Canada sees U.S. trade deal minus Mexico as fall-back option

By David Ljunggren and Andrea Hopkins

OTTAWA (Reuters) - Canada could fall back on a free trade agreement that excludes Mexico if U.S. President-elect Donald Trump follows through on radical protectionist policies, officials said, predicting fears of a massive economic hit are overblown.

During a raucous election campaign, Trump vowed to either renegotiate or scrap the 1994 three-nation North American Free Trade Agreement, under which Canada sends 75 percent of all its exports to the United States.

Canadian Prime Minister Justin Trudeau said on Thursday that "if Americans want to talk about NAFTA, I'm more than happy to talk about it", a day after Canada's ambassador to the U.S. said Ottawa would be "happy" to renegotiate NAFTA.

The envoy, David MacNaughton, said that even if NAFTA were torn up, the two nations would be bound by the terms of the 1987 Canada-U.S. Free Trade Agreement, the precursor to the trilateral deal which added Mexico, noting, "I can't imagine them wanting to do anything about" that deal.

A source with direct knowledge of Canadian government thinking said Ottawa saw only a small chance that Trump, who won a Nov. 8 election, would move quickly on NAFTA, since changes would require cooperation from pro-business Republicans in Congress.

"He has other priorities, such as ending illegal immigration. Is he really going to burn up political capital on a step that could damage the economy?" said the person, who requested anonymity because of the sensitivity of the situation.

Peter Hall, chief economist with Export Development Canada, said he expected U.S. corporations with major investments in Canada to balk at big changes to NAFTA, which could harm U.S. consumers by hiking tariffs and making goods more expensive.

Trump's unhappiness with NAFTA has largely centered around trade with Mexico. He has also threatened to slap tariffs on imports of Chinese goods.

"I don't think at this point we've seen anything in his public statements that indicate that he is going to take a hard line against a country like Canada," said Royce Mendes, senior economist at CIBC Capital Markets.

Mendes said if the United States eventually ended up trading with fewer countries, Canada's exports could actually go up.

According to official U.S. data, bilateral trade with Canada in goods and services in 2015 totaled $662.7 billion, more than the $659.4 billion between the United States and China.

By contrast, Statistics Canada data showed that in 2015, bilateral trade in goods and services between Canada and Mexico totaled just C$30.2 billion. Canadian imports of vehicles, parts and accessories from Mexico totaled C$9.7 billion last year.

The possibility that Canada would take the U.S. side to the exclusion of Mexico added to weakness in the peso in late afternoon trade on Thursday.

"This kind of thing also scares people ... because it means the Canadian government is worried and so the market reacts," said CI Banco analyst Jorge Gordillo in Mexico City.

The Mexican embassy in Ottawa could not immediately be reached for comment.

In the run-up to the election, Canadian diplomats fanned out across the United States to make the point that Canada is the top export destination for 35 U.S. states‎ and that 9 million U.S. jobs depend on trade with Canada.

Canadian officials and analysts are quietly confident the economy will survive, and might even thrive under a Trump presidency, given the high integration between the two countries' economies.

Cross-border partnerships in key industries such as the auto sector means "Buy American" policies may still allow Canadian components to sneak in under the wire, beating out competitors' goods.

Meanwhile, Canada's recent trade deal with Europe means U.S. firms can potentially access that market through their Canadian operations.

"What we need to see is an accelerating U.S. economy, keeping our currency weak enough that we're competitive on the global stage," said CIBC's Mendes. "All else being equal, if we lay low ...I think that'll be good."

(Additional reporting by Allison Lampert in Montreal and Lizbeth Diaz; Editing by Alan Crosby)

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