NAFTA talks to continue in tense atmosphere, as US also prepares new tariffs for China

The U.S. and Canada agreed on Thursday to continue negotiating a new NAFTA deal, amid a tense trade environment that includes an announcement Friday of new U.S. tariffs on China.

U.S. Trade Representative Robert Lighthizer and Canadian Foreign Minister Chrystia Freeland agreed to continue negotiations toward a revised North American Free Trade Agreement, despite frayed relationships between the U.S. and Canada following President Donald Trump's rebuke of Prime Minister Justin Trudeau last weekend.

The chilled atmosphere, which included Trump trade advisor Peter Navarro insulting Trudeau, led to speculation that the talks would die and Trump would withdraw the U.S. from NAFTA altogether. Freeland said no specific date was yet set to continue talks but said negotiators will be working hard over the summer. Mexican officials have said talks may continue in July.

Trump's already testy meeting with leaders of major trade partners at the G-7 summit last weekend took an even more difficult turn when he and administration officials slammed Trudeau.

For his part, Trudeau had commented that Canada would not be pushed around by the U.S. and that it would proceed with retaliatory tariffs. That drew criticism from Trump and other officials who said Trudeau was stabbing Trump in the back.

Freeland spent the week meeting with officials in Washington, and met with Lighthizer Thursday. According to Reuters, she said she and Lighthizer agreed to continue negotiating a new NAFTA accord.

The White House is moving forward on another front, with plans to roll out tariffs Friday on a truncated list of Chinese exports, three sources familiar with the matter told CNBC.

The list is expected to include between 800 and 900 products, compared with the original list of about 1,300 products published by the U.S. trade representative in April. The dollar value of the goods the Trump administration expects to target is unclear.

Dan Clifton, head of policy research at Strategas, said he expects the list to be shorter than proposed and possibly affect $40 billion worth of goods.

"The list is likely to be less than the original $50 [billion] proposal and the net tariff impact will likely be around $10 [billion] (25% on $40 [billion] worth of goods). The Trump Administration is likely to implement the tariffs next week absent some deal in the coming days," Clifton wrote Thursday.

China has threatened its own tariffs, as have other trading partners the Trump administration has targeted. Progress appeared to be made when the White House struck a deal to allow China's ZTE to resume buying U.S. components even though it violated sanctions against selling to Iran and North Korea. However, the deal now is in question, with the Senate attempting to undo it with a bill that is making progress, but the White House is attempting to have lawmakers strike it before Congress passes a final version.

"That is a cornerstone of what President Trump promised President Xi," said Juan Carlos Hartasanchez, senior director with Albright Stonebridge Group. "I think for the Chinese, they just look at these guys and say they are not aligned. They don't have a direct message and that is likely something that debilitates the U.S. in the eyes of the Chinese."

Hartasanchez, who follows NAFTA, said it would help the NAFTA discussions, though maybe not the outcome, if the U.S. were to find a way to settle its disputes with China.

"They have opened too many fronts in battles against the main trading partners. They opened a front with China, they have the NAFTA front, and they opened a battle with Europe. It doesn't allow you to measure the effect of one negotiation on the others," he said.

Political and trade strategists say the fate of NAFTA is more unclear after G-7, and it is now more difficult than ever to handicap the odds of an agreement to revamp the 24-year old trade pact.

Navarro appeared to be toning down the administration's rhetoric Tuesday when he apologized for insulting Trudeau by saying there was a special place in hell for him. Navarro also said the list of proposed tariffs on Chinese goods would be smaller than the original list.

That is positive on the margin, wrote Clifton. "The initial round of tariffs is quite manageable economically although we are moving to a more uncomfortable stage should the tariffs be imposed."

"I think the weekend's events escalated the risk of trade wars," he said. Clifton said Trump believed Canada was in the wrong and tariffs righted the wrong, but he could see Canada's retaliation as a new escalation and could therefore respond.

Trump on Monday said Trudeau's comments will cost Canada "a lot of money." Although Canada is the country feeling the main brunt of U.S. tariffs, its goods deficit is relatively small compared with that of China or even Mexico. And with services exports, there is a trade surplus of $8 billion in the U.S. favor.

"I think as far as we know the NAFTA renegotiations are still there on the table and no one has announced they're pulling out," said Patrick Leblond, a senior fellow at the Centre for International Governance Innovation in Ontario, Canada.

Some trade experts said positions could be hardened after the three countries failed to make an agreement ahead of the Mexican election in two weeks and also a U.S. deadline that passed several weeks ago that would have allowed the current Congress to pass a revised NAFTA.

The Trump administration slapped tariffs on Mexican and Canadian steel and aluminum, in what some say was an effort to push NAFTA negotiations forward.

"If [Trump] thought putting tariffs on Mexico and Canada would give him leverage, it backfired," Leblond said. Trump's posture toward Trudeau has not helped, he said.

"Even if he threatens to withdraw [from NAFTA] or invokes article 2205 and notifies that he intends to leave, I think both Canada and Mexico would say, 'Go ahead, try your luck,'" Leblond said, referring to a provision in the NAFTA agreement. "We'll see how the U.S. political system works and what happens, whether you'll be able to do that."

"Certainly from the Canada side, we're bracing for a fight. It's pure bullying, and we're going to fight back," he said. "With Congress, Canada has done a lot of lobbying and engagement and that will continue."

Leblond said some trade lawyers believe Trump does not have authority to exit NAFTA without congressional approval, because it put the trade act into law. Business leaders, trade groups and many members of Congress oppose leaving the trade agreement, which has spawned a web of interrelated industries and supply chains across all three countries.

"Congress could try to challenge Trump's authority," Leblond said. "I could see this mired in the courts for quite a while." He said it could ultimately be decided by the Supreme Court.

Clifton also expects a bitter fight if Trump attempts to withdraw.

"We believe there would be a private lawsuit, and we believe congressional leadership would sign on to that private lawsuit, and the lawsuit would say the president doesn't have the authority to pull out of NAFTA," he said. "That's one school of thought." He said the suit could be brought by a business group or association.

Hartasanchez said even with the six-month period that would pass after a withdrawal from NAFTA is announced, it could still be in effect because of the anticipated legal challenges.

"Everything is related. Mexico had nothing to do with G-7, but now given Canada's decision as a host of G-7, it has put Mexico in a difficult position with NAFTA," said Hartasanchez.

Aside from NAFTA, trade experts say another concern is the possibility Trump could impose tariffs on imported cars. The administration is investigating whether it should do so on the grounds of national security. Congress is attempting to push legislation that would block Trump from using national security as a reason for tariffs without congressional approval, but it's not seen as having much chance.

According to the Peterson Institute, 187,000 U.S. jobs could be lost if the U.S. withdraws from NAFTA, over a one- to three-year period, and even more if the U.S. drops out of the Canada- United States Free Trade Agreement.

If the U.S. leaves NAFTA, Mexico and Canada would remain in it unless they also withdrew.