The first country examined in this series on trade is Mexico.
Mexico straddles several geographic areas: North America, Latin America, Central America, the Caribbean, and the Pacific. The Mexican economy is bolstered by this geographic diversity in terms market access – the United States via land, Asia via the Pacific, and the European Union via the Atlantic.
In terms of gross domestic product and population, Mexico is the second largest country in Latin America. The capital of Mexico – Mexico City – is the second largest metropolitan zone in Latin America with more than 20.6 million residents – or 18.6% of the country’s total population – in the metropolitan area. The Mexico City metropolitan area – primarily the Federal District and the state of Mexico – is the most economically important region in Mexico. The area constitutes roughly a quarter of Mexico’s total GDP (Brookings).
The second most economically important metropolitan area in Mexico is Monterrey, Nuevo Leon. Nuevo Leon is a northern state with a small border with the United States at Colombia, Texas just west of much larger border cities of Nuevo Laredo, Tamaulipas and Laredo, Texas.
Monterrey’s economic success is due in large part to its proximity to the United States and the economic relationship between the US and Mexico. As discussed below, both these factors and state level support encourage industrial development in the border state.
Mexico has signed a number of free trade agreements and preferential trade agreements (OAS). The earliest and most important FTA is the North American Free Trade Agreement between Mexico, the United States, and Canada. Mexico has FTAs with more than 40 countries and economic blocs, including the European Union, the European Free Trade Association, the Pacific Alliance, and Japan (map 1).
In February 2016, Mexico signed the Trans-Pacific Partnership. Although Mexico already has FTAs with four of the other countries involved, the TPP will give Mexico greater access to Australia, Brunei, Malaysia, New Zealand, Singapore, and Vietnam. The sum of these six countries GDP is $2.31 trillion (World Bank).
The vast majority of Mexican exports go to the United States (graph 1). Geographic proximity, the size of the US economy, and a favorable trade environment explain the dominance of the US market vis-à-vis Mexican exports.
Mexican exports are highly concentrated in three HS-categories: vehicles; electronic equipment; and machinery (graph 2). Vehicles and electronic equipment have accounted for at least 40% of Mexican exports since 2013 (table 1).
There have been several significant changes in Mexico’s main exported commodities in recent years (graph 3). Mineral fuels, oil and electronic equipment exports as a share of total exports fell harshly since the start of the Great Recession. However, it wasn’t until the Great Recession that vehicle exports started gaining a higher share of total exports.
Eighty-nine percent of vehicles exported in 2015 were to NAFTA countries with 84 percent going to the US (graph 4). The percentages for the US and Canada have been roughly the same since 1990.
While the US market continues to dominate exports of vehicles from Mexico, growth in exports to other countries has outpaced growth in exports to the US since approximately 2004. However, while exports to the US have continued to grow, exports to the rest of the world have fallen since their peak in 2012 (graph 5).
The Mexican Automotive Industry
The automotive industry is a powerhouse of the Mexican economy. In 2015, Mexico exported $25.8 billion in vehicles with a gasoline powered engine capacity of fewer than 3 liters, which is 28% of its total exports within the HS-87 category.
In addition to proximity to and a favorable trade environment with the US, companies locate their factories south of the border for several other reasons.
First, the cost to manufacture vehicles in Mexico is much smaller due to lower wages. It’s estimated that auto workers in Mexico make roughly $5.25 an hour, which is about a third of their American counterparts. The lower labor costs allow car manufacturers – for example, the big three in the US – to make a profit their smaller vehicles while keeping production of their larger, more profitable SUVs and trucks in their home country.
Second, just like in the United States, the national and state governments of Mexico have offered foreign car companies generous incentives. However, there has been political pushback against such incentives. The most recent and well-known incident occurred in Nuevo Leon, where the newly elected governor complained loudly about a nearly $100 million incentive package agreed to by his predecessor.
Third, domestic consumption in Mexico has become a driver of growth. In 2015, 1.3 million new units were sold in Mexico, which was a 19% change from the previous year. Furthermore, as reported by the Wall Street Journal, the recent uptick in production in June was due partly to “strong domestic demand for new cars.”
A strong domestic market for domestically manufactured vehicles small vehicles, protects the auto industry foreign market volatility. This has taken greater significance due to the recent shift in consumer preference in the United States from small cars to large vehicles.
For these reasons, it is unsurprising that several car companies and their subsidiaries announced their intention to heavily invest in Mexico. For example, Kia recently opened a $1 billion new plant near Monterrey, Nuevo Leon approximately 120 miles from the US border. Their new factory will eventually build 300,000 vehicles per year, primarily for export.
Another recent announcement came from Audi. The subsidiary of Volkswagen will invest €1 billion ($ billion) to expand its production capacity in the state of Puebla. In addition to traditional gasoline vehicles, Audi plans to eventually build an electric version of the Audi Q5.
Production was low in the first four months of 2016 and production is expected to remain flat relative to last year’s numbers.
However, the next few years look promising. Production capacity will reach new heights as the Kia, Audi, and other companies’ factories fully come online around and after 2020. This could mean a bright future for Mexican auto workers and domestic and foreign consumers.