mexico that was previously available through NAFTA’s Chapter 11, Canadian investors in Mexico (and vice versa) will have access to a similar mechanism in the Comprehensive and Progressive Trans Pacific Partnership, and USMCA’s Chapter 14⁴ preserves investor-state dispute settlement for redress on national treatment, most-favored nation treatment, and direct expropriation.

The USMCA adds protections⁵ for investments in to government contracts in the areas of oil and gas, power generation, and ownership or management of infrastructure. Another positive aspect of the USMCA is Chapter 15⁶ which liberalizes trade in services, including energy-related services to which Canada has considerable expertise.

Since NAFTA, economic growth in Mexico has increased demand for energy and turned the country into a very attractive energy market. As a result, it was important for the USMCA to get energy trade rules right. Two chapters are important in addressing concerns about closer energy linkages: Chapter 8⁷ affirms “the Mexican State’s Direct, Inalienable, and Imprescriptible Ownership of Hydrocarbons”  and Chapter 27⁸ is a strong anticorruption clause based on the standards developed by the Organization for Economic Cooperation and Development (to which all three USMCA countries belong).

NAFTA showed that once trade and investment barriers are removed, cross-ownership can reduce trade conflicts and power growth across North America. Although NAFTA has been justly criticized and after nearly 25 years was in need of an update, energy trade and investment under NAFTA has been a success story that USMCA looks to advance further once it is approved and implemented by all three countries. In the coming months and years, look at the data on  cross-border investment and cross-ownership activity for evidence that North American energy markets are being strengthened or weakened under USMCA.

Christopher Sands is Senior Research Professor and Director of the Center for Canadian Studies at the Nitze School of Advanced International Studies (SAIS) and a nonresident Senior Associate at the Center for Strategic and International Studies (CSIS), both in Washington, D.C.