April 2001 | EPI Briefing Paper

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NAFTA AT SEVEN

Its impact on workers in all three nations

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• Introduction
• NAFTA’s Hidden Costs: Trade agreement results in job losses, growing inequality, and wage suppression for the United States
• The impact of NAFTA on wages and incomes in Mexico
• Online supplement to the U.S. report: NAFTA’s impact on the states

False Promise

Canada in the Free Trade Era

by Bruce Campbell, Canadian Centre for Policy Alternatives

It has been 12 years since the Canada-U.S. Free Trade Agreement was implemented and seven years since it was renegotiated, extended to Mexico, and renamed NAFTA, the North American Free Trade Agreement. And NAFTA is now the template for the Free Trade Area of the Americas (FTAA) initiative), for which presidents and prime ministers from the hemisphere were scheduled to meet in Quebec City in April 2001 to set a course for its completion by 2005.1

“[F]ree trade agreements are designed to force adjustments on our societies,” says Donald Johnston, former Liberal government minister and head of the Organization for Economic Cooperation and Development (quoted in Crane 1997a). His words display a candor rare among free trade proponents. Indeed, major adjustments have taken place in the Canadian economic and social landscape since the government promised a new dawn of prosperity in 1989, when the FTA went into effect:

• Trade with the U.S. has expanded dramatically during these 12 years. Canda’s exports are now equivalent to 40% of its gross domestic product, up from 25% in 1989. (More than half of Canadian manufacturing output now flows south of the border, and Canadian producers account for less than half of domestic demand). This north-south trade boom has been mirrored by a relative decline in trade within Canada. Trade has also become more concentrated with the U.S.-from 74% to 85% of exports-and less concentrated with the rest of the world. Two-way investment flows have also increased greatly. Both Canadian foreign direct investment and portfolio flows to the U.S. grew much faster than did U.S. flows to Canada during this period.
• Growth performance in the 1990s was worse than in any other decade of the last century except the 1930s. Average per capita income fell steadily in the first seven years of the decade and only regained 1989 levels by 1999. By comparison, per capita income in the U.S. grew 14% during this period (Sharpe 2000).
• Canada has become a noticeably more unequal society in the free trade era. Real incomes declined for the large majority of Canadians in the 1990s; they increased only for the top fifth. Employment became more insecure and the social safety net frayed.
• While productivity has grown-rapidly in some sectors-wages have not, a trend mirroring the de-linking that has taken place in the U.S. But the overall productivity gap with the U.S. has not narrowed as free trade proponents predicted; rather, it has widened recently.
• Successive waves of corporate restructuring-bankruptcies, mergers, takeovers, and downsizing-have been accompanied by public sector restructuring-downsizing, deregulation, privatization, and offloading of state responsibilities. Public sector spending and employment have declined sharply, and publicly owned enterprises in strategic sectors such as energy and transportation have been transferred en masse to the private sector.

FTA and NAFTA boosters did not promise vague social adjustments, however; they sold the agreements based on rising productivity and rising incomes. By this standard the treaties have clearly not delivered, and their proponents can only offer the weak defense that things would have been worse in the absence of the agreements. Workers and policy makers in the FTAA countries may want to take the Canadian experience into account before buying into these unproved promises.

The Canadian labor market during the free trade era
As noted above, exports to the U.S. have grown rapidly during the FTA/NAFTA era. Imports from the U.S. have also grown but not as quickly, resulting in a growing trade surplus (Figure 3-A).² The average annual trade surplus was $C19.7 billion during the 1990s, more than double the $C9.4 billion average in the 1980s. Canada’s current account surplus with the U.S., which includes net payments to U.S. investors, was also positive albeit much lower, averaging $C6 billion annually. Here too, though, it was a lot higher than in the 1980s when the bilateral current account was roughly in balance.

Manufacturing employment bore the brunt of corporate restructuring, most severely in the first wave (1989-93), falling by 414,000 or 20% of the workforce. (The number of manufacturing establishments fell by 19% during 1988-95). High-tariff sectors were especially hard hit-leather experienced a 48% drop in employment, clothing 31%, primary textiles 32%, and furniture 39%. But employment was also slashed in medium-tariff sectors such as machinery (32%) and electrical and electronic products (28%). By the end of the decade manufacturing employment was still 6% below its 1989 level. Employment in clothing, for example, was still 26% below 1989, and electrical/electronics was down 19%. Wages were flat or falling even in the so-called winning export sectors.

Unemployment in the 1990s averaged 9.6% compared to the U.S. rate of 5.8%-a doubling of the gap compared to the 1980s (Sharpe 2000). This level of unemployment was higher than in any other decade since the 1930s. While average worker earnings were stagnant, casualized (or nonstandard) employment exploded, as people struggled to cope during the prolonged slump and restructuring.

Paid full-time employment growth for most of the decade was almost nonexistent (Jackson and Robinson 2000). The absolute number of full-time jobs did not recover its 1989 level until 1998. Self-employment skyrocketed, accounting for 43% of new job creation between 1989 and 1999. Part-time employment accounted for another 37% of net employment growth during 1989-99. More than half of this growth was involuntary-due to the inability of people (mainly women) to find full-time work. Temporary work grew from 5% to 12% of total employment during the first half of the decade. Labor force participation rates dropped sharply, and at the end of the decade they were still well below their 1989 rates.

Evidence that the trade expansion and economic integration under NAFTA have had adverse employment effects in Canada comes from the government itself, in the form of a little-known study commissioned by Industry Canada.

The authors, Dungan and Murphy (1999), f
ound that, while business sector exports grew quickly, import growth also kept pace. At the same time, the import content per unit of exports also grew markedly, while the domestic content per unit of exports fell.

What did this mean for jobs? Employment (direct and indirect) in export industries rose from 19.6% of total business sector employment in 1989 to 28.3% in 1997. However, the rapid rise in imports displaced (or destroyed) even more employment. The job-displacing effect of imports rose steadily from an equivalent of 21.1% of total business employment in 1989 to 32.7% in 1997. The authors conclude: “imports are displacing ‘relatively’ more jobs than exports are adding” (Dungan and Murphy 1999).

What did this mean in terms of actual jobs created and destroyed? It is a simple matter to derive these numbers from Dungan and Murphy’s data (see Figure 3-B). The result is striking. Between 1989 and 1997, 870,700 export jobs were created, but during the same period 1,147,100 jobs were destroyed by imports. Thus, Canada’s trade boom resulted in a net destruction of 276,000 jobs.

With this evidence, we can say more convincingly than ever that the conventional wisdom propagated by the business and political elites-that the trade expansion under NAFTA has meant a jobs bonanza for Canada-is false. On the contrary, trade expansion caused, at least in the first eight years of free trade, a major net destruction of jobs.

The study also found that the labor productivity of the jobs displaced by imports was moderately lower than that of exports, though the productivity of these displaced jobs was still higher than the average productivity level for the business sector as a whole. This the authors see as beneficial for the economy as whole.

However, the positive spin on the study’s findings is premised on the existence of macroeconomic policies whose priority is creating full employment conditions and on the expectation that displaced workers will find other jobs, and that those jobs will be at higher levels of productivity and income. There are three problems with these assumptions. First, it is not clear that these displaced workers are, by and large, finding higher productivity jobs elsewhere in the economy. In fact, to the extent that they are finding jobs outside the tradable sector, the jobs they find are likely at lower levels of productivity. Second, workers both in the tradable sectors and in the economy generally have not seen productivity growth translate into income gains. Third, and most importantly, macroeconomic policy in the 1990s (as will be described shortly) has not focused on employment creation. Rather, policy makers have focused on ultra low inflation and wage control to enhance business competitiveness under NAFTA. Unemployment since the grim 1990s has lately fallen to around 7%, but this is still far above the 5.4% average unemployment rate for the entire three decades from 1950 to 1980.

As for incomes, market income collapsed for low-income earners and inequality widened, most strikingly during the first half of the decade. Market incomes of the bottom 10% of families with children fell an astounding 84% during 1990-96, and those of the next 10% fell 31% (Yalnizyan 1998). But the restructuring and the massive labor market failure was offset by public transfers, keeping the overall distribution of income after taxes and transfers stable for a while. The consequent accumulation of fiscal deficits became politically unpalatable, though, and the government’s ensuing “war on the deficit” provided the rationale for the social cuts that resulted in a widening of overall income inequality in the latter half of the decade-the first such widening in the postwar era. (Inequality in Canada still remains much lower than in the United States.)

The top 20% of families increased their share of market income from 41.9% to 45.2% during 1989-98, while the bottom 20% saw their share drop from 3.8% to 3.l% (Robinson 2001). Even after taxes and transfers, the bottom 40% of families saw their inflation-adjusted income fall by close to 5% during 1989-98. The next 40% saw almost no change in their incomes. Only the top 20% saw a significant gain in per capita disposable income, an increase of 6.6%.

These have been difficult times for Canadian unions as well. The waves of layoffs and plant closures and the threat of closures in heavily unionized manufacturing sectors cut into their numbers: unionization rates in manufacturing fell from 35.0% to 33.4% during 1988-92. Years of defensive bargaining have resulted in unions’ inability to appropriate a share of productivity increases for their members. This, too, signals an erosion of labor’s bargaining power. And yet, despite the disastrous labor market conditions in manufacturing and throughout the economy, despite negative changes in labor laws and employment standards in some provinces, total union membership (not just in manufacturing) has remained remarkably stable: the overall unionization rate slipped only slightly from 32.0% of the paid workforce in 1987 to 30.7% in 1998 (Jackson and Robinson 2000).

NAFTA’s role
To what extent should NAFTA take credit (or blame) for these changes? It is impossible to examine NAFTA in isolation from the broad anti-government and pro-deregulation policy agenda that has for the last two decades been transforming national economies and restructuring the roles and relationships among governments, markets, and citizens in the push to create an integrated global market economy. As a cornerstone of this well-known neoliberal family of policies-privatization, deregulation, investment and trade liberalization, public sector cutbacks, tax cuts, and monetary austerity-NAFTA has made it easier for Canadian policy makers to bring about a “structural adjustment” of the economy in line with the dominant U.S. model. Advancing and entrenching these policies in a treaty has secured investor rights, reined in interventionist government impulses and bargaining table demands of labor, and provided insurance against future governments’ backsliding.

These policies have had, with some exceptions, an adverse impact on the employment and income conditions of working people in Canada. This is not an unintended consequence since, in essence, these policies transfer power from workers to management and investors, from wages to profits, from the public sector to the market.

But assessing causality is a complex task. Outcomes are the result of policies interacting with each other in mutually reinforcing ways. They are shaped by technological forces, corporate strategies, and a varied landscape of social and labor market institutions. NAFTA and its siblings have put downward pressure on employment and income conditions, but their impact varies from country to country, from sector to sector, from province to province depending on the strength of social and labor market institutions and the commitment of governments to either counter or reinforce these pressures. To be sure, policy choices do exist, but their range is more constrained, and with each turn of the “free market” screw the NAFTA legal framework makes it more difficult and often impossible to go in the other direction. For all these reasons isolating NAFTA impacts is exceedingly difficult.

The key provisions of the agreement itself that directly or indirectly affect product or labor markets are a good place to start. NAFTA removes tariffs and other non-tariff barriers on all goods and services, thus impeding governments’ ability to protect strategic or vulnerable sectors from import competition. These tariff restrictions also prevent governments from granting tariff or duty waivers to foreign multinationals in exchange for commitments to strengthen domestic capacity and employment.

NAFTA’s most important provisions apply to investment. The treaty entrenches a set of rules protecting private property rights of inv
estors, and virtually all types of ownership interests, financial or non-financial, direct or indirect, actual or potential, are covered. NAFTA liberalizes investment, enhancing its ability to operate less hampered by non-commercial considerations and reducing the risk of future governments unilaterally imposing new conditions on investment.

The very broad national treatment provisions of NAFTA oblige each member country to treat foreign investors exactly the same as it treats its own national investors, regardless of their contribution to the national economy. These provisions create an impetus for powerful alliances between foreign and domestically owned businesses to promote further deregulation and resist new regulation, since any policy to regulate foreign capital has to be applied equally to national capital. They remove important industrial policy tools, from local sourcing to technology transfer-tools that seek to channel foreign investment to strengthen domestic industrial capacity, create jobs, etc.

NAFTA prevents governments from regulating the outflow as well as the inflow of capital. It prevents governments from placing restrictions on any kind of cross-border financial transfer, including profits, dividends, royalties, fees, proceeds of sale of an investment, and payments on loans to subsidiaries. It also prevents governments from restricting the transfer of physical assets and technologies. While NAFTA claims to break down international protections and barriers, it provides strong intellectual property protection (patent, copyright, trademark, etc.) for corporations’ technology. This is another instance of taking power out of the public realm and empowering corporations.

NAFTA limits the ability of state-owned enterprises to operate in ways that are inconsistent with commercial practice and in ways that impair benefits expected by private investors of the other NAFTA countries. This clearly affects the ability of public enterprises to pursue public policy goals that may override commercial goals. It also limits the ability of future governments to re-regulate or re-nationalize industries once they have been deregulated or privatized. It provides the legal framework for greater private penetration into traditionally public areas, notably health care and education.

Finally, NAFTA guarantees investors the right to prompt compensation at “fair market value” for measures that are deemed to be “tantamount to expropriation”-a vague term for measures that are seen in some way to impair commercial benefits, including any future benefits that might be expected. Claims under these and other provisions may be adjudicated through various dispute panels, including an investor-state disputes tribunal, where in recent years a flurry of corporate challenges have forced governments to reverse policy decisions. The likelihood of these kinds of challenges is putting a chill on any policy or regulation that might be perceived as an infringement of investor rights.

Under these rules of continental integration, considerations of competitiveness tend to trump all other policy considerations. In Canada this dynamic has had three major impacts:

• Corporations cut costs, restructure. On the corporate level, Canadian companies rationalize their cost cutting and restructuring through takeovers, downsizing, closure, and relocations as the only means to stay competitive against their NAFTA partners. Increased competition also intensifies the pressure on employers to demand worker concessions. Workers (except certain elite categories) are legally confined by national borders. Capital has the upper hand, since it can move more easily under the new regime or threaten to move if labor does not make wage and other concessions. It also increases the pressure to lower costs through production and work reorganization, leading to the increased use of part-time, temporary, and contract workers and outsourcing to non-union firms in low-wage jurisdictions.
• The government adds corporate breaks, drops worker and environmental protections. The Canadian government is shifting its fiscal and regulatory policies in order to be more competitive under NAFTA. This translates to raising subsidies while lowering taxes, regulations, and standards to maintain and attract investment. There are no common rules governing acceptable and unacceptable subsidies or limiting subsidy wars among governments. And labor and environmental side agreements, which purport to limit the competitive bidding-down of labor and environmental regulations, are ineffectual. Policy levers such as performance requirements and (conditional) tariffs, which aim to nudge investors in accordance with public policy priorities, have been largely removed. Thus, the need to provide incentives to attract investment has created dual stresses-downward pressure on regulations and upward pressure on government spending.
• Macro policy tilts to capital, away from labor. The macroeconomic policy priorities and choices, especially on the issue of wage control, changed under NAFTA. They have included disciplining labor through monetary policy austerity, reducing government income supports-notably unemployment insurance and other social program spending-and lowering corporate and personal taxes. As a result the wages and well-being of Canadian workers are declining.

The last point requires further explanation, since the connection between macroeconomic policy and NAFTA is not usually made (Jackson 1999).³ Most economists agree that the great Canadian slump of the 1990s was caused mainly by bad macroeconomic policy choices-first by severe monetary tightening, which coincided with the implementation of the bilateral FTA, and later in the decade by fiscal retrenchment, which, according to the OECD, was the harshest of any industrial country in the postwar era. At its peak in 1990, short-term interest rates were five points above U.S. rates. The massive federal spending cuts began in 1995 and over four years cut spending from 16% to 11% of GDP, the lowest level since the late 1930s. Program spending at all levels of government fell from 45% to less than 35% of GDP during 1992-99, an unprecedented structural shift in the public-private sector balance (Stanford and Brown 2000).

Many economists look at this disastrous economic record as the consequence of macro-policy error. The NAFTA-induced structural changes have been largely ignored. Were policy makers-in both the Mulroney and Chretien regimes-simply incompetent, or were they acting out of conviction that the top priority was to administer a structural jolt to the economy in order to enhance the conditions for Canadian business competitiveness?

Monetary policy in the late 1980s and early 1990s was driven by the determination of monetary authorities to virtually eliminate inflation from the Canadian economy (which at the time was roughly the same as U.S. inflation and thus was not a problem). Canadian authorities were also concerned about falling labor cost competitiveness with U.S. manufacturing as Canada entered free trade. Productivity was growing more slowly, and real wages were growing faster, than in the U.S. These wage increases were certainly justified by productivity increases, but in the de-unionized United States, wages were rising more slowly than productivity.

Policy makers also believed that a major fiscal adjustment was required to bring Canadian social programs and policies into line as integration with the U.S. proceeded. A 1996 report from the government’s Privy Council Office noted: “the basic affordability of the [social safety net] system and the benefits payment regime has a direct consequence on competitiveness.…By raising the cost of labour as a productive input, such programs can either drive jobs south or encourage further substitution of capital for labour” (Privy Council Office 1997).

Thus, the Bank of Canada deliberately raised unemployment to discipline labor. The federal government later massively cut unemployment insurance prog
rams and welfare transfers to (in its view) strengthen the incentive to work and enhance labor market flexibility. (The deep recession-induced deficits were the main justification to the general public for the social cuts that followed). As the unemployment insurance changes kicked in, the proportion of the unemployed collecting benefits dropped dramatically, from 75% in 1990 to 36% in 2000 (Canadian Labor Congress 1999), essentially the same as the U.S. level (37% in 2000; Mishel et al. 2001). Though monetary tightening (punishing interest rates and an overvalued Canadian dollar) would have short-term negative consequences for the economy, including a deterioration in competitiveness, policy makers believed it would, along with the fiscal adjustments, accelerate the necessary restructuring and strengthen the long-term competitiveness of Canadian business in the new North America.

The bulk of the social program destruction was implemented by 1997, and with the budget balanced, the government began the second phase of the fiscal adjustment-corporate and upper-end income tax cuts. In 2000, the finance minister announced tax cuts totaling more than $100 billion over five years.⁴ Canadians are far enough along now in this adventure to answer the question: “Have the FTA and NAFTA delivered the goods that were promised?” The answer depends on who you ask. For those who wanted to diminish the role of government as an active player in the economy and provider of collective social protections, and for those whose wanted to improve the environment for business competitiveness by disciplining wages, NAFTA and its predecessor have been a success.

But in the public debate that preceded implementation of the free trade deal, delivering the goods, according to proponents, meant rising productivity levels and rising incomes. It meant ushering in a golden age of prosperity for all Canadians. That was the promise to the Canadian public. The answer here is clearly no.

The Canadian employment situation has unquestionably improved in the last two years, though workers have yet to reap any benefits in terms of improved earnings. However, with the erosion of their social protections Canadians have become more dependent on the private labor market than at any time in the last 40 years. As one observer put it, workers are now flying without a net (Stanford and Brown 2000). As the economy slows in 2001, this employment resurgence may prove to be short-lived, and the future for Canadian workers is once again clouded.

Endnotes
1. Data cited in this paper are drawn directly or indirectly from various Statistics Canada documents: Labour Force Survey, Employment Earnings and Hours, Canada’s Balance of Payments, Survey of Consumer Finances, Income Distribution by Size, and Canadian Economic Observer.

2. Despite the dramatic increase in the share of total economic output accounted for by exports, the share of total employment accounted for by exports grew much more slowly (Dungan and Murphy 1999), due mainly to the increased import content of exports. Dungan and Murphy also observe that there was almost no growth in labor productivity in the export sector. It should also be noted that the proportion of imported inputs in Canadian exports is much higher than the proportion of imported inputs in American exports.

3. Andrew Jackson (1999) was the first to make the connection between macroeconomic policy and NAFTA.

4. Whether the Canadian government made a specific commitment to the Americans in response to congressional pressure to raise the value of the Canadian dollar relative to the U.S. dollar is not known. However, the Bank of Canada’s raising of short-term interest rates had the effect of pushing the Canadian dollar to a peak of 89 cents in 1990.

References
Canadian Labour Congress. 1999. Left Out in the Cold: The End of UI for Canadian Workers. Ottawa, Ontario, Canada.: Canadian Labour Congress. (Author Kevin Hayes also provided useful information).Crane, David. 1997a. Toronto Star, May 3.

Crane, David. 1997b. Toronto Star, May 4.

Dungan, P. and S. Murphy. 1999. “The Changing Industry and Skill Mix of Canada’s International Trade.” Perspectives on North American Free Trade. Paper No. 4. Industry Canada.

Jackson, Andrew. 1999. “Impact of the FTA and NAFTA on Canadian Labour Markets.” In B. Campbell et. al., Pulling Apart: The Deterioration of Employment and Income in North America Under Free Trade. Ottawa, Ontario, Canada.: Canadian Centre for Policy Alternatives.

Jackson, A., and D. Robinson. 2000. Falling Behind: The State of Working Canada. Ottawa, Ontario, Canada.: Canadian Centre for Policy Alternatives.

Mishel, Lawrence, Jared Bernstein, and John Schmidt. 2001. The State of Working America 2000-2001. An Economic Policy Institute book. Ithaca, N.Y.: ILR Press.

Privy Council Office. 1997. Canada 2005: Global Challenges and Opportunities. Cited in Crane 1997b.

Robinson, D. 2001. State of the Economy. Ottawa, Ontario, Canada.: Canadian Centre for Policy Alternatives.

Sharpe, Andrew. 2000. A Comparison of Canadian and U.S. Labour Market Performance in the 1990s. Ottawa, Ontario, Canada.: Centre for the Study of Living Standards.

Stanford, J., and A. Brown. 2000. Flying Without A Net: The Economic Freedom of Working Canadians in 2000. Ottawa, Ontario, Canada.: Canadian Centre for Policy Alternatives.

Yalnizyan, A. 1998. The Growing Gap. Centre for Social Justice.

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