Chapter 13
The United States
in the World Economy
◼ Outline
Introduction: A Changing World Economy
Background and Context
The Shifting Focus of U.S. Trade Relations
Case Study: Manufacturing in the United States
The NAFTA Model
Demographic and Economic Characteristics of North America
Canada-U.S. Trade Relations
Mexican Economic Reforms
The North American Free Trade Agreement
Two NAFTA-Specific Issues
Case Study: Ejidos, Agriculture, and NAFTA in Mexico
New and Old Agreements
Labor and Environmental Standards
Investor-State Relations
Jobs and Trade Agreements
Case Study: The African Growth and Opportunity Act
84 Gerber • International Economics, Seventh Edition
◼ Learning Objectives
After studying this chapter, students will be able to:
13.1 Identify major changes in U.S. economic relations that have led to bilateral
and plurilateral agreements.
13.2 Evaluate the relative importance of the North American Free Trade Agreement,
both for what it accomplished and as a model for subsequent agreements.
13.3 Explain when purchasing power parity estimates of income per person are
superior to the alternatives, and when they are inferior.
13.4 State the reasons why Mexico and Canada sought free trade with the United
States.
13.5 Differentiate free trade agreements from preferential trade agreements and
give examples of each.
13.6 State why it is difficult to have precise estimates of job gains and losses due to
trade, and give specific examples of how imports may create jobs and exports
may occur after a loss of jobs.
◼ What Students Should Know after Reading Chapter 13
Chapter 13 presents a broad view of U.S. trade agreements while maintaining the primacy of NAFTA as
the model for subsequent agreements. Students should be encouraged to see NAFTA in these terms: a
key agreement with two of our three most important trade partners (China is the third, as measured by
value of exports and imports), and the foundation for bilateral and plurilateral agreements with other
countries and regions.
Chapter 13 discusses the continued controversy surrounding NAFTA in the United States. At the time
NAFTA was signed, U.S. barriers to Mexican imports were already low and there was a pre-existing free
trade agreement with Canada. The U.S. market accounts for the vast majority of the nearly $18 trillion
NAFTA market, so any impact on the U.S. would be small. The popular controversy in the United States
over NAFTA’s economic impacts continues to be largely about labor and environmental issues, but
several other issues have become important, particularly as the NAFTA model has been replicated in other
agreements. These include investor-state relations and intellectual property issues. In addition, there is a
brief discussion of immigration issues and drug violence in Mexico. Counterintuitively, it is hard to find a
significant negative impact of drug violence outside of the effects on tourism. Mexican manufacturing has
continued to develop and multinational companies do not appear to find the added security costs to be a
deterrent to investment. Immigration has decreased over the 2005-2010 period, and 2011 is perhaps the
first year in which Mexican’s leaving the United States outnumbered Mexicans arriving (both legal and
undocumented). The reasons are probably the weakening of pull factors in the U.S. with the weak
Chapter 13 The United States in the World Economy 85
economy and more hostile political environment, improvements in Mexico’s economy, and demographic
shifts that are reducing the number of 18-40 year olds.
Chapter 13 discusses Mexico’s reasons for wanting NAFTA, including the desire to attract more foreign
investment and implement an external treaty that would help to institutionalize economic policy reforms.
Canada wanted a free trade agreement with the United States to keep the U.S. committed to free trade and
to put competitive pressure on Canadian firms to be efficient. The chapter gives some background for the
economic history and the changes in economic policy that occurred, especially within Mexico, where
tremendous policy changes have taken place as the country shifted from an inward-looking, import
substitution industrialization strategy to an outward-looking strategy.
Students are always tempted to understand correlation as causation and it is tempting to look at the passage
86 Gerber • International Economics, Seventh Edition
◼ Assignment Ideas
1. NAFTA has been controversial, but with almost twenty years experience, there has been the
opportunity for follow-up research on its impacts. Have students research the impact of NAFTA on a
particular industry or analyze NAFTA’s overall impact on the U.S. and Mexican economies, as
described in the chapter. A particularly interesting exercise would be to look at the shift in
manufacturing from northern industrial states such as Ohio to southern Sunbelt states such as Texas.
Is this due to NAFTA? An excellent data source for student papers is the Department of Commerce
and International Trade Administration’s Trade Stats Express:
http://tse.export.gov/TSE/TSEHome.aspx
◼ Answers to End-of-Chapter Questions
1. What factors caused the U.S. to shift its focus from a more multilateral approach to a more bilateral
and plurilateral one?
Answer: As membership in the WTO has grown to include more than 150 members (157 in
August, 2012), and as tariffs and quotas have been reduced, trade negotiations have
become more difficult. In part this is because negotiations among so many countries with
Chapter 13 The United States in the World Economy 87
2. How has the trade-to-GDP ratio changed for the United States over the last several decades?
Answer: Between 1960 and 2007, when the subprime crisis began, the trade-to-GDP ratio tripled,
3. Why is the trade-to-GDP ratio for Canada greater than that for the United States?
Answer: The primary reason for the difference is the sizes of the two countries. Canada’s much
4. Explain how an increase in U.S. and Canadian intraindustry trade altered the level of productivity in
the affected Canadian sector.
Answer: The 1965 Auto Pact created nearly free trade in the automotive sector. Prior to the Auto
Pact, strict Canadian content requirements forced manufacturers to make most of the
cars in Canada that they wanted to sell domestically. This reduced consumer choice
because Canadian-based plants could not afford to make as many different styles and
models given the small size of the Canadian market. In addition, it meant that plants often
5. What were Canada’s motives for proposing and signing the Canadian-U.S. Free Trade Agreement?
Answer: Canada worried about the increasingly protectionist tendencies it saw developing during
the 1970s and 1980s in the United States. It depended heavily on trade and, in particular,
trade with the United States. Hence one of its major goals was to lock the United States
6. What were the forces at work in the Mexican economy that led to the market reforms and market
opening of the mid-1980s?
Answer: The main force was the debt crisis that began in 1982. The crisis resulted from heavy
Mexican borrowing during the late 1970s when the price of oil was high. The Mexican
government borrowed in order to spend and stimulate the national economy. When the
88 Gerber • International Economics, Seventh Edition
7. What were Mexico’s motives for proposing and signing the North American Free Trade Agreement?
Answer: President Salinas wanted to attract direct foreign investment to Mexico in order to
supplement the low level of national savings and also to make sure future Mexican
governments didn’t return to government’s traditional role as one of the primary sources
8. In what areas are there NAFTA side agreements? Discuss the pros and cons of these agreements.
Answer: The side agreements cover labor and environmental standards. Essentially, they entail
international scrutiny of each country’s rules and inspection to determine whether the
rules are being enforced. They do not harmonize rules. The pro arguments are that the
agreements create institutional mechanisms that approved a process by which economic
actors in each country can initiate formal complaints about the lack of enforcement of
9. Why has Mexican migration to the United States slowed?
Answer: The text gives three reasons: (1) It is harder, more dangerous, and more expensive to
cross the border; (2) The economic and political environment in the U.S. is less receptive
to immigrants, particularly those without documentation; and (3) demographic changes in
Mexico. Increased border enforcement has pushed undocumented migrants into the desert
10. What are preferential agreements and why are they used by the United States?
Answer: Preferential agreements are usually unilateral agreements involving an advanced economy
such as the United States with several other developing countries. The U.S. unilaterally
Chapter 13 The United States in the World Economy 89
11. Explain why claims about job creation and job destruction due to NAFTA are likely to be misleading
and inaccurate.
Answer: It is extremely difficult to measure the job creation and destruction effects of a trade
agreement like NAFTA. Looking at job creation first, there is the problem that if an
American firm that buys supplies from other American firms moves to Mexico or Canada,
the inputs it buys suddenly become exports, yet no new jobs are created. Measurements of
job destruction are marred by the fact that imports from Mexico may displace imports
12. Explain how NAFTA served as a model for subsequent trade agreements.
Answer: NAFTA provided a framework and starting point for including labor and environmental
standards in trade agreements. This was its most important contribution. Since its signing,