A NAFTA Customs Union: Necessary Step or Distraction?

A customs union opens the flow of trade between its members to a greater extent than does a free trade area. The latter removes customs duties between member countries on products substantially originating from within the free trade area, but requires continued restrictions at internal borders to ensure that the appropriate duties are assessed on products that do not meet this origins test. In a customs union, members agree to maintain a single schedule of duties and of non-tariff barriers against goods from third countries. Thus, with everyone maintaining the same trade policy toward third countries, the need for verifying the origin of goods circulating across borders within the customs union disappears. The upshot is that complex rules of origin can substantially reduce the benefits of a free trade area, both in general and/or for specific member countries. A number of studies show that the impact of simplifying rules of origin alone would account for much of the positive impact of moving toward a customs union. Indeed, this is particularly true of NAFTA. A recent careful survey conducted by the highly regarded Australian productivity commission showed that NAFTA's rules of origin are among the most restrictive in the world. Thus, a key benefit of a North American customs union is that such rules would become unnecessary. Other benefits would arise from the removal of a few continuing important barriers to trade within the NAFTA, particularly in the agricultural sector. A customs union is certainly a neat way to eliminate rules of origin, because by definition it requires a single common external tariff for all its members. Nevertheless, it is untrue that substantial simplification of rules of origin or harmonization of customs duties can only be accomplished through a customs union arrangement. As currently worded, NAFTA allows for ongoing discussions and action on simplifying rules of origin and also on harmonizing customs duties between the three countries vis-à-vis the rest of the world. These discussions are indeed ongoing, and in this context securing most of the gains from a customs union is a matter of political will rather than moving toward a full-fledged customs union. Indeed, it is not always appreciated that there is already a de facto customs union between NAFTA countries on computer parts.