The Peso Devaluation Will Promote the Transfer of U.S.-Owned Manufacturing Operations From East Asia to Mexico

The Mexican peso devaluation has made life difficult for many Mexican firms and will considerably slow economic growth there, at least for the short-term. However, there will also be a very positive impact in the medium and long-term.

By reducing the cost of manufacturing in Mexico, the devaluation should increase the trend toward North American production sharing -- to the benefit of both U.S. and Mexican firms. As a result, an increasing number of U.S. and foreign-owned firms currently manufacturing in East Asia for North and South American markets are likely to relocate more of their manufacturing operations to Mexico. This will boost U.S. exports of components to Mexico, which are widely used in Mexican production and assembly, strengthen the Mexican economy, and very importantly, increase North American global competitiveness.

According to Donald Michie, Vice President of the El Paso-based NAFTA Ventures, Inc., as a result of the devaluation, U.S.-Mexican production sharing, which accounts for about one-third of total U.S. global production sharing, will increase. Production sharing (provided under U.S. tariff classifications 9802.00.60 and 9802.00.80), has permitted U.S. materials assembled, processed or improved abroad, to be shipped back to the United States incurring duty only on the foreign value. This has allowed some of the low-skill, labor intensive manufacturing processes to be conducted in lower-wage countries, while the high-skill, capital intensive processes are retained in the United States.

This has helped U.S.-based companies become more competitive worldwide, prosperous and able to sustain or increase the number of higher-skilled U.S. jobs at higher wages. In turn, production sharing has created Mexican jobs, increased their standard of living and allowed more Mexicans to buy U.S. products.

Under Nafta, the 9802.00.60 and 9802.00.80 classifications are not as vital to U.S.-Mexican trade since the agreement phases out all duties on U.S. and Mexican products. However, by establishing alliances and combining strengths and resources to a greater extent through production sharing, U.S. and Mexican firms will become more competitive vis-a-vis European and Japanese firms. The concept of "Team North America," a primary objective of Nafta, has become a reality and is more vital to our economic interests in light of rapidly growing competing trade blocs.

U.S.-Mexican production sharing is anticipated to increase under Nafta. Predicted in 1992 by Bob Broadfoot, Managing Director of Political & Economic Risk Consultancy, Ltd. located in Hong Kong, unless the majority of their markets are in East Asia, many American manufacturing firms operating there are likely to relocate their plants to Mexico. He indicated that many U.S. manufacturers based in Singapore, for example, produce electronics products primarily for the U.S. market. Many of these firms, he said, will likely relocate to Mexico. Now that Mexican manufacturing costs have been reduced by the peso devaluation, this pace will likely accelerate. This trend is expected to make North America more self-sufficient. Stated by Michie, "U.S. imports from non-North American countries will decline."

John Taylor, Vice President of Public Affairs for Zenith Electronics Corporation, said that by the end of 1995, Zenith will discontinue sourcing their picture tubes for projection television sets in the Far East and begin manufacturing them in Mexico. In addition to using these tubes in their own sets, Zenith will also sell them to other television manufacturers. Nike, Inc. of Beaverton, Oregon, which makes most of its athletic shoes in Asia, reportedly announced in January that it is considering building a plant in Mexico.

Other factors, such as Mexico’s close proximity to U.S. markets, assuming the U.S. is a primary market, reduces transportation and communications costs. It allows many U.S. managers and their families to live in U.S. border cities, such as San Diego and El Paso, commuting the few miles across the border to their plants in neighboring Tijuana and Ciudad Juarez. Close proximity also helps facilitate visits from component suppliers, corporate research and development experts, engineering specialists, and the final customer.

Production Sharing Will Sustain U.S. Jobs That Might Have Been Lost

Lower skilled jobs are becoming scarcer and unemployment is increasingly commensurate with lack of education and skills. In 1990, although the U.S. unemployment rate averaged 5%, it reached 12% for those that had completed fewer than twelve years of schooling, according to Outlook 1990-2005, published by the U.S. Department of Labor. Similarly, it reached 6.3% for those that had completed high school, 4.2% for those who attained 1-3 years of college, and 2.5% for those who attained four or more years of college.

The occupational groups projected to decline or be among the slowest growing are more likely to be dominated by workers who do not have an education beyond high school. Conversely, groups on the list of occupations having the highest rates of growth are more likely to have workers with higher educational attainment. Thus, a skilled work force providing high value-added labor through the use of state-of-the-art technology is the only road to security.

Several years ago the U.S. International Trade Commission conducted a survey of U.S. companies involved in production sharing. When respondents were asked what they would do if 9802.00.60 and 9802.00.80 were eliminated, they indicated that they would increase reliance on foreign-made parts or suffer a loss of U.S. market share to foreign competitors not using U.S.-made components. Their responses, ranked according to frequency, were that without production sharing, they would:

  1. turn to foreign suppliers of components,
  2. drop labor-intensive product lines at their foreign assembly facilities and import these non-U.S. products from East Asia,
  3. move manufacturing of all products to East Asia,
  4. cut back U.S. production and target a niche of the market not threatened by imports, and
  5. go out of business.

It is clear that with the elimination of production sharing many high-skilled jobs in the United States and low skilled jobs in Mexico would be replaced by East Asian workers.

According to Robert Reich, U.S. Secretary of Labor, preventing the importation of products from low-labor cost countries would not solve any problems. Stated by Reich, "Even if millions of workers in developing nations were not eager to do these jobs at a fraction of the wages of U.S. workers, such jobs would still be vanishing. Domestic competition would drive companies to cut costs by installing robots, computer integrated manufacturing systems, or other means of replacing the work of unskilled Americans with machinery that can be programmed to do much the same thing."

North American Competitors Utilize Production Sharing of Their Own

For years Germany has had access to low-wage workers in Spain and Yugoslavia. Under the Guest Worker Program, Germany also allowed the immigration of foreigners in exchange for low-paying jobs. Since the fall of the Berlin Wall, Western Europe now has access to inexpensive and well-educated labor in Poland, Czechoslovakia, Hungary and, to a lesser extent, former East Germany, where wages often exceed levels of productivity.

Likewise, for years Japan took advantage of inexpensive labor in South Korea and today continues to employ low-wage workers in Singapore, Thailand, Malaysia, the Philippines, Indonesia, China and, most recently, Vietnam.

The question is not whether many labor-intensive, low-technology producers need to produce in low labor-cost countries -- many have no choice -- but rather, where to produce. For many reasons, those that need to seek low-cost labor are better off moving part of their production to Mexico than to East Asia. According to Michie, "Mexican production sharing imports contain approximately 50% U.S. value added which, if adjusted for the cost of Mexican labor, translates into more than 70% U.S. materials content." Conversely, Asian finished products embody few, if any, U.S. content.

Given these realities, combining U.S. and Mexican resources and strengths is extremely beneficial. Thus, "Team North America" will generate stronger economic growth and provide U.S. workers and firms with the best opportunities not just to survive, but to excel in the increasingly competitive global economy.

To Be Inserted by The Exporter

Arno Partner, Division Director for Latin America at the St. Louis-based American Soybean Association, reportedly said that U.S. soybean farmers shouldn't be hurt by the peso devaluation.

Dow Chemical reportedly said that the peso devaluation will have little, if any, effect on the company's operations in Mexico. Most of Dow's $150 million in annual sales to Mexico are exported from the United States.

Georgia-Pacific, a manufacturer of forestry products, reportedly saw its exports to Mexico rise by 40% in 1994. The company expects demands for its products to continue in 1995 despite the peso devaluation.

This article appeared in The Exporter, March 1995.
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John Manzella
About The Author John Manzella [Full Bio]
John Manzella is a world-recognized author and speaker on global business, emerging risks, and the latest economic trends. He's also founder of both the ManzellaReport.com and Manzella Trade Communications, Inc. His latest book is Global America: Understanding Global and Economic Trends and How To Ensure Competitiveness.




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