Reading · My Adirondack Diary

May 30, 2026 ~ Vol. 56

In 2020, NAFTA, the North American Free Trade Agreement, was replaced by the USMCA, a new trilateral trade agreement between the US, Mexico, and Canada. At the time the primary argument made for abandoning NAFTA was that it treated the US auto manufacturing unfairly. (Also Trump wanted to tear up one last agreement on his way out the door.) The USMCA attempted to correct the NAFTA imbalances by requiring that 75% of an auto’s parts must be made in North America to qualify for zero tariffs. It also sought to level the labor playing field (with Mexico) by requiring that 45% of these component auto parts must be made by employees earning at least $16 per hour.

Importantly, the new trade pact also contained a sunset provision, requiring the treaty to be approved again every six years to remain in effect. That review period ends on July 1, which is why you will be reading many headlines about this trade pact over the next five weeks. Much if not most of what you hear from the White House about this trade relationship will, err, be less than accurate.

To help construct a timeline of our history of trade with our northern neighbor, I asked my new favorite assistant, Claude (Anthropic’s AI platform), for some help with an analysis of the relationship. I was most impressed.

Political posturing vs. economic reality.

As the USMCA heads toward its mandatory review deadline in July, the United States, Mexico, and Canada must agree to extend the agreement for 16 years, approve a revised deal, or allow a ten-year annual-review sunset countdown to begin. Washington has leaned heavily on the US / Canadian “trade deficit” rhetoric to position our northern neighbor as an unfair trading partner, suggesting that Canada has been taking advantage of the US for years. To listen to this President’s version of the story, the $46 billion (goods) trade deficit that we ran with Canada last year meant that we “subsidized” Canada to the tune of $46 billion. Trump has used this bogus interpretation of the situation in dozens of speeches, and most economists argue this framing fundamentally misunderstands and misstates what a trade deficit is, and how it impacts the individual trading partners—or not.

Most non-economists reason that if a country sells more than it buys, it is winning; similarly, a country that buys more than it sells is losing. So trade surpluses are good, and trade deficits are bad. Economists, however, part ways with this view entirely. Here is why.

Trade Deficits Have No Reliable Relationship to Economic Performance

According to the Cato Institute, a libertarian think tank with conservative leanings on economic matters, the most basic empirical challenge to the “deficit = losing” thesis is that the data simply doesn’t support it. Examining 50 years of quarterly U.S. data, the correlation between the trade balance and GDP growth is 0.01 — statistically indistinguishable from zero. There is no evidence that higher trade surpluses accompany higher economic growth. Cato Institute

History reinforces this. For most years of the nineteenth century, U.S. imports exceeded exports and the economy ran a trade deficit. Yet this string of deficits did not hold back the economy at all. Instead, it contributed to strong economic growth that gave the U.S. the highest per capita GDP in the world by around 1900. Lumen Learning

More recently, in 2000 under President Clinton, the United States achieved a federal budget surplus and an unemployment rate of around 4 percent despite a trade deficit that was 3.7 percent of GDP — higher than the 3.1 percent of GDP deficit in 2024. PIIE

A Trade Deficit Is a Capital Surplus in Disguise

For readers looking to wade into the weeds a bit, an examination of the fiscal conditions produced by a trade deficit can get a little wonky. Trade deficits don’t exist in isolation — they have a mirror image. When a country imports more than it exports, it is, by definition, attracting more foreign investment and capital than it sends abroad. Trade deficits and/or surpluses are nothing more nor less than borrowing and lending between countries. Borrowing to buy a home or run a business is not for “losers” only, and neither are trade deficits. What matters are the terms of the loan and the use to which it is put.

The Congressional Research Service notes that “most economists conclude the trade deficit stems largely from U.S. macroeconomic policies and an imbalance between saving and investment in the economy,” adding that “trade creates both economic benefits and costs, but that the long-run net effect on the economy as a whole is positive.” World Economic Forum

In the case of Canada specifically, Canadian investors made $700 billion worth of low-interest loans to the U.S., fully offsetting the bilateral trade deficit over the past decade. Despite that, Canada incurs a large net deficit in investment income — meaning the U.S. earns more from its investments in Canada than Canada earns from its investments in the U.S. Ubc

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For a deeper dive into the trade deficits and capital surpluses, read this Canadian perspective from the University of British Columbia:

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The U.S.-Canada Deficit Is Overwhelmingly an Energy Story

Perhaps the most compelling empirical argument against treating the U.S.-Canada deficit as evidence of unfair trade is its composition. The deficit is not driven by Canadian manufacturers undercutting American workers — it is driven by the United States buying Canadian oil and gas.

Energy accounts for about 60% of America’s total bilateral merchandise trade deficit with Canada — a share that rose to 72% in 2022 when global oil prices spiked after the invasion of Ukraine. Centreforfuturework

Canada is the largest supplier of U.S. energy imports, including crude oil, natural gas, and electricity. Canada’s share of U.S. crude oil imports by quantity increased from 41% in 2015 to 64% in 2025. The United States is not being exploited by this arrangement — it is securing a reliable, geographically proximate energy supply at competitive prices. Canada is the only large net oil-exporting country without a state-owned oil producer, and U.S. companies own $55 billion worth of its oil and gas sector. Americans are, in a very real sense, profiting from the “deficit.” Congress.gov Ubc

The U.S. would probably have a trade surplus with Canada if these energy exports didn’t exist. The impact of that reality is worth more than you might think, but the net amount of the benefit is hard to quantify. Having all of our energy needs produced here in North America, instead of remaining dependent on imports from Middle East suppliers who have been known to cut us off at a moment’s notice, stabilizes pricing, allows companies to budget with more certainty, and in the aggregate allows for more predictable US economic growth.

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The goods trade deficit — the number most often cited in political debate — gives an incomplete picture, because it excludes services, where the U.S. consistently comes out ahead. The totality of US economic output—GDP—includes the production of goods and services, and that services number is growing faster than manufactured goods. In the `1970’s the services sector represented approximately 40% of GDP. Services now account for 75% of the US economy. That services trade, including financial services and tourism, is particularly robust, with the United States generally running a services trade surplus with Canada. Canada imports large volumes of services from the U.S. — including streaming, data, and platform services from companies like Amazon, Meta, Google, and Uber — many of which are weakly regulated, underreported, and largely untaxed. These represent a substantial American advantage that the raw goods-deficit number simply doesn’t capture. Here in the north county of upstate New York, cross border trade—especially in tourism—has been particularly impacted by these squabbles between DC and Ottawa.

Most Canadian Exports Are Inputs That Help U.S. Businesses Compete

Another dimension that gets lost in the “deficit = losing” framing is that the composition of what Canada exports to the U.S. is heavily weighted toward industrial inputs, not finished consumer goods. Most Canadian exports to the U.S. are unfinished inputs that American businesses use in their own production — more so than with other trading partners. Tariffs on these imports would increase costs for U.S. firms, including in export markets, reducing their competitiveness. Ubc

This is why the relationship is better described as deep integration than as competition. Canada and the U.S. enjoy the world’s most comprehensive trading relationship, which supports millions of jobs in each country. Nearly $2.6 billion (U.S.) worth of goods and services crossed the border each day in 2024, with much of it involving co-investment and co-development. Global Affairs Canada

Bilateral Deficits Are Particularly Misleading

Even if one believed overall trade deficits were meaningful, bilateral deficits — between two specific countries — are even less so. The U.S. might run a deficit with Canada and a surplus with, say, the UK, and both relationships could be entirely rational and mutually beneficial. Countries specialize. Many economists and trade experts warn against trying to “win” the trade relationship with particular countries. No household expects to balance its accounts individually with every store it shops at. Council on Foreign Relations

The Bottom Line

The U.S.-Canada goods trade deficit in 2025 was approximately $46 billion — less than one-eighth of one percent of U.S. GDP. It is driven primarily by American purchases of Canadian energy at competitive prices, partially owned by U.S. investors, offset by a U.S. services surplus and massive Canadian investment in U.S. financial assets. Trade deficits allow countries to consume more than they produce, which can increase economic activity and boost living standards. The word “deficit” carries negative connotations borrowed from accounting and personal finance that simply don’t translate cleanly to national trade flows. USImportData World Economic Forum

As the USMCA review proceeds, framing Canada as a bad actor because of a bilateral goods deficit — one that largely reflects America’s own appetite for Canadian oil — is, in the view of most economists, a significant misreading of how trade actually works.

This reality will certainly not stop President Trump from firing off midnight social media posts next month on Truth Social, trumpeting the fiction that Canada has been “ripping us off” and therefore we have been subsidizing the Canadian economy for years. I honestly do not know if he believes it, or if it is all performative and he spews this bluster just to fit his personal narrative: we, and he, are (always) the victims, and everyone else is the enemy. This is also a consequence of Trump surrounding himself with yes-men who will not offer an objective analysis of current conditions—including when he is making a mistake. (See also: Iran, immigration, Cuba, tariff policy, et al.)

On the plus side, if he is thinking about Canada, he is not thinking about Cuba, at least for the moment. This, unfortunately, is where we find ourselves right now. Buckle up.

I explored our relationship with our Canadian neighbors on Substack last year:
All we need is their friendship?

Canadian Capers?

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