The U.S. is clashing with Mexico and Canada over rules for cars shipped across regional borders, with automakers and governments telling the Biden administration that it’s imperiling the success of their new trade pact.

The dispute focuses on how to calculate the percentage of a vehicle that comes collectively from the three countries under the U.S.-Mexico-Canada agreement, according to people familiar with the matter, who asked not to be named because conversations are private. The deal took effect last July, replacing the North American Free Trade Agreement, or Nafta, but the new so-called rules of origin are designed to be phased in over several years.

The U.S. insists on a stricter way than Mexico and Canada believe they agreed to for counting the origin of certain core parts including engines, transmissions and steering systems in the overall calculation, the people said. That makes it harder for plants in Mexico and Canada to meet the new threshold of 75% regional content, up from 62.5% under Nafta, in order to trade duty-free, the people said.

For example, if a core part uses 75% regional content, and thus qualifies under that requirement for duty-free treatment, Mexico and Canada argue that USMCA allows them to round the number up to 100% for the purposes of meeting a second, broader requirement for an entire car’s overall regional content. The U.S., however, doesn’t want to permit rounding up, making it tougher to reach the duty-free threshold for the overall vehicle.

That’s how the issue is summarized in a note written by Mexico’s Automotive Industry Association, known as AMIA, and obtained by Bloomberg News.

USTR spokesman Adam Hodge said in an email that the U.S. “remains committed to the stronger regional value content requirements that the countries agreed to in the USMCA,” without elaborating.

The press office of Mexico’s economy ministry declined to comment immediately. A spokesperson for Canadian Trade Minister Mary Ng declined to comment.

U.S. Trade Representative Katherine Tai, appointed by President Joe Biden, has repeatedly stressed in recent weeks that the administration is pursuing a “worker-centered” trade policy and has sought friendly ties with the nation’s trade unions. Last month she addressed the largest U.S. labor federation in a move that its head heralded as a historic first.

United Auto Workers spokesperson Brian Rothenberg said in an email that the group, the largest U.S. auto union, supports the Biden administration’s stricter interpretation of the USMCA.

Surprise Stance

For Mexico, the Biden administration’s demand came as a surprise, because the nation believed that the issue had been settled in talks with then-President Donald Trump’s administration in 2018 and 2019, the people said. Cars are at the heart of the USMCA, and Mexico views the U.S. demand by the Biden administration as an attempt to renegotiate a key aspect of the deal, the people said.

Mexico, together with Canada, is considering filing a formal complaint against the U.S. under the year-old USMCA, which could result in a dispute panel to hear arguments for the nations, the people said.

Mexican Economy Minister Tatiana Clouthier plans to travel to Washington this week and discuss the issue with Tai, the people said.

A quarter century after Nafta went into effect, Trump demanded rules to require more regional content and a minimum hourly wage in car production to incentivize companies to manufacture more in North America and the U.S. Tai, as a lawyer for House Democrats, played a key role in negotiating changes to the USMCA in 2019 to win broad bipartisan support in Congress.

Making the rules too cumbersome could cause automakers to forgo applying for duty-free treatment and instead pay tariffs that the U.S. charges under World Trade Organization rules, said Flavio Volpe, president of Canada’s Automotive Parts Manufacturers’ Association.

That would make the free-trade deal irrelevant for preferential tariff purposes. Motor vehicles are the top manufactured product traded between the U.S., Mexico and Canada.

Under WTO rules, the U.S. could apply a 2.5% tariff on passenger vehicles from its neighbors if the USMCA weren’t in place, though the duty for light trucks is higher at 25%.

“We had to find a balance in the Nafta negotiation: how hard could you push for local supply,” Volpe said. “There is a point where you turn a screw too hard and you break the threads. If it’s too onerous, automakers will just pay the 2.5% tariff.”

The dispute comes after the car industry was already forced to close last year due to COVID-19 and is dealing with a crisis due to a shortage of computer chips for vehicles.

Mexico and Canada constantly jockey with China for the status of America’s top trade partners, with more than $1 trillion in goods crossing the borders annually. The two North American neighbors are key to U.S. efforts to convince companies to invest and return manufacturing to the region to be able to compete with China. The Trump administration fought a trade war with the Asian nation, including placing tariffs on more than $300 billion of imports, which Biden has so far kept in place.