Topic Category: Trade & Finance

Some like it — some don't — most don't know. That's the word on the Uruguay Round Agreements (URA) signed by 117 countries in April 1994 -- but yet to be ratified by Congress. Held under the auspices of the General Agreement on Tariffs and Trade (GATT), the URA will phase out quotas and reduce tariffs on most products traded globally.

GATT, the international body that governs approximately 90% of world trade, is responsible for reducing international tariffs from an average of 40% in 1947 to 5% in 1990. These tariff reductions have permitted international trade to expand enormously, national incomes to substantially increase and international competition to flourish resulting in higher quality, lower priced goods.

GATT economists believe that the URA will result in world income gains of $235 billion annually and trade gains of $755 billion annually, by 2002. For the United States it means increased exports by more efficient U.S. industries, an increase in our overall disposable income and improved economic growth. So what's not to like? It depends on your perspective -- or job.

The Agreement also means increased imports of goods for which the United States is not globally competitive and does not have a comparative advantage. On a micro scale this may result in losses for your company -- or the loss of your job. According to critics, the URA subordinates societal values to trade priorities and consequently has upset many labor unions, environmental groups, state and local officials. Additionally, many fear that the United States will surrender too much sovereignty to the World Trade Organization (WTO), the ruling body established by the URA, which is not directly accountable to the U.S. public.

"The Uruguay Round is not necessarily a good agreement for the United States," says Macfarland Cates, president of Arkwright Mills of South Carolina and past president of the American Textile Manufacturing Institute. Mr. Cates' fear that the textile industry will be hurt by the Agreement is not unfounded. According to the U.S. International Trade Commission, the URA will likely cause the U.S. textile trade deficit to increase by over 15%. The projected 5 to 15% increase in imports will offset the smaller 1 to 5% gain in exports resulting in a small but negative impact of 1% or less on production and employment in this sector.

Arkwright Mills is a manufacturer mostly of industrial textiles and garments. The company's annual sales range in the hundreds of millions of dollars, and exports account for about 15% of production. Like many U.S.-based textile mills, Arkwright mills is very competitive. Compared to other global producers, U.S. mills are one of the world’s largest and most efficient producers of textiles, being competitive in quality, innovation, marketing and related services. So why is the industry expected to lose under the URA?

The elimination of protection will expose the competitive weaknesses not of the U.S. textile industry, but of the apparel industry -- the single largest market for U.S.-produced textiles. The U.S. apparel industry is labor intensive and is subject to tremendous foreign competition from developing countries whose wages are a fraction of those in the United States. As a result, the greatest threat to the U.S. textile industry is the growth of imported garments. And increased imports of apparel negatively affect the U.S. demand for textiles. The negative effects on employment will be largely felt in North Carolina, South Carolina and to a lesser extent, Georgia. These three states account for one-half of U.S. textile employment.

Mr. Cates feels that the URA does not give U.S. producers equal access to foreign markets. Additionally, he believes that the United States is giving up too much sovereignty under the URA. Stated by Cates, "If you had reservations about the United Nations -- this is worse -- because we have no veto power."

According to Robert Stevenson, CEO of Eastman Machine Company based in New York State, "We need to produce for global markets in order to succeed. The U.S. market is peanuts compared to world markets." Mr. Stevenson, an ardent supporter of free trade, met with President Clinton last year in support of the North American Free Trade Agreement. Stated by Stevenson, "international competition is not harmful, it is a necessity. It helps you improve your product and manufacturing process."

Stevenson believes that U.S. companies must take advantage of the world economy and the GATT Agreement will help achieve this. Established in 1893, Eastman Machine Co. is a manufacturer of cloth cutting and spreading equipment used in the apparel, auto, furniture and industrial fabric industry. The company's annual sales exceed $25 million -- and 80% of new machines are exported. The success enjoyed by this company will likely improve with the advent of the URA. According to the U.S. International Trade Commission, the impact of the Agreement on the U.S. industrial machinery industry will be positive.

U.S. duties on cloth cutting and spreading equipment are about 10%. Stevenson believes that Eastman Machines' 80% share of the domestic market is not at risk with the reduction or elimination of this protection. He does see large potential export gains to countries like India, where the average current duty on his products is about 50%; and Brazil, where imports of finished machines are currently prohibited -- but will be forced open by the URA. Stated by Stevenson, "We can't support our economy by just selling to ourselves."

The world market for computers and office equipment reached $220 billion in 1993. Currently, U.S. producers supply 46% of U.S. consumption. The U.S. computer industry is globally competitive and a firm supporter of the URA. Thus, industry representatives believe that the tariff reductions will have a significant beneficial effect on the computer and office machine industry.

Dean Barren, CEO of DSB Computer Applications, provides computer consulting services and systems to customers domestically and overseas. Based in California, Dean Barren expects the growth of his small firm to accelerate with the advent of the URA. Claims Barren, "Some developing countries' high tariff barriers on computers have essentially prohibited sales by U.S. firms. For example, Brazilian tariffs range from 30 to 35% and their customs and other taxes can add an additional 40% on top of that. Some of India's tariffs on computers and office machines are 130%. Under the new GATT agreement, these barriers will come down."

According to the U.S. International Trade Commission, the URA will result in an increase of exported computer products, especially to developing countries such as India, Thailand and Indonesia. Additionally, the U.S. computer industry expects to save hundreds of millions of dollars from duty reductions in Europe.

U.S. firms lead the world in computer technology advances and invest large shares of their revenues in R&D. As a result, Barren believes that improved intellectual property protection under the URA will also benefit U.S. firms, especially in developing countries -- some of which have the fastest growing markets in the world.

The global demand for environmentally friendly products is at an all-time high. Consequently, sales are rapidly increasing for Ecostar International, a fast-growing New York State producer of biodegradable additives for plastics.

Bob Downie, CEO of Ecostar International, is very familiar with the global trading environment and a supporter of free trade. His firm exports about 70% of its production to Japan, South Korea, Taiwan, Denmark, Germany, Scandinavia and most recently to Mexico. Ecostar also has a joint venture production agreement in Changchun, China, located in the north. This facility produces a biodegradable agricultural mulch film which is spread over crops for the purpose of retaining heat and moisture, then degrades in the spring, not requiring the expense and labor to pick it up and discard it.

According to the U.S. International Trade Commission, the URA impact on most U.S. chemical sectors is positive, but small. Stated by Downie, "Global duties on our additives are already minimal." Thus, he believes that the URA will have little impact on his company. The only significant trade barriers to his product are logistical. Because the product is heavy, bulky and expensive to ship, the firm has plans to establish production facilities in strategic regions around the world.

Other issues, however, may be problematic. "I am very concerned about the loss of sovereignty regarding the establishment of the WTO", said Downie. "National sensitivities are definitely on the rise. People are more sensitive about their national identity and national prerogative." Overall, Bob Downie is neutral on the Agreement.

Ed Steger, CEO of Stetron International, relocated the headquarters of his electronic controls manufacturing company from Canada to the United States several years ago. The firm has manufacturing facilities in Japan, South Korea, Taiwan, Germany and China. Stated by Steger, the URA "was negotiated quite well. It does not appear to favor one country over another." This is an important point since the manufacturer custom designs much of its product to client specifications and ships from many countries to numerous others.

"The 90s are different than the 80s. In the 90s you have to be extremely competitive in order to stay in business. Artificial barriers will no longer keep one in the market", said Steger. "The Uruguay Round of the GATT is a good agreement. Any reduction in tariffs is beneficial -- and it should work well for the electronics industry."

The U.S. electronic component industry is the second largest in the world and a leader in the development of new product and process technologies. The industry produces a quarter of the world's total output and competes primarily with Japan, other Asian nations and the European Union. U.S. industry strengths lie in the production of advanced design-intensive electronic components, not in the commodity and labor-intensive products. Representatives of the U.S. electronic components industry support the URA. Although they sought larger tariff reductions and broader government and services agreements, they regard the URA as an opportunity to increase U.S. exports and investment.

This article appeared in World Trade Magazine, 1995
Topic: Trade & Finance
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In depicting the true costs to consumers of protectionism, Mr. Peter Sutherland, Director General of the General Agreement on Tariffs and Trade, stated, "It is high time that governments made clear to consumers just how much they pay -- in the shops and as taxpayers -- for decisions to protect domestic industries from import competition. Virtually all protection means higher prices. And someone has to pay; either the consumer or, in the case of intermediate goods, another producer. The result is a drop in real income and an inability to buy other products and services."

Mr. Sutherland continues, "Maybe consumers would feel better about paying higher prices if they could be assured it was an effective way of maintaining employment. Unfortunately, the reality is that the cost of saving a job, in terms of higher prices and taxes, is frequently far higher than the wage paid to the workers concerned. In the end, in any case, the job often disappears as the protected companies either introduce new labor-saving technology or become less competitive. A far better approach would be to use the money to pay adjustment costs, like retraining programs and the provision of infrastructure."

In addition to higher prices, protectionism also results in a reduction of available products limiting choices.

Protectionism has severe negative implications for domestic producers as well as foreign industries. By effectively preventing foreign competitors access to a domestic market, sheltered domestic producers tend to become complacent; producing costly, poor quality products inefficiently. This principle was exemplified by the industries of Eastern European nations during the reign of Communism.

This costs of protectionism can be seen in the historic performance of the U.S. auto and steel industries, too. The United States has attempted to protect its automobile and steel industries from foreign competition through the use of voluntary restraints agreements (VRAs), a type of quota. The policies are designed to temporarily shield the U.S. industries from foreign competition thereby allowing U.S. industries to gear up or recover, and become more productive and globally competitive. The U.S. auto VRA imposed on Japan did not achieved this. Instead, the VRA effectively increased, on average, the price of Japanese autos by more than $2,000 in the U.S. market in 1984. Rather than increase market share, which was a major goal of the program, U.S. producers increased their prices by an average of $750 - $1,000. It is estimated that in 1984 this policy saved only 1,100 jobs in the auto industry at a cost to the U.S. economy $6 billion.

In 1983, it was estimated that the U.S. steel VRA program cost U.S. consumers more than $1 billion, whereby U.S. steel producers gained only $500 million. The annual costs to consumers for each job saved was estimated at $113,622. Furthermore, the price of imported steel rose 4.5%, while domestically produced steel rose almost 1%. In addition, U.S. steel exports declined.

But perhaps the most dramatic demonstrations of the costs of protectionism are those of the global agriculture, textile and apparel industries. According to the GATT report released in August 1993, the total transfers, in terms of higher prices and taxes, from consumers to producers during 1992 to pay for government support for agriculture are as follows (all totals in U.S.$):

  • Canada: $9.1b, $330
  • Japan: $74.0b, $600
  • United States: $91.1b, $360
  • EC: $155.9b, $450

Japan maintained a ban on rice imports since 1967, until its domestic shortage finally opened the door for emergency supplies in 1993. Consequently, the cost of rice, per hundred weight, can be $175 to $250 in Tokyo, compared with $45 to $50 in the United States. Partly as a consequence, Japan's per capita consumption of rice has fallen from 260 pounds a year in 1962 to 154 pounds a year in 1990.

In the Fall of 1993, Japan agreed to open its market to U.S. apples for the 1994 growing season. This is the first tangible action over the decade-long apple dispute. According to U.S. Trade Representative Mickey Kantor, the Japanese stated in a letter to the U.S. Department of Commerce that it would move expeditiously to take the necessary action to allow entry of U.S. Golden Delicious and Red Delicious apples from Washington and Oregon.

The U.S. Department of Commerce estimated in 1988 that sugar subsidies added an average of $3 billion a year to American consumers' grocery bills. In 1990, the average U.S. wholesale price for sugar was 23 cents per pound compared with the average world price of under 12 cents.

Canada, like the EC, Norway, Mexico and Finland, operates a system of supply management with respect to eggs, poultry and dairy products. In 1990, one study demonstrated that consumers in Toronto, Canada, paid substantially more for these goods than consumers in Buffalo, New York. In fact, Toronto consumers paid 42% more for a dozen eggs, 128% more for roughly the same volume of milk (.5 gallons/2 litres), 97% more for one kilogram of chicken, and 22% more for 500 grams of cheese.

The textile and apparel industry is another highly protected and supported industry regulated on a global basis by the multi-Fiber Arrangement (MFA). The MFA establishes quotas on behalf of industrialized countries directed against textile and apparel exports from developing countries. The program was originally introduced to provide for an orderly adjustment to the change of international textile and apparel comparative advantage in favor of developing countries.

The U.S. has MFA quota agreements with 40 countries. The Institute for International Economics estimated that in 1986 the MFA raised textile and apparel costs by an average of 28% and 53% respectively, with annual consumer losses of $2.8 billion and $17.6 billion. The net welfare cost to the nation, after subtracting the benefits to producers and workers, exceeded $8 billion. The consumer costs to maintain each U.S. textile and apparel manufacturing job was $135,000 and $82,000, respectively. The result: the lowest 20% of U.S. households, ranked according to income, experienced a decline of 3.6% in their standard of living.

It was estimated that terminating the Multi-Fiber Agreement would increase U.S. national welfare in 1984 by $13 billion.

According to GATT report released in 1993, studies conducted during the 1980s indicate protection costs to the consumer on clothing have been estimated at between $8.5 billion to $18 billion in the United States, £500 million a year in the United Kingdom and C$780 million a year in Canada. Expressing these estimates in current 1993 dollars, the 4-person household spent an additional $200-$420 per year in the United States, $130 per year in the U.K. and $220 per year in Canada.

This article appeared in a publication of the International Society of Certified Public Accountants, November 1994
Topic: Trade & Finance
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The Mexican automobile industry has been essentially state-run since 1925. A series of auto decrees have been issued periodically in Mexico. These have effectively erected high tariffs on foreign imports of finished automobiles -- requiring foreign auto manufacturers to relocate in Mexico if they wished to sell in Mexico. Under NAFTA, the auto decrees and other trade barriers will be eliminated, positively affecting the U.S. auto industry.

With the goal of increasing the use of Mexican-made components in Mexican domestically produced models, the government issued a second decree in 1962. It increased the domestic content requirement to 60% from its previous level of 20% and mandated that power train production (a typically capital-intensive process) be undertaken only in Mexico for models intended for domestic sale. Additionally, the government prohibited all imports of finished vehicles and limited foreign ownership of parts producers to minority shares. While production more than tripled to 188,000 units annually by 1970, this was still significantly below the capacity of a solitary modern plant. While the decree did encourage the formation of a supplier base, quality was still low, and producers continued to import parts despite high tariffs. Consequently, both costs and prices were high, significantly contributing to a persistent Mexican trade deficit in the automotive sector.

In 1982, Mexican demand plummeted and capital flight ensued as a consequence of the debt crisis. Motivated by this crisis atmosphere, another auto decree was passed that further raised tariffs in order to limit imports and inhibit outflows of pesos. Led by Ford, U.S. auto makers constructed several new export-oriented engine and assembly plants that were competitive on both cost and quality with their U.S. and Canadian counterparts. Investment in maquiladora parts production also rose. By the late 1980s, the worst of the debt crisis was over and Mexican sales began to increase. The roller coaster ride of Mexican production in the 1980s saw production fall from 600,000 units in 1982 to a low of 248,000 units in 1987, but recovering to approximately 547,000 units in 1990.

The most recent auto decree was one of the few protectionist and pro-regulation pieces of legislation passed by the Salinas administration. It continued the tradition of high tariffs, limited foreign ownership, and enforcement of local content requirements. The provisions:

  1. Permitted foreign firms 100% ownership of export-oriented plants, but only 40% ownership of suppliers serving the Mexican market;
  2. Raised local content rules to 36% of the components’ value for models sold in Mexico;
  3. Required foreign assemblers to maintain a positive Mexican balance of trade;
  4. Allowed finished cars and light trucks to be imported into Mexico (beginning in 1991) for the first time in nearly thirty years, but limited market share to 20%, and required exports to positively offset imports by a ratio of 1.75 to 1 in 1994;
  5. Set tariffs for finished vehicles and parts and continued to bar imports of used vehicles; and
  6. Allowed Maquiladora plants to sell some of their output domestically.

By the end of 1993, Mexico imposed tariffs of 20% on cars, 10% on dump trucks, 20% on other trucks and buses, and 10 to 15% on auto parts. As a direct result of all Mexican trade barriers, the Mexican auto industry is highly inefficient and non-competitive. Nearly three-quarters of a century’s protection and regulation have produced an industry characterized by small and outdated plants, high costs, and low levels of productivity. In Mexico, only Ford’s Hermosillo plant and a new Nissan factory at Aguascalientes are considered world-class facilities by international industry standards.

Under Nafta, the Mexican tariff of 20% on autos were reduced to 10% upon the Agreement's implementation. This will be phased out in equal increments over the following nine years. The Mexican duty of 10% on trucks was cut in half immediately upon Nafta's implementation. This will be phased out in equal increments over the following four years. The Mexican Auto Decrees will be phased out by January 1, 2004. Thus, the pre-Nafta requirement that an auto manufacturer's exports be 200% as much as it imports will be eliminated as well.

Contrary to popular belief, U.S. assembly plants in Mexico have been primarily there to satisfy government requirements and to get around high tariffs, not to gain access to low-cost labor. Thus, according to the Office of Technology Assessment, "Mexico offers limited strategic options for the Big Three: while direct production costs are sometimes lower in Mexico, shipping costs back to the United States can eat up the savings and then some. Only for engines and labor-intensive maquila parts production do low labor costs consistently outweigh the additional costs of operating in Mexico." Consequently, investing in Mexican auto operations was the necessary price that GM, Chrysler, Ford, Nissan, and Volkswagen had to pay in order to gain access to the Mexican market -- which could be much better served by exporting from the United States. Historically, existing Mexican plants have only been profitable due to government protection -- which Nafta will remove.

Mexican-owned automotive parts suppliers' level of cost-efficiency and quality are well below the levels of their maquiladora counterparts. The protection and regulation that governs their competitive environment has prompted little incentive to invest in the upgrading of labor’s skills or the modernization of plants and equipment. Not only are they unable to export their products northward, but most of these domestic suppliers would not likely be profitable without protection. The maquiladoras, however, are much better equipped and managed, and are able to generate sufficient economies of scale in low value-added activities. According to the Office of Technology Assessment, even though such production utilizes very low levels of technology, these plants buy only about 25% of their parts content from Mexican suppliers due to poor quality. In anticipation of greater competition under Nafta, Mexican firms have begun forming strategic alliances with U.S. and European firms in order to gain access to new technologies and more advanced management methods.

The effective long-standing requirement that foreign firms produce in Mexico in order to sell there would be eliminated -- allowing much production to shift back to the United States. Thus, its no wonder that the U.S. automotive industry calls the elimination of these trade-balancing requirements "the single most significant accomplishment of the Nafta automotive negotiations." Under Nafta the terms of trade for automotive products will shift in favor of the United States, in at least the short and intermediate term.

Importantly, the rules of origin established under Nafta were devised to prevent non-Nafta countries from using Mexico as an export platform in order to secure preferential access to the United States. In order for a product to receive Nafta status or duty-free treatment, a minimum content requirements must be satisfied. Starting from a base of 50% content for most North American products, the rules of origin rise to 62.5% for autos, light trucks, engines, and transmissions, and to 60% for other vehicles and parts.

While the United States has erected some measures protecting its auto sector, they are not nearly as extensive or extreme as Mexican ones. Consequently, liberalization of its measures will be much easier than Mexico's. Prior to Nafta, the United States had a prevailing tariff of 2.5% on cars, 25% on trucks, and 3.1% on buses. Tariffs on auto parts can go as high as 6%, but usually average in the range of 3.1 to 3.7%. Buses and most auto parts imported from Mexico, however, enter the United States duty-free under the U.S. Generalized System of Preferences. Products from maquiladoras entering the United States under the tariff classification 9802.00.80 only have duties levied on the non-U.S. value-added content. The United States, however, does have a significant non-tariff barrier in the form of corporate average fuel economy, or CAFE, standards imposed by the Energy Policy and Conservation Act of 1975.

Under Nafta, the U.S. nominal tariff of 2.5% on automobiles was immediately lifted upon the Agreement's implementation. The U.S. tariff of 25% on light-duty trucks was immediately reduced to 10% with a phase-out schedule of 5 years. U.S. tariffs on many automotive parts were eliminated immediately, with others being reduced to zero over a period of five to ten years. Nafta's elimination of all auto trade barriers within ten years will effectively integrate the Mexican auto sector into that of the United States and Canada, creating a truly continental auto industry.

The U.S. auto industry is currently undergoing a massive restructuring for the purpose of becoming more efficient, modern and productive. This is being pursued in order to combat higher levels of global competition, especially from Japanese companies. This restructuring process is unrelated to Nafta and will continue with or without Nafta.

According to the Office of Technology Assessment, under Nafta, in the short run some U.S. auto companies manufacturing in Mexico will likely move their plants to the United States -- since they will no longer be required to produce in Mexico in order to sell in Mexico. General Motors and Chrysler, for example, have already announced plans to close two Mexican plants in Mexico City.

According to the U.S. Trade Representative's office, the Big Three auto makers predict U.S. exports of automobiles to Mexico to increase from 1,000 cars annually to 60,000 in the first year of Nafta. And the Office of Technology Assessment projects that Mexican auto consumption could approach that of Canada's in 10 years. Although sales of U.S.-built autos are anticipated to continue long into the future, however, the number of Americans employed in the auto industry will grow to decline -- as it has done for the past fifteen years for reasons extraneous to Nafta. Thus, Nafta will only slow this process. Many U.S. parts suppliers may relocate more of their low value-added production to the Mexican maquiladoras, which will help them become more competitive.

In the intermediate to long-term, Mexico's auto industry will become more efficient as investment increases and unproductive plants are closed. While imports of automotive products from Mexican-owned firms are of no threat to the U.S., increased productivity could serve as a further incentive for U.S. manufacturers of auto parts to relegate low value-added production to the maquiladoras. By producing fewer automobile models and importing a larger number of models, which Nafta would allow them to do, Mexican producers may finally generate cost-efficient economies of scale.

Finally, a tremendous potential exists for a rapidly growing Mexican consumer market, as continued economic reforms create a middle class with significant purchasing power. As this market develops, U.S. auto makers will be well positioned to gain the greatest market share vis-à-vis European and Japanese competitors.

This article appeared in The Exporter, October 1994.
Topic: Trade & Finance
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Mexican Agriculture

The Mexican agriculture and food processing industries reflect the many contrasts of a developing country struggling to make the transition to the developed world. Surprisingly, many agricultural establishments in Mexico are efficiently run, and have achieved low levels of costs and high levels of productivity. These farms and agribusiness's in the modern sector have increased in scale and scope over time. The modern sector has drawn to a considerable extent on U.S. agritechnologies and methods, and purchases a considerable amount of U.S. farm equipment. Many of these establishments are foreign-owned and are concentrated in the northwest region of Mexico near the border. However, a large sector of Mexican agriculture is performed on a small scale by farmers producing corn and beans for local consumption, often at the subsistence level. This traditional sector is a heritage of what is known as the ejido system.

Following the Mexican Revolution, the large land holdings of the powerful aristocratic families were redistributed to the peasantry in plots known as ejidos, which average about 10 to 20 acres in size. The majority of these ejidos are concentrated in the central part of the country. Although the modern sector accounts for only a fraction of Mexico's 4.5 million farms, it produces approximately three-quarters of total Mexican agricultural output.

Only recently has the Mexican government changed its policies on agriculture. Since the Mexican Revolution, the government has heavily regulated land ownership and usage in order to prevent the reconcentration of land into large tracts, as was the case in pre-Revolution times. Consequently, Ejidos were prohibited from being sold, rented or used as collateral. Single individuals were also forbidden from owning more than 250 acres of land, and both corporations and foreigners were forbidden from owning any farmland at all. While the goal of keeping land ownership equitably distributed among the peasantry was noble in spirit, it proved to be a major hindrance to Mexico's modern industrialization.

As farming methods and technologies became more advanced in the developed world, the average Mexican farmer could not purchase them often because federal laws forbid collateralizing what was usually the farmer's only asset, his land, in order to borrow and finance investment in his farm. Additionally, the laws restricting concentration of land into large tracts prevented farmers from achieving the necessary scale economies in order to produce efficiently. Government subsidies, import licenses, tariffs, and price supports intended to aid these small farmers only exacerbated the inefficiencies in the agricultural sector while depleting public funds. The net effect of these government policies was to keep a disproportionately large number of the labor force in the agricultural sector at the expense of industry's employment needs. Today, about 26% of Mexico's labor force remains in agriculture even though agricultural output has fallen from 14% of Mexican GDP to 9% today. Such figures illustrate the low productivity of Mexican agriculture.

In an effort to eliminate these barriers, in 1992 the Salinas administration enacted a series of reforms aimed at raising productivity and reducing the imbalance in the Mexican labor market. These reforms granted farmers full title to their land, allowing them to sell or borrow against it as desired. Individuals, however, are still forbidden to own more than 250 acres (100 hectares), but corporation and foreign firms may own up to 6,200 acres (2,500 hectares). These reforms, coupled with a steady reduction in subsidies, has begun to displace farmers from marginal land which is insufficiently cultivable. Consequently, this will likely expand the more productive modern farming sector as more prosperous farmers assemble larger plots of higher quality ejido acreage. Displaced farmers will likely either be employed in the modern sector or in urban industry, where their labor will be more productively deployed. However, abolition of the ejido system is likely to result in a rise in illegal immigration into the United States. Expansion of the manufacturing and service sectors that would come from implementation of Nafta is key to Mexico absorbing the displaced agricultural workers and slowing migration to the United States.

Liberalization of foreign investment and ownership has attracted many MNC's to Mexico to set up large-scale farms or food-processing operations. Currently, Heinz, Green Giant, Kellogg's, Gerber, Del Monte, and Ralston Purina have significant investments in Mexico. These 'agro-maquilas' import significant amounts of U.S.-made equipment and materials to equip their operations. In 1990, there were approximately 50 such firms, purchasing $100 million of U.S. goods annually.

Although the reforms enacted by the Salinas administration began to correct many of the inefficiencies and imbalances in the agricultural sector, Mexico is still a small and inefficient producer of such goods. Today, at least two million peasant ejido farmers continue to grow corn and beans for their own consumption; two foods which Mexico cannot export competitively. More than two-thirds of such farmers are unable to produce enough to feed their own families. Even today, Mexico isn't able to feed itself; food imports from the U.S. tripled during the 1980s. The success of Mexico's continued economic development mandates that it construct a more efficient agricultural system. Not only are levels of worker productivity dependent on an adequate diet, but the disproportionate amount of labor working in small-scale farming operations hinders productivity growth in other more advanced sectors.

The U.S. Agricultural Sector

The United States has historically had one of the largest and most diverse agricultural sectors in the world. Large tracts of rich land, economies of scale, the world's leading agritech industry, an agricultural extension network to diffuse modern methods throughout the farming community, and quality products are all elements of one of the world's most competitive agricultural industries. Traditionally, it has generated a trade surplus with all of its trading partners, and Mexico is no different. After Japan and the former Soviet Union, Mexico buys the most agricultural products from the U.S. In 1991, the United States achieved a $15.9 billion trade surplus in agricultural products; $53 million with Mexico.

The United States and Mexico trade a great deal of farm products. Mexico is the United State's number three trading partner in agricultural goods, and the United States is Mexico's number one partner. While 75% of Mexico's agricultural exports go to the U.S., these exports represent only 12% of total U.S. agricultural imports.

Comparatively speaking, the United States holds a big lead over Mexico in the size and scope of its farming. The United States has 464 million acres of cropland versus 57 million acres in Mexico (about five times more than Mexico). Only 12% of Mexico's land is arable, whereas 20% of the U.S.'s land is. Additionally, the United States is a world leader in farming methods, fertilizer quality, equipment utilization, and genetic engineering of agricultural products. Only about 40% of Mexican land is worked using mechanized equipment, and only 30% is irrigated.

The structure of U.S.-Mexican trade in agricultural products belies each nation's comparative advantage. The largest and most regular U.S. exports to Mexico are grains, oilseeds, sugar, citrus fruits, peanuts, and meat, whereas Mexico exports fresh fruit and vegetables, coffee, and shellfish to the United States. Mexico complements some sectors of the U.S. agricultural sector and directly competes with others.

The more modern and mechanized northwest region of Mexico can produce tomatoes and other horticultural products (fruits and vegetables) more cheaply than U.S. growers, and has been exporting them during the winter months to the U.S. for decades. Because of the nature of its produce and its peak season being in winter, Mexico competes directly with Florida. Generally speaking, during winter, Mexico supplies the U.S. west coast, Florida supplies the east coast, and the two compete for the midwest market on the basis of delivered costs. However, Mexican crops come in before those in California, and fresh California produce fills the market just as the supply of Mexican produce is being depleted. Thus, the output and growing cycle of Mexican agriculture both complements and competes with U.S. agriculture depending on the specific good, the time of year, and location in the U.S. market.

Where the two countries do compete directly (mostly fruits and vegetables) both governments have used an extensive range of tariffs, standards, subsidies, and import licenses (Mexico only) to manage trade and protect powerful domestic agricultural interests. These government intrusions into trade have distorted the structure of U.S.-Mexican trade for decades, and will be eliminated under Nafta.

Agricultural Provisions and Rules of Origin

Agriculture is the only area of Nafta not covered by a comprehensive trilateral agreement. Instead, two separate bilateral agreements were negotiated between the U.S. and Mexico, and between Canada and Mexico. For U.S.-Canadian agricultural trade, the U.S.-Canada FTA remains in force, although the ongoing dispute over Canadian grain subsidies and the U.S.'s agricultural deficit with Canada will have to resolved separately. The only agricultural topics covered by Nafta are rules of origin, import-surge safeguards, and sanitary and phytosanitary standards. Trilateral obligations are established for all three areas.

Nafta establishes a timetable for tariff reduction and elimination similar to all other industries. Tariffs will be eliminated immediately on $3.1 billion, or 57%, of the value of bilateral U.S.-Mexico farm trade. After five years, this rises to 63%, then to 94% in ten years, and the remaining 6% will be eliminated after 15 years.

Products for which tariffs will be immediately lifted on U.S. exports to Mexico include cattle, beef, hides, most fresh fruits and vegetables, hops, nuts, soybeans, and nursery products for the U.S.; collectively worth $1.5 billion in U.S. exports. This represents 57% of U.S. agricultural exports to Mexico. For the second and third stages, tariffs will be eliminated on U.S. exports of selected meats and horticultural products, soybeans, wheat, rice, canned corn, peanuts, and mushrooms. This is worth $251 million in U.S. exports.

For Mexico, exports of most livestock, poultry, and eggs, as well as a broad range of out-of-season fruits and vegetables will be able to enter the U.S. duty-free on implementation of Nafta. This is valued at approximately $1.6 billion. Nafta eliminates Mexican import licenses on agricultural products, which affect an estimated 25% of U.S. exports in this category. Additionally, Nafta establishes safeguards to protect against import surges during the first ten years of the agreement.

Finally, for the most import-sensitive products, many non-tariff barriers will be converted to tariff-rate quotas (TRQs) and phased out in a ten to fifteen year framework. The most important products for which the U.S. will establish TRQs are sugar, orange juice, and peanuts. Mexico, for its part, will maintain TRQs primarily on corn and dry beans.

Agriculture is a very politically sensitive sector industry worldwide. Most nations have a variety of programs and policies affecting this sector. Mexico and the United States are no different. Consequently, Nafta contains a number of miscellaneous provisions designed to tailor the overall goals of the treaty to each nation's particular needs.

First, each Nafta partner retains the right to continue its programs of domestic farm supports under the GATT, but, according to the Nafta document, should "endeavor to work toward" measures for domestic support that do not distort trade or production. Second, both the U.S. and Mexico are committed that "it is inappropriate for a Party to provide an export subsidy for an agricultural good exported to the territory of another Party where there are no subsidized imports of that good into the territory of the other Party." Third, each nation retains the right to "adopt, maintain, or apply any sanitary or phytosanitary measure necessary" in order to protect its populace and environment. However, Nafta expressly forbids Parties to apply such measures in a manner that would "arbitrarily or unjustifiably discriminate" between its goods and those of a partner. To ensure that health or safety measures are not misused as barriers to trade, Nafta creates a trilateral Committee on Agricultural Trade to monitor and promote cooperation in the liberalization of agricultural trade.

Nafta's provisions on land transportation, investment, and intellectual property extend to agriculture as well. The agreement allows U.S. truckers full access to the Mexican market, which will allow U.S. agricultural goods to be delivered more quickly than the less-efficient Mexican trucking industry could. This is particularly important for highly perishable produce. With regard to investment, Nafta implements a number of measures allowing greater access and freedom for U.S. agricultural establishments to invest in Mexico.

Under the treaty, U.S. firms would be able to establish new agricultural operations, acquire existing businesses, and receive the same treatment as domestic firms. U.S. investors are also protected from expropriation, and may repatriate all their profits and capital in any currency of choice. In addition, U.S. investors are exempted from Mexican requirements to "buy Mexican," and may utilize any equipment or inputs they choose regardless of national origin. Finally, the provisions covering intellectual property rights establish rules of protection for most research. inventions, and innovations, thereby encouraging the diffusion of modern farming techniques throughout the Mexican agricultural sector.

The rules of origin for agricultural products are relatively simple compared with the complex assemblies of manufactured goods. For the most part, bulk commodities must be of 100% North American origin, and processed goods must conform to the same value-added rules of origin as manufactured goods. However, a number of special provisions regarding rules of origin are established in Nafta. For dairy products, non-North American milk or milk products may be used to make other dairy products, such as cheese, ice cream, yogurt, etc. All processed citrus products, such as reconstituted orange juice, must use 100% North American fresh citrus fruits. For coffee, cocoa, and sugar, all products must be made from 100% North American origin. The same applies to vegetable oils, stating that the crude form of vegetable oil must be of North American origin before refinement to commercial form. Finally, for trade in peanut products with Mexico, all such products must use Mexican peanuts to qualify for export under preferential treatment to Mexico.

The net goal of these special provisions is to ensure that simply reconstituting, refining, dehydrating, adding to, or otherwise processing an imported agricultural product will not qualify it for Nafta preferential treatment. In other words, goods made from processed agricultural products, such as frozen orange juice, ground coffee, chocolate, or hydrogenated vegetable oil, must use North American-originating produce. Just as in manufactured goods, simply processing an imported product will not qualify it for duty-free treatment.

Nafta's Impact on the Mexican Agricultural Sector

It is widely forecast that Nafta will have a greater effect on Mexico's agricultural sector than it will on the United States. This is not only due to the change in the structure of U.S.-Mexican trade caused by Nafta, but also to the extensive restructuring of the internal Mexican economy that both Nafta and Mexican government policy will cause.

First, Mexico's ability to produce agricultural products, for both domestic consumption as well as export, is strongly constrained by its limited resources. The amounts of arable land able to grow high yields of produce occupies less than 10% of Mexico's geographic area. The quantity of water available for irrigation is also limited because the continuing urbanization and industrialization of the Mexican economy is increasing the competition for water nationwide. Access to modern methods and equipment is also limited, due to an inadequate set of domestic institutions producing or innovating such things. A rapidly growing population also mandates that an increased proportion of domestic production will also go for domestic consumption rather than export. These collective constraints plus the United State's overwhelming advantage in meat and grain production will ensure that Mexico continues buying U.S. agricultural exports indefinitely.

Second, the restructuring of Mexico's economy means that the direction of the agriculture sector will have important implications to the national economy as a whole. In response to competitive pressures from the United States, Mexico will have little choice but to displace the many small-scale ejido farmers in favor of more modern, large-scale production. Many of these displaced farmers will likely work in the growing modern sector, but many will move to more urbanized areas to work in industry or the maquiladoras, and some will migrate to the United States. (Note that Mexico's policies with regard to the ejidos began to change in the 1980s, with restrictions on land ownership lifted in January 1992). This migration plus domestic population growth will put downward pressure on wages in both the agricultural and maquiladora sectors, and increase Mexico's dependency on imported U.S. agricultural produce. Mexican demand for food is expected to grow at a rate of 5 to 6% a year, increasing the market for U.S. exports. The net effect of Nafta predicts that small-scale producers of staples like corn and beans will lose the most, but that Mexican consumers as a whole will gain from lower food prices.

This does not mean that Mexico will be unable to compete if it modernizes and specializes. Should the Mexican government enact a set of policies that 1) encourages irrigation of all arable land, 2) shifts production to export crops of horticultural goods in place of the traditional staples of corn and beans, and 3) successfully attracts further U.S. investment for transfers in methods and technologies, Mexico could significantly improve its agricultural output and exports. If this occurred, its possible that another 2 million acres of Mexican land could be devoted to export-oriented horticultural production, increasing agricultural output by 400%. Mexico's best bet is to expand and modernize its export sector in agriculture while simultaneously maintaining growth in industry for the many displaced farmers. Mexico would then be better able to finance imports of U.S. food with exchange earned from exports of horticultural products.

The Mexican horticultural exports to the U.S. most expected to grow under Nafta include citrus juice, vegetables, grapes, melons, strawberries, and some poultry and fish. According to the U.S. International Trade Commission, however, they are predicted to grow by only minor-to-modest amounts.

Nafta's Impact on the U.S. Agricultural Sector

Although U.S. tariffs on Mexican produce will be lowered faster than Mexican tariffs on U.S. produce, the United States will continue to enjoy its lead in resources and methods over Mexico. Even under the best-case scenario detailed earlier, the 2 million high-yield acres that Mexico could possible gain is insignificant when compared to the 9 million acres under cultivation in California alone.

The only sector of U.S. agriculture expected to face any additional competition as a result of Nafta is Florida's citrus growers. Furthermore, the bulk of the harvesting jobs lost in Florida are generally held by migrant workers from Mexico and Jamaica. And citrus products are given one of the longest periods of protective transition under the Agreement. The forecast for Florida predicts that its growers will specialize, and compete on lower transportation and marketing costs. In general, the Florida agricultural sector exhibits little of the dynamism or innovation of California's produce growers. Yet, California growers, who produce more fruits and vegetables than any other state, are generally of the opinion that their state will be a net winner in agricultural trade because of several factors. These factors include the complementary growing seasons of Mexico and California, a better skilled work force able to keep advanced farm machinery operating during the critical harvest periods, better management, superior marketing and distribution, and importantly, the network formed by research organizations, universities, and the agricultural extension system. These are factors which Mexico cannot compete with in the short term, and can only begin to implement in the long term.

U.S. exports to Mexico most expected to increase in the short term include grains and oilseeds, deciduous fruit, meat, dairy products, alcoholic beverages, certain wood products, some processed fish, and certain cut flowers. In the longer term, the International Trade Commission has predicted modest-to-substantial increases in U.S. exports to Mexico of grains and oilseeds, deciduous and citrus fruits, pork and swine, beef, processed fish, alcoholic beverages, dairy products, cotton, certain cut flowers, lumber and wood products, and some sugar-containing products.

However, the most important impact of Nafta may be on the integration of Mexican agriculture into that of the United States. This will likely be accomplished primarily by U.S. direct investment in Mexico. Although Mexican laws severely restrict direct investment in actual farming and cultivation, U.S. firms already have a significant presence in the Mexican food processing industry. By 1990, 14 of the 50 largest U.S.-based food and feed processing firms had 33 affiliates in Mexico. In 1991, the sales of these affiliates to the Mexican market amounted to $4.1 billion. Many of these firms have no choice but to set up operations Mexico because the highly perishable nature of produce necessitates that firms be in close geographic proximity to their market. Naturally, these firms import U.S. equipment and technology, and their profits are repatriated to the United States.

The technology level of domestic Mexican food processing firms is quite low, and the majority of such plants resemble those found in the United States before World War II. U.S.-based processors and distributors have invested in Mexico not only on the basis of low costs, but, as previously noted, to also serve Mexico's expanding consumer market. Many of these firms have links to U.S. distributors who deliver off-season U.S. produce to the Mexican market. In the past, as this U.S. investment increased, the Mexican government implemented various programs to protect and subsidize less-efficient domestic producers. Nafta eliminates these policies, allowing U.S. firms to increase their market presence. It is widely expected that Nafta will draw further U.S. investment in both direct agriculture and processing, particularly in frozen vegetables, grain and oilseed processing, citrus and poultry processing and packaging, distilled spirits, and fish processing. Nafta will accelerate the consolidation of the Mexican farming and processing sectors, and integrate them with U.S. producers, distributors, and processors on a regional basis.

The primary effect of Nafta on Mexican and U.S. agribusiness will be the further integration of the two. Mexico's need to buy U.S. food, plus due to the U.S. superiority in both size and methods, we likely will see the establishment of a series of cross-border links between marketers, distributors, producers, truckers, and processors.

This article appeared in a publication of the International Society of Certified Public Accountants, October 1994.
Topic: Trade & Finance
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The results are in. The North American Free Trade Agreement (Nafta) is working well for America. In the first half of 1994, U.S. exports to Mexico were up nearly 17% over 1993's record numbers; exports to Canada are up 10%. By comparison, on a global basis U.S. exports are projected to grow this year by 6%.

At the current rate, U.S. exports to Mexico will total almost $49 billion this year, a vast improvement over 1993. Thus, Mexico will likely replace Japan as the second largest market for U.S. goods, after Canada.

Ross Perot's "giant sucking sound" of U.S. jobs moving to Mexico hasn't materialized -- and won't. On the contrary. In this year alone, Nafta could support 100,000 new jobs in the United States. Not bad for a trade agreement.

Nafta has contributed significantly to the success that U.S. manufacturers have recently encountered in Mexico. For example, in the first five months of 1994, the U.S. automobile industry exported 12,380 passenger vehicles to Mexico, a large improvement over the 3,630 units shipped during the same period last year. In fact, Chrysler, Ford and GM are expecting to export a combined 55,000 to 60,000 cars and trucks to Mexico by the end of the year.

In the first quarter of 1994, numerous other industry exports were up considerably from the same period last year. These include:

  • Transportation equipment: Up 29.8%
  • Electrical and electronic equipment: Up 15.6%
  • Industrial machinery and computer equipment: Up 14.1%
  • Fabricated metal products: Up 31.5%
  • Rubber and plastics: Up 33.6%
  • Stone, clay and glass products: Up 34.2%
  • Printing and publishing: Up 22.9%
  • Forestry products: Up 27.9%

Manufacturing is not alone. U.S. agricultural exports to Mexico also rose tremendously. From January to June 1994, the following commodity exports showed sizable growth compared to the same period last year:

  • Corn (feed grain): Up 471%
  • Beef and veal: Up 54%
  • Pork: Up 45%
  • Poultry and poultry products: Up 28%
  • Fresh fruits: Up 78%
  • Vegetables: Up 25%

Its no surprise to see these early gains. The benefits of free trade already have been proven through a variety of pacts through out the world. In 1983, New Zealand and Australia implemented an accord liberalizing trade between them. For the three years preceding the accord, Australian exports to New Zealand grew at an average of 10% each year. After implementation, through fiscal year 1985, exports rose 18% annually. New Zealand's exports to Australia also increased as trade barriers declined.

Between 1959 - 1969, trade within the European Community, now referred to as the European Union, rose by 347%. In contrast, trade outside the bloc rose by only 130%. In this same period, U.S. global trade rose by 124%, while Canadian global trade rose by 130%.

The value of Spain’s bilateral trade with Portugal increased over 79% the first year the two joined (1986). During the first ten years of Britain’s membership in the European Community (1973 - 1983), its exports to the other member states grew by 28% per year, while its imports increased by 24%. Trade with the rest of the world during this time period went up 19% per year.

Free trade detractors cling to the false beliefs that the United States cannot compete in an increasingly competitive global economy. In an attempt to protect the United States, they suggest isolating ourselves from the rest of the world by erecting barriers to trade. They have forgotten the disastrous lessons of the past. The Smoot-Hawley Bill, signed by President Hoover on June 17, 1930, raised tariffs on imports. Our trading partners retaliated and raised their barriers on our goods. Export markets dried up. The result was a steep decline in international trade, which significantly contributed to a U.S. unemployment rate of 25% in 1930 and a severe depression.

As one becomes familiar with the global trends of the 90s, the strengths and weaknesses of the United States, and the opportunities in North America, it becomes evident that global free trade is clearly in our best interests.

The Congressional decision to ratify Nafta did not simply concern a trade agreement among the United States, Canada and Mexico. Rather, it was a decision on the direction of America, defining our perceived strengths and weaknesses, our level of confidence and courage, and a determination on how we, as a nation, will conduct ourselves in the new post-Cold War era. The world was closely watching this vote. Ratification of Nafta signaled that the United States is ready for the challenges of the Twenty-First Century. A "no" vote, however, would have been perceived as a retreat by the United States into policies of isolationism and protectionism. European and East Asian nations would have been more likely to turn inward. Most importantly, well-paying American jobs would have been lost.

A primary economic goal of the United States is to maintain a high and rising standard of living. In order to achieve this, the United States must continuously increase productivity, create high-wage jobs, successfully compete in the dynamic global economy, invest in people and in the industries of the future -- and not in the industries of the past. It's no surprise that high-technology industries dominate the list of fastest growing American industries. And it is essential that these producers have access to growing international markets. Nafta achieves this.

Industries of yesterday will perish whether or not they are insulated from international competition. Clinging to the past and its outdated methods will unequivocally lead to our demise. In order to succeed in the twenty-first century we must welcome -- not resist -- change. Nafta addresses this reality. Nafta is not part of the problem... it's part of the solution.

This article appeared in The Exporter, September 1994.
Topic: Trade & Finance
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Industrial machinery and machine tools are highly related sectors. Industrial machinery includes farm, packaging, construction, mining, oil and gas field, textile, paper, printing, and food products machinery, as well as refrigeration and heating equipment. Machine tools includes metal-working machine tools, wood-working machine tools, and machine tools for working other hard materials, including minerals, ceramics, concrete, glass, hard rubber and hard plastic.

Mexico's need to modernize its industry has directly resulted in its demand for foreign machining and industrial equipment. Improvement in Mexico's highway system, modernizing of its ports, and the expansion of its farms and their becoming more mechanized has increased demand for construction and farming machinery. Additionally, the need for more packaged and refrigerated food in Mexico has increased as its consumer market grows.

During the period 1989 to 1991, U.S. exports of industrial machinery to Mexico rose by 71%; exports of construction machinery rose by 165%; and exports of gas and oil machinery rose by more than 85%. Also during the same period, U. S. exports of machine tools rose 14% to $185 million worth.

In 1991 Mexico became one of the fastest growing markets in the world for U.S. exports of construction and mining machinery. The United States currently supplies Mexico with more than two-thirds of its imports of farm, construction, and mining machinery, and air conditioning and refrigeration equipment. In 1991 alone, Mexican consumption of metal-working machine tools was $255 million whereas domestic production was $15 million. This huge disparity not only reflects Mexico's inability to produce such capital-intensive goods for itself, but its ardent need to import them in order to industrialize.

Selling Machine Tools in Mexico

To begin introducing machine tools in Mexico, new-to-market U.S. companies must have a service-oriented, long term commitment to the market. The traditional way to sell machine tools is through representatives and distributors. Large end-users sometimes buy directly from manufacturers.

New- to-market companies may wish to participate in trade shows, prepare brochures and promotional materials in Spanish, contact companies directly with sales agents, if possible in Spanish, join local associations and chambers of commerce, put on technical seminars to inform manufacturers about new technologies and innovations, set up a representative office in Mexico and/or establish a joint venture with a reputable Mexican firm. Financing, price, quality and delivery times are extremely important selling factors.

The demand for imports comes from manufacturers in the automotive, steel, railroad, hand tool, electric consumer goods and other industries. These industries are heavily dependent on imports of metal cutting and metal forming machine tools. The end-user market includes some 140,000 manufacturing industries and metal working shops. The majority of end-users are small metal working shops that use 15 to 20 year-old machine tools and machinery. Approximately 200 companies considered medium and large end-users have modern machine tools, often custom made outside of Mexico.

A great majority of end-users are located in Aguascalientes, Chihuahua, Celaya, Guaymas, Guadalajara, Hermosillo, Lazaro Cardenas, Leon, Mexico City, Monclova, Monterrey, Puebla, Queretaro, Saltillo, San Luis Potosi, Santiago Tianquistenco, Tampico, Toluca, and Veracruz.

Mexican importers often prefer 60 to 90 day credit terms. However, large companies that order custom-made machine tools usually pay 20% of the total value when placing the order, 30% when the machine is completed and 50% when the machine is delivered and tested. High value sales usually are made through letters of credit. Note that the supplier's reliability is a priority over price.

Mexican Tariffs and Non-Tariff Barriers

Prior to Nafta's implementation, Mexico's effective trade-weighted duties on U.S. industrial products ranged from 10.1% for textile machinery, to 15% for construction machinery, to 16.7% for refrigeration and heating equipment. According to the Petroleum Equipment Suppliers Association, U.S. companies that did not have a manufacturing facility in Mexico faced stiff obstacles in doing business there. Thus, prior to Nafta, most Mexican imported oil field machinery was assessed a duty of 20%. Mexican tariffs on U.S. machine tools averaged 13%.

For the majority of U.S. machine tool exports to Mexico, the effective rate of duty was 13%. However, for products such as the metal-working machines, most important for manufacturing operations, the effective rate of duty was 17%. The majority of machine tools subject to the higher tariffs were concentrated in a few categories of metal-cutting machine tools (horizontal lathes and certain drill presses, and numerically-controlled multistation transfer machines) and in a wide range of metal-forming machine tools (machines specifically designed for punching, stamping, bending, shearing, and pressing). These machines are extremely important for the further development of Mexican manufacturing. To illustrate, these metal-working tools accounted for 83% of U.S. exports of machine tools to Mexico in 1991. Mexico's need for such tools and equipment is essential for its continued industrialization.

Rules of Origin for Industrial Machinery and Machine Tools

North American materials used to build machinery constructed in North American will undoubtedly qualify for preferential Nafta treatment. Industrial machinery may qualify if 1) the value content is satisfied, or 2) the non-North American materials are not classified in a tariff provision that specifically provides for parts of machinery.

In general, parts of industrial equipment would qualify under the rules of origin if they are sufficiently processed in North America -- requiring a change in the tariff classification from one heading to another. Note that other requirements and exceptions apply to various parts and subassemblies. Compared with the rules or origin established in the United States-Canada Free Trade Agreement, Nafta rules applicable to industrial machinery are similar, but more stringent with regard to value content.

For machine tools, the rules of origin are generally more stringent than the rules for other industries. Nafta preferential treatment is limited to those that contain originating parts. For example, machine tools which incorporate non-North American electric motors, pumps, electrical control panels, lasers, and major structural elements from which machine tools are built will be denied Nafta treatment. Additionally, a subassembly for a machine tool containing non-North American parts will not be considered a North American product and therefore denied preferential access to the United States, Mexico or Canada. It should be noted, however, that exceptions to the rules exist which allow goods to qualify for preferential treatment even though they do not meet Nafta's origin requirements.

Nafta's Impact on the U.S. and Mexican Industrial Machinery and Machine Tool Sectors

Under Nafta, almost all U.S. duties on Mexican imports of industrial machinery were eliminated immediately on January 1, 1994. Due to the fact that U.S. trade barriers on these goods were minimal, their removal under Nafta is expected to have little impact on U.S. imports.

Upon implementation, Nafta eliminated duties on 54% of Mexican tariff classifications on U.S. industrial machinery exports. This included eliminating duties on approximately 80% of U.S. textile, paper making, printing, and farm machinery, and 85% of food products machinery. Additionally, approximately 17 to 33% of U.S. exports of mining, oil and gas field machinery, and refrigeration and heating equipment became duty-free immediately. Mexican duties on remaining goods will be eliminating over a 10 year period.

U.S. exports of construction machinery, farm and food product's machinery, and refrigeration equipment are anticipated to accelerate under Nafta. According the U.S. International Trade Commission, U.S. exports of industrial machinery to Mexico are expected to increase by 6% in the short term and 10% in the long term.

U.S. exports of oil and gas machinery and other goods are expected to increase through Nafta-secured access to contracts awarded by Pemex, Mexico's state-owned oil company. Based on a U.S. industry source, an estimated $1 billion to $2 billion of potential contracts exists.

For machine tools, Nafta's implementation will immediately allow 76% of Mexican imports to enter duty-free. Tariffs on the remaining 24%, which is currently assessed duties up to 20%, will be phased out over a five-year period. This category is comprised mostly of the metal-cutting and metal-forming machines mentioned earlier. For the U.S. and Canada, all qualifying imports from Mexico were immediately eligible on January 1, 1994, to enter duty-free.

The U.S. International Trade Commission has forecasted that under Nafta, U.S. exports to Mexico of machine tools will rise 9% in the short term and 11% in the longer term. These estimates are considered very conservative, and likely to be higher. As a result of increased exports, U.S. employment in these sectors will rise.

This article appeared in The Exporter, September 1994.
Topic: Trade & Finance
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Perfect Fit Glove Co., a Buffalo, NY-based manufacturer of safety gloves and apparel, currently exports their products globally. According to Frank Stucke and Joe Hoerner, owners of the company, Mexico and Canada look especially good these days. Stated by Mr. Stucke, "Under Nafta, Mexico has begun to better enforce its standard and regulations resulting in a greater demand for U.S.-made safety products. As a result, we intend to boost our exports to Mexico over the next six months."

Company exports to Canada have also increased and will continue to do so. According to Joe Hoerner, "We've increased exports to Canada for three reasons. Under the U.S.-Canada Free Trade Agreement and now Nafta, it's easier to export there. Secondly, now that Canada has emerged from its recession, the demand for our products has increased. And thirdly, Canadian distributors of our products have become more familiar with our higher technology, lower cost production processes and more advanced fibers. For example, they like our new safety products made from E.I. DuPont's latest line of kevlar fibers."

Frank and Joe are not alone, U.S. companies across the country are finding Canadian and Mexican markets very profitable.

Over the past several years, exports have been responsible for substantial U.S. economic growth. From 1989 to 1991, for example, some 70% of U.S. economic growth was attributable to exports. Although the slower global economy has affected export growth, this will change as the world economy picks up speed.

In 1993, the United States exported $41.6 billion of merchandise to Mexico resulting in a $1.7 billion merchandise trade surplus -- the third consecutive surplus. From 1986 to 1992, U.S. exports to Mexico shot up by 225%; 132% faster than U.S. exports to the world. This has made Mexico a bright feature on the U.S. landscape. Exports to Canada, registered at $100.2 billion in 1993, are strong and will continue to increase in Canada's post-recessionary environment. Thus, Canada is the United States' biggest export market, followed by Japan and Mexico.

Although Mexican per capita income is low, each Mexican consumes more than you would think. In 1992, workers in manufacturing industries in the European Community (EC) received 748% more in hourly compensation than manufacturing workers in Mexico; Japanese workers received 588% more. Yet, each Mexican bought more goods from the United States than each EC or Japanese citizen. In 1992, the average Mexican spent $440 or 44% more than the average European ($305) and almost 15% more than the average Japanese ($384) on U.S. goods. Even if you eliminate the roughly 20% of U.S. exports to Mexico that are eventually sold back to the United States, each Mexican still buys more than each EC citizen. Since Mexico sharply reduced its tariffs in 1987, U.S. exports for consumption in Mexico have grown by more than 224%. Thus, U.S. exports of consumer goods have been the fastest growing sector. Per capita Mexican imports of U.S. goods is tremendous, and is not negatively affected by lower compensation.

Mexicans seem to prefer U.S. products to European or Japanese products. And this is good news in light of the fact U.S. exports to the other two emerging trade blocs could be at risk. In an effort to achieve a higher level of productivity and in turn, economic security, the world has emerged into three primary trading blocs composed of Western Europe, East Asia and North America. Within each bloc, free trade has become more entrenched. However, trade among blocs is a different story.

The European Union (EU), formerly referred to as the EC, has achieved the elimination of physical, fiscal and technical barriers to trade among its list of growing members. And in years to come, Eastern European countries will undoubtedly become full members. East Asian nations have moved markedly toward increased economic integration. For example, both the Asian-Pacific Economic Cooperation Forum and the Pacific Economic Cooperation Council have emerged to facilitate greater regional integration. Others, such as the Association of Southeast Asian Nations, have advanced without U.S. membership.

These fledgling trade blocs are continuing to liberalize trade among members. However, as intra-trade bloc barriers are eliminated, non-members are concerned that their exports could be curtailed. Fear that competing trade blocs will become inwardly focused and protectionist will continue to make U.S. exporters nervous. An even if existing barriers remain the same to non-members, the effects of trade diversion may have a similar impact. Trade diversion occurs when members of a trade group buy more goods from each other, due to the elimination of internal trade barriers, displacing non-member goods. For example, due to preferential access, the British are likely to buy more German and French goods at the expense of the United States. To illustrate, in 1985, 53% of EC trade was with member countries. This percentage has risen to 59.6 in 1991 and it will likely continue. In 1988, 22% of East Asian trade (10 countries) was with one another. By 1991, this had risen to 35 Percent. These concerns have promoted a race among nations to achieve the largest and most powerful trade area.

The North American Free Trade Agreement (Nafta) effectively reserves Mexican and Canadian market share for U.S. companies -- giving our companies an edge over European or East Asian competitors. In an effort to better fortify our economic position, the United States established the United States-Canada Free Trade Agreement implemented on January 1, 1989. Nafta, implemented on January 1, 1994, builds on this. The Enterprise for the Americas Initiative, announced by former President George Bush in June, 1990, calls for the creation of a Western Hemisphere free trade area -- further supporting U.S. business interests in the region.

Nafta provides for the progressive elimination of all tariffs on North American goods. Approximately 50% of all U.S. exports to Mexico became completely duty-free on January 1, 1994. Approximately 66% of U.S. exports to Mexico will become duty-free within 5 years -- making U.S. products more competitive. Products included in this category include: aerospace equipment; semiconductors; computers and parts; telecommunications and electronic equipment; medical devices; rail locomotives; many auto parts; machine tools; and paper products.

Prior to Nafta, about 70% of Mexican and Canadian imports were purchased from the United States. As Mexico and Canada eliminate their tariffs and non-tariff barriers under the Agreement, U.S. exports to each country will further increase. These benefits can also be experienced in the short-term -- if you target those sectors experiencing greatest growth -- and more so if their trade barriers are on the quickest elimination schedules. To follow is a list of top Mexican and Canadian markets where U.S. companies can benefit from in the short-term.

Top Mexican Growth Prospects

Automotive Parts and Service Equipment

The original equipment market and aftermarket is one of Mexico's strongest growth sectors. A developing third market, which may be classified in terms of reconstruction operations, offers considerable potential, particularly for high cost components such as engines, transmissions, steering systems, etc. as well as for heavy trucks. The original equipment market for autoparts cover 49 percent of the market demand. Local production for aftermarket parts meets approximately 71 percent of demand. Three additional markets with growing potential are auto accessories, auto emission control equipment, and the auto maintenance equipment and tools market.

Electrical Power Systems

The demand for electric power is expected to continue growing at a higher rate than supply. Several dual oil/coal plants are scheduled for construction in the period 1994-1995. Most planned geothermal plants are under construction. The sector is expected to grow at an annual rate of 7% through 1995. The vast majority of new projects under consideration will satisfy electric power demand for industrial and commercial use, especially for the chemical, petrochemical and tourism industries.

Franchising

Franchising continues to be one of the most effective marketing systems in Mexico. In 1992, there were 4,100 franchise outlets from 173 franchisers, representing a total investment of $4 billion. The franchising industry will play an important role in helping medium and small companies to modernize and to acquire new technology. Annual growth is projected to reach 150% through 1995. Due to this, new financing support systems are being developed for local franchisees.

Machine Tools and Metal Working Equipment

Imports of machine-tools and metalworking equipment are expected to grow at an annual rate of 25% through 1995. A variety of new projects are underway in the automotive sector, which has boosted demand for this equipment. Locally manufactured machine tools only service a small segment of the market. Nafta is expected to give an edge to U.S. suppliers who have been under intense competitive pressure from Germany and Japan.

Pollution Control Equipment

According to the Secretariat of Social Development (Sedesol), the Mexican agency responsible for protecting Mexico's environment, Mexico spends more per capita on environmental protection and improvements than almost any other developing country. Nafta will further this undertaking by providing additional resources and better access to the technologies and services necessary to enhance environmental protection and enforcement in Mexico.

In 1993, Mexico's public spending and investment for environmental concerns totaled approximately $2.5 billion, nearly 1% of Mexico's gross domestic product. This represents a 139% increase over public spending in 1991, and more than a 2,000% increase over 1988. According to Sedesol, Mexico is one of only two countries worldwide that anticipates a greater than 10% annual growth rate in environmental expenditures. Private sector expenditures alone are projected to increase 15% annually into the near future.

Oil and Gas Field Machinery and Services

Since the restructuring of PEMEX, the state-owned oil producer, U.S. companies have had greater access to the Mexican market. With U.S. company involvement, PEMEX will complete a pipeline at the U.S. - Mexico border, a gas pipe in the South of Mexico, a new refinery in the Salina Cruz area, and will build thousands of new gas stations. Officials forecast more business opportunities for U.S. companies in the services, machinery and technology areas.

Computers and Peripherals

The Mexican business community and government agencies are investing more in computer equipment. Consumer preferences are generally oriented to PC's, networks, workstations and servers. The demand for mini-computers and mainframes is expected to remain steady. Mexico welcomes joint ventures and direct investments in this sector. Nafta benefits U.S. suppliers by its January 1994 duty-free treatment for some equipment; and five-year duty elimination for products such as digital computer equipment, parts and printers. Importantly, December 31, 1993, Mexico eliminated import permits for used computer equipment.

Chemical Production Machinery

Mexico's chemical industry is one of the country's most important economic sectors, accounting for over 3 percent of Mexico's gross domestic peroduct. It is intimately linked to the industrial health of the nation, supplying 42 different sectors of the economy and receiving goods and services from 31 sectors. Companies such as Amoco, BASF, Bayer, Dow Chemical, Dupont, Hoescht, ICI, Monsanto, and Union Carbide are planning to expand their capacities during the next several years by forming strategic alliances with Mexican investors. This will translate into large investments in new equipment and technology.

Telecommunications Equipment

One of the highest priorities of the Mexican Government is the development of its telecommunications infrastructure. The Secretariat of Communications and Transport (SCT) has continued to deregulate this sector. New concessions for radio, TV, cable TV, and value added services, such as satellite, paging, trunking and radiotelephony have all been granted. This continues to create business opportunities for U.S. manufacturers of telecommunications equipment. Importantly, Nafta has eliminated investment restrictions in Mexico for U.S. providers of enhanced telecommunications services and equipment.

Wood Products

In December 1992, the Forestry Law was issued by the Mexican Government in order to improve productivity, enforce environmental and safety standards and promote reforestation and natural reserves. In order to comply with this law, Mexico needs to import lumber and wood products to meet demand. The country does not have an adequate transportation infrastructure within its woodlands. Additionally, most of its production is in softwoods. There is heavy competition from South American and Asian countries. However, under Nafta Mexican tariffs on wood products have been completely eliminated, giving U.S. suppliers a competitive edge.

Top Canadian Growth Prospects

Computer Hardware and Peripherals

Although the market for mainframes and mid-range computers has declined substantially, inexpensive PC's and portable computers based on Intel-compatible processors have experienced significant market gains in Canada. In addition, Canadian companies are embracing computer-aided design and manufacturing (CAD/CAM) technology as they strive to improve productivity. U.S. firms with competitively priced products, effective distribution channels and strong customer service will continue to penetrate the Canadian market. Gradual market gains are expected in 1994-1995 as the economic recovery continues to take hold.

Computer Software

Canadians are buying more software per machine than ever before. Users now employ as many as seven distinct types of applications software, compared with one or two a few years ago. Canadian companies are now beginning to base their hardware procurement decisions on available software. Growth is expected at 11% through 1995.

Building products

New housing starts are forecast to grow by 10.6% in 1994. Opportunities in the Canadian building supply market, which is primarily price driven, will be found in home renovation products as homeowners continue to maintain and upgrade their homes, often through do-it-yourself projects; non-residential, retro-fit products which improve the quality of the work environment; materials which support energy conservation initiatives such as the new Energy Code for Canadian Buildings; and products which reflect the Canadian buyer's interest in environmental activism via recycling as applied to plastics and wood.

Pollution Control Equipment

Strong federal and provincial environmental legislation, backed by severe fines and penalties, has created a growing Canadian demand for pollution control equipment. This market is forecast to grow by 2-3 percent annually in real terms over the next few years. Many Canadian firms have allocated substantial budgets to purchase air and water pollution equipment in order to meet legislative requirements. The primary Canadian end-users are the pulp and paper, chemicals, metallurgy, and textiles industries -- all of which will be adding pollution control equipment over the next several years.

Sporting Goods

The post-recession Canadian market demand for sporting goods equipment is up, commensurate with an increase in personal disposable incomes. The trend in Canada toward fit lifestyles has had a major impact on the demand for sporting goods products. The strongest competition is from Asian suppliers of low-cost equipment. U.S. suppliers enjoy several advantages over competitors, including geographical proximity, product quality, brand name recognition and the elimination of tariffs by 1998 on all U.S.-made sporting goods products. Canadians' growing concern for product safety and performance standards give an edge to U.S. suppliers, who should emphasize this features in their marketing strategies.

Medical Equipment

Despite Canada's relatively small population of 27 million, the country has one of the world's strongest markets for medical equipment. Canada's comprehensive public health care system is responsible for generating the strong demand for medical devices, eighty percent of which is satisfied through imports. Even though cost restrictive measures and changes in health care legislation may temper the demand over the next few years, the medical system will increasingly seek technologically advanced equipment to produce efficient and cost-saving health services. U.S.-made medical equipment is highly regarded in Canada because of its high quality, technological superiority and reliable after-sales service.

Telecommunications Equipment

Despite the world-class quality of equipment manufactured by Canadian companies such as Northern Telecom, Mitel and Newbridge, the consumer and corporate segments of the market remain receptive to imports. Deregulation of telecommunications services, an increase in joint ventures between Canadian and U.S. equipment and service carriers, and advances in telecommunications technology will continue to provide market opportunities for U.S. exporters as well. Emerging technologies with an expected high degree of market penetration in the future include: applications using asynchronous terminal mode (ATM) technology, integrated services digital network (ISDN) technology, wireless technologies, and advanced remote communications using satellite technology.

Electronic Components

The electronic components market is driven primarily by the demand for telecommunications equipment, computers, electromedical devices, and defense technology. The post-recessionary increased demand for computers, electromedical devices and telecommunications equipment has improved the future outlook for the Canadian electronics component market. Market opportunities for U.S. exporters will increase as a result. U.S. companies which provide high quality electronic components at competitive prices or whose products are innovative or unique will continue to prosper in the Canadian market.

Automotive Aftermarket Parts

Demand for aftermarket automotive parts is expected to increase through 1995. Distribution of parts in Canada is similar to that in the United States. Although the industry has undergone rationalization over the past several years, the move toward smaller margins should continue to reduce the number of distributors and increase sales from the manufacturer directly to the retailer/installer. Canadian end-users remain receptive to U.S. made parts. However, U.S. companies are advised to stress quality, service, and concentrate on products where demand is spurred by technological change.

Household Consumer Goods

The demand for U.S. household consumer goods is expected to grow for the period of 1993 - 1995. Factors affecting demand for U.S. consumer goods include increased growth in Canadian housing starts, increased average household income, and reduced tariffs on U.S. products under Nafta. Canadian consumers are very receptive to U.S. consumer products and favor innovative and functional products that are recognized for their competitive prices, availability, quality, reliability and after-sales service.

This article appeared in World Trade Magazine, July 1994.
Topic: Trade & Finance
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U.S. High-Tech Producers Compete Well Internationally

U.S. producers of high Technology electronics compete very well internationally. For example, in 1991 trade in computers registered a U.S. surplus of $3.6 billion. The U.S. computer industry is the leader in the global marketplace.

High-technology equipment produced in low to moderate volumes, such as computer mainframes, are supported by large numbers of high-wage engineers, software specialists, and skilled technicians. The production of these products requires the smallest percentage of production workers. These product categories are high growth areas in the United States and employment in computers and data processing services has expanded -- and is rising faster than any other major industry. In fact, employment is expected to rise from 224,000 in 1978 to 1.2 million in the year 2000. Growth in software and computer services could create more jobs than are lost in electronics manufacturing by next century.

Computer firms prefer to be close to their primary markets in order to quickly respond to the ever-changing consumer tastes and demand. When categorized with peripherals, which registered a deficit of $6.9 billion in 1991, the computer industry as a whole did not appear to compete well. Direct labor for peripherals constitutes up to 50% of production costs.

The complex nature of semiconductors, for example, mandates that production be highly automated and performed by a technology-savvy work force. Because the labor content of such products is low, product cycles short, and delivery quick, it is quite cost-effective to produce in the United States. Less sophisticated, lower-end electronic products, however, have been under increasingly greater pressure from Asia for U.S. market share.

Lower Technology Producers Are Under Attack

The electronics industry as a whole, composed of electronics, computers and telecommunications equipment, has run a multilateral trade deficit since 1983. It reached $11 billion in 1991. Employment peaked in 1984, but declined by approximately 16 to 19% (307,000 jobs) to nearly 2 million by the end of 1991. The majority of goods, such as TVs and VCRs, are characterized by standardized mid-tech components, require labor-intensive production, and derive low profit margins. Consequently, competition from low-wage countries has hurt the industry.

The U.S. telecommunications industry has endured some rigorous structural changes over the last decade due to deregulation, reductions in defense spending, and intense foreign competition. The deficit in telecommunications equipment has been attributed to imports of customer premises equipment, such as telephones and fax machines -- for which labor costs constituted approximately 30% of production costs. Production of telecommunications switches, however, which require higher worker skills, are more competitive internationally and would likely remain in the United States for at least the intermediate term.

Industry growth rates in Japan and other East Asian countries have been higher than in the United States -- which has fallen behind in standardized, labor-intensive electronics. As a result, U.S. producers of these types of goods have been more likely to move low-end production offshore in order to stay competitive.

Electronics, Computers and Telecommunications Rules of Origin

Goods produced in North America entirely from originating materials will qualify for Nafta's benefits. However, the rules of origin for non-originating materials or non-North American subassemblies are complex. These rules include requirements for specified changes in tariff classification, minimum regional value-content requirements, and prohibitions against the use of certain non-originating parts or components. The general sum effect is twofold: to ensure that electronics goods with a high degree of non-North American content do not receive preferential treatment by Nafta, and to encourage North American production at the expense of foreign production.

For example, origin requirements could significantly affect U.S.-Mexican trade and investment in television production. Many TV sets assembled in Mexico for sale in the U.S. incorporate picture tubes made in Asia. Under Nafta, most or all foreign picture tubes will be denied preferential access to the United States. As a result, U.S.-made picture tubes will likely be substituted for foreign ones -- resulting in more, higher-wage U.S. jobs. The picture tube is the most expensive component incorporated in a TV and the production of these tubes commands the highest wages in the television sector. Due to the technology-intensive nature of its production, required level of skill and state-of-the-art facilities, this production is unlikely to move to Mexico.

Importantly, Nafta's rules of origin will protect against foreign competitors from using Mexico as an export platform into the U.S., while simultaneously encouraging more production and job growth throughout North America.

Nafta's Impact on the U.S. Electronics, Computers and Telecommunications Sectors

Based on 1991 trade, The pre-Nafta average trade-weighted duty on imports of Mexican electronics was 2.4%. A large portion of imports entered the United States under the tariff classification 9802.00.80 (application of duty only on the non-U.S. origin production costs, such as Mexican labor, overhead and Asian components) and the General System of Preferences allowing for duty-free entry. Thus, the removal of U.S. tariffs under Nafta, most of which were completely eliminated on January 1, 1994, will not adversely affect the United States.

Prior to Nafta, the average Mexican duty on U.S. electronics was 15.8%. Under Nafta, 40% of Mexican duties on U.S.-made electronic products were eliminated on January 1, 1994. Another 50% of duties will be phased out over five years and the remaining 10% over ten years. Consequently, U.S. producers of electronics will be more competitive in Mexico compared to Mexican, European and Asian producers.

The Agreement itself is unlikely to radically alter current trade and investment trends in the electronics industry between the United States and Mexico. Many U.S. lower-technology manufacturers of electronics are already producing in Mexico and in other low-wage countries. Since Mexico has already gained much of the U.S. labor-intensive production in this field, it isn't likely that many more firms will move there in at least the short to intermediate term.

Mexican manufacturing tends to be limited to routine assembly of components originating in the United States and the Far East. Mexican suppliers provide low-technology parts, including housings, printed circuit boards, metal and plastic mechanical parts, cable harnesses, and limited power supplies electric components. The lack of skilled technicians and more sophisticated infrastructure has prevented expansion.

In the longer term, however, Mexico's ability to produce higher-end products hinges on its investment in work force education and training. Additionally, development of other factors such as market size, interfirm linkages, supplier networks, and investment costs is also necessary for Mexico to develop a more modern electronics industry.

In the absence of Mexican government policies forcing companies to manufacture in Mexico in order to sell there, many computer firms will have little reason to produce there. Relocation of U.S. computer manufacturers to Mexico would needlessly isolate them.

High-technology goods have an increasingly declining direct labor content, which means that the relative importance of indirect labor -- engineers, technicians, managers and designers -- has increased. These are precisely the types of workers that Mexico has the least of and the U.S. has the most of. Nafta will allow the United States to exploit this competitive advantage so that high-end production will not only stay in the United States, but continue to flourish. By allocating the simpler labor-intensive operations to Mexico, U.S. electronics firms can make production more cost-effective, which allows them to create more of the higher paying jobs in the United States. The net result: a more competitive American electronics industry.

This article appeared in The Exporter, July 1994.
Topic: Trade & Finance
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Mexico was the second largest importer of U.S. textiles in 1991 and the fifth largest exporter of apparel to the United States, representing 5.6% of total U.S. apparel imports. Although U.S. imports of Mexican textiles and apparel is a small percentage of U.S. total imports, they represented an estimated 91% of Mexican textile and apparel exports in 1989.

The U.S.-Mexican textile and apparel trade is oriented toward each country's natural comparative advantage. For example, rolls of textiles are usually manufactured in modern U.S. plants, exported to Mexican apparel plants, transformed into finished apparel items, and exported back to the U.S. for sale.

The Mexican Maquiladora Apparel Industry Is Growing

Apparel production is generally labor intensive. As a result, Mexican apparel production has grown considerably. Mexican apparel maquiladoras, which have prospered over the years, generally produce extremely long runs, have access to financing and U.S. distribution channels, and have achieved a level of quality much higher than producers in Mexico's domestically oriented facilities. Some 80% of Mexican exports of apparel to the United States is produced in 300 maquiladora plants employing about 45,000 workers.

In total, however, about 650,000 Mexicans work in some 11,000 Mexican-owned apparel firms. Most Mexican non-maquiladora facilities are small, inefficient, utilize obsolete production methods, and produce low-quality, inexpensive goods for the Mexican market. These domestically oriented plants typically produce in small lots, resulting in lower productivity. Consequently, these facilities have difficulty in justifying investment in new technology. Nevertheless, because wages and turnover are higher in the apparel maquiladora plants along the border, plants in the interior have increased their share of all maquila employment from 20% in 1981 to 40% in 1988. Given current production methods, lack of skills is not a serious problem in the maquiladoras. However, skill deficiencies will make it difficult to implement new competitive strategies, such as plant modernization.

U.S. Standardized Apparel Production Is Not Competitive

Due to the nature of apparel production, it is most susceptible to low-wage competition. Consequently, Much U.S. apparel production has moved to low-wage countries.

The industry is categorized by two types of goods: standardized commodities and fashion-sensitive foods. Standard commodities involve large runs of goods such as blue jeans and underwear, and is very sensitive to foreign competition. Fashion-sensitive goods, which involve short runs of primarily women's wear, is not as sensitive to imports and is mostly produced in the garment districts of New York and California -- reflecting the importance of close proximity to the centers of fashion design. Most imports of fashion-sensitive apparel originate in Asia; very little comes from Mexico.

The U.S. Textile Industry Is Competitive Internationally

The U.S. textile industry, producing yarn, thread and fabric, is quite competitive internationally. The industry is automated to a much greater extent than the apparel industry, which is consequently less competitive. In 1991 the United States registered a trade deficit with Mexico $70 million of in textiles and apparel. In 1992 the U.S. registered a surplus of $48 million, mostly due to strong exports of textiles and fibers.

U.S. Employment and Wages Are Down

Over the years, both the U.S. textile and apparel industries have suffered a decline in employment for different reasons. Due to the labor intensive nature of production in the apparel sector, it became increasingly difficult to compete with low-wage developing countries. Employment dropped in the textile sector due to a reduction in apparel production and rapid growth in automation and labor productivity. Employment in the U.S. textile industry peaked at 1 million in 1973 and declined to 672,000 by 1991. Employment in the apparel industry peaked at 1.4 million in 1973 and declined to 1 million by 1991.

As a percentage of overall nonagricultural employment, textile and apparel industry employment dropped from 3.6% and 2.9%, respectively, in 1940, to 0.6% and 0.9% of the U.S. work force, respectively, in 1991. Wages have also dropped. In 1991, average hourly earnings for textile and apparel workers were 80.3% and 65.5%, respectively, of all private nonagricultural industries.

U.S. Imports from Mexico

In 1988 average U.S. duties on Mexican textiles and apparel were 10.1% and 18.4%, respectively. Goods destined for the maquiladoras entered Mexico duty-free, and when finished were shipped back to the United States. They primarily entered the United States under the U.S. tariff code 9802.00.80, requiring an assessment of duty only on the non-U.S. content. Because the large percentage of U.S. imports of textiles and primarily apparel from Mexico are produced in the maquiladoras, which mostly source their goods from the United States, the U.S. combined average effective tariff on these imports from Mexico was 6% in 1991.

U.S. imports of clothing from Mexico have been concentrated in a few standardized items, such as inexpensive men's wear like trousers and coats, and similar items for women. Conversely, U.S. imports of more expensive, fashion-sensitive apparel, such as women's dresses, skirts, blouses, men's suits, jackets and shirts, primarily come from Asia. Imports of apparel from Asia have steadily risen, and in 1991 reached 40% of total U.S. apparel imports.

U.S. imports of textiles and apparel from developing countries are subject to quotas under the Multi-fiber Arrangement (MFA). According to the Office of Technology Assessment, these quotas have the impact of an effective average duty of 28%. As of June, 1993, the Arrangement covered 44 countries. The most significant restraints are imposed on imports from Asia. In the past few years, quotas on Mexican imports have not been binding and have been rising to accommodate larger shipments. Mexican exporters, however, have not been able to predetermine if the quotas will be constantly reassessed and therefore have not been able to rely on secure access.

Mexican Trade Barriers

Since Mexico significantly reduced its trade barriers as a result of joining GATT in 1986, it has experienced much difficulty in competing with Asian imports. To illustrate, in 1985 Mexico's tariffs on apparel averaged nearly 50% and all imports were subject to import licenses. By the end of 1987, Mexico's average tariff on apparel dropped to 20% and import licenses were eliminated. In 1991, its effective trade weighted tariffs on textile and apparel imports from the United States averaged 14% and 20%, respectively. While such tariff liberalization facilitated greater trade, it has also subjected Mexican workers to greater competition in these industries.

Textile and Apparel Rules of Origin Under Nafta

Under Nafta, for textiles and apparel to be considered North American, it must generally be made from North American yarn -- allowing only the fibers to be imported from outside North America. This is termed the "yarn forward" rule, and requires "triple transformation:" fiber transformed to yarn, transformed to fabric, transformed to apparel.

A limited number of products must meet more stringent requirements, and be made from North American fiber. This is termed "fiber forward" requiring "quadruple transformation." This applies to yarns of cotton, knit fabrics, non-woven fabrics, and most textiles composed of man made fibers. This rule also applies to sweaters, felt and tufted carpets of man-made fibers.

Exceptions to the above rules exist. For example, apparel of silk and linen, brassieres, women's nightwear and underwear of certain cotton knit fabrics, men's shirts of specified cotton or cotton-blend fabrics, and apparel of specified fabrics in short supply may be made from non-North American fabric.

Nafta's Impact on the U.S. and Mexican Textile and Apparel Sector

Under Nafta, duties on almost all North American textiles and apparel traded between the United States and Mexico will be eliminated within 6 years. The remainder will be eliminated within ten years. All quotas will be phased out.

Due to origin requirements, the "yarn forward" rule makes it likely that almost all Mexican apparel will be made from yarn and textiles that are produced in the United States. Thus, U.S. exports of textiles to Mexico will continue to increase. The fact that Mexico does not have a competitive textile industry, leaves Mexico without a comparative advantage relative to the United States. Consequently, U.S. producers of textiles are not likely relocate in Mexico. Thus, the U.S. textile industry is expected to benefit.

The U.S. apparel producers of long-run standard commodities, however, will be hurt. The negative impact will be less for U.S. producers of fashion-sensitive garments. Mexican apparel producers of long-run standard commodities, especially in the maquiladoras, will benefit the most.

In early 1992, sewing machine operators in the United States earned an average of $6.25 per hour. In Mexico, sewing machine operators earned $7 to $10 per day. Due to the fact that the U.S. industry is labor intensive requiring little skill, is not internationally competitive, and equipment is relatively inexpensive (ex., sewing machines in many apparel factories cost under $1,000), more job will likely move to Mexico.

U.S. imports of apparel from Mexico doubled between 1987 and 1991. Even without Nafta, this trend will continue. According to the Office of Technology Assessment, the number of Mexican garment workers in the maquiladora sector may jump from 45,000 currently to 130,000 by the end of the decade.

Even under Nafta, Mexican producers of fashion-sensitive non-basics are unlikely to ship large volumes of tailored clothing to the United States in the near term. Their poor turnaround time, low quality, and detachment to U.S. design centers will continue to present obstacles to Mexican advancements in this area. According to the Office of Technology Assessment, Nafta will not make a large enough difference for Mexico to challenge Asian producers of fashion-sensitive clothing.

Payment Terms

Mexican importers of textiles prefer to have exclusive arrangements with their U.S. suppliers, often have warehouses along the U.S.-Mexican border, and prefer CIF services to these warehouses. High volume sales are usually made through letters of credit. Small value sales are either made with cash, or 50% advance payment when the order is placed and 50% upon delivery. If permitted, Mexican importers much prefer to work on 60 to 90 day credit terms -- making the offer extremely attractive.

U.S. Textiles in Demand

Textile yarns, fashion fabrics and home decorator fabrics that have the greatest demand in Mexico include natural and stamped cotton fabric, stamped mixed cotton and polyester fabrics, stamped rayon fabric, natural wool fabric, and natural acrylic fabric. Mexican imports of poplin, silk, gabardine, nylon, and linen are growing at 6% per year, and are anticipated to continue growing.

Getting Started

The traditional method of selling textile yarns, fashion fabrics and home decorator fabrics to Mexico is through importers and distributors. Companies new to the Mexican market may also consider finding a sales representative, participating in trade exhibitions held in Mexico, and placing advertisements in industry magazines. Sales, however, are usually best promoted by having a permanent showroom and warehouse in Mexico.

Mexican sales representatives, distributors and agents can be identified through one of several services offered by the United States & Foreign Commercial Service.

This article appeared in The Exporter, May 1994.
Topic: Trade & Finance
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The emerging North American Free Trade Agreement (NAFTA) will have a considerable effect on manufacturing in both Mexico and Canada. Contrary to popular belief, the primary NAFTA effect on manufacturing in Mexico does not involve inexpensive Mexican labor or preferential access to U.S. markets. U.S. firms have enjoyed easy access to Mexican labor for two decades. Instead, the greatest changes brought about by NAFTA are on Mexican foreign direct investment and intellectual property protection.

The United States and Mexico have had the apparatus in place since the 1960s which has allowed U.S. firms to manufacture in Mexico and import those products into the U.S. virtually or entirely duty free. Consequently, the North American Free Trade Agreement provides little additional duty reduction benefits. Further liberalized Mexican investment legislation under NAFTA, however, affecting U.S. direct investment, and intellectual property protection, potentially has the greatest affect on manufacturing in Mexico.

NAFTA greatly affects manufacturing in Canada as well. With the understanding that Canada cannot compete with Mexico or other developing countries in terms of low-cost, labor-intensive manufacturing, Investment Canada has shrewdly defined its advantages and set out to seize its target. Based on attractive direct investment laws, R&D tax abatement policies, sound infrastructure, and a well educated labor force, Canada has successfully positioned itself to attract high technology manufacturers well into the twenty-first century.

Based on anticipated trade diversion, the Free Trade Agreement has important implications for U.S. firms considering manufacturing in East Asia or other locations in Latin America.

For 20 years, the United States and Mexico have had three programs in place allowing each other to ship merchandise back and forth virtually duty free. Because these programs already provide for conditions very similar to free trade in the movement of goods, the effects of NAFTA here are limited. According to the United States International Trade Commission, any increase in maquiladora production is likely to be small because NAFTA provides little additional duty reduction over current programs. These programs include the Mexican Border Industrialization Program (BIP), U.S. Special Tariff 9802.00.60 and 9802.00.80, and the General System of Preferences.

Mexico’s BIP, has allowed U.S. companies to ship components and production equipment into Mexico free of duty for assembly or processing utilizing Mexican labor. Eighty percent of the participating Mexican facilities, commonly referred to as maquiladoras or in-bond assembly plants, are located in the country's northern border zone. Under this program almost all the finished products must then be exported.

The BIP was established in 1965 by the Mexican Government for the purpose of providing employment for Mexico’s rapidly growing population along its 1,950-mile border with the United States. Unemployment in certain border cities exceeded 70% following the termination of the Bracero program by the U.S. under which Mexicans had been allowed to work in U.S. agricultural industries. The BIP sought to attract foreign manufacturing facilities (that would not compete with Mexican producers), technology, and know-how.ß The program stipulated that all foreign-owned assembly operations be located within a 20-kilometer strip along the U.S.-Mexican border. This regulation has since been terminated.

Harmonized Tariff Schedule of the United States (HTS) provision 9802.00.60 and 9802.00.80, which replaced Tariff Schedule of the United States (TSUS) provision 806.30 and 807, allow U.S. materials, assembled or processed in Mexican maquiladoras, to be shipped back to the U.S. incurring duty only on the foreign labor and any non-American components incorporated in the final product. Note, U.S. imports under subheading 9802.00.80 accounted for 44% of Mexico's exports to the United States in 1989. This special U.S. tariff classification applies to all countries.

Over the past four years, a large portion of U.S.-Mexican trade has been attributed to rapid growth in the Mexican maquiladora industry, one of the most successful sectors in Mexico. As of January 1992, maquiladora plants numbered 2,113 employing 469,614 Mexican workers. This represents approximately 11% of all industrial labor in Mexico. Based on continued strong growth, some estimates peg employment at between 1.7 and 2.25 million workers by the year 2000, representing about 25% of the Mexican industrial labor force.

The General System of Preferences (GSP) is a special U.S. tariff classification that has allowed Mexican products to enter the United States duty free. A large portion of Mexican products enter the United States under this tariff classification each year. In 1991, about 12.5% of Mexican exports to the United States entered under this classification.

Foreign Investment

Recently implemented investment laws in Mexico offer foreign investors greater opportunity. Thus, on May 16, 1989, Mexican president Carlos Salinas de Gortari implemented a liberalized revision of the regulations governing all aspects of domestic and foreign investment in Mexico. These revisions allow foreign investors the following: to own 100% of many types of businesses; automatic approval of many projects, and a formal response within 45 working days on pending applications; to increase holdings in existing operations to majority share under certain conditions; to joint venture in sectors previously reserved for domestic investors; the creation of new financial instruments permitting participation in capital markets; and investment in coastal and border areas. The new openness of the Mexican economy is illustrated by the fact that more than two-thirds of Mexico’s total Gross Domestic Product (GDP) is already accessible to 100% foreign ownership.

Intellectual Property Protection

In the past, intellectual property (e.g. patent and trademark protection) had not been afforded sufficient Mexican protection. As a result, many foreign companies, fearing their technologies and products would be copied, withheld their technologies from the Mexican market. However, the Law for the Promotion of Industrial Property, effective June 28, 1991, provides legislation similar to that existing in many highly developed, industrial countries.

Mexico’s 1976 Law of Inventions and Trademarks established a 10-year non-renewable protection term for patented products. In 1987, when the patent and trademark law was modified, this term was extended to 14-years non-renewable by an amendment. The Law for the Promotion of Industrial Property extends the life of a patent to 20 years and allows for the patenting of animal species, alloys, foods and beverages, biotechnological processes, and chemical products, including pharmaceuticals, fertilizers, pesticides, herbicides, and fungicides.

Trademarks are protected by the same laws as patents. The 1991 Law for the Promotion of Industrial Property has extended trademark protection from 5 to 10 years with the possibility of an unlimited number of renewals. Prior to the enactment of the new law, many considered previous legislation adequate, but not enforced. Trademarks may now be transferred in cases of corporate mergers.

Under a North American Free Trade Agreement, investment access and property protection is expected to become more enticing. Thus, NAFTA legislation is anticipated to have a considerable impact on manufacturing in Mexico.

The prospect of a North American Free Trade Agreement has given Mexico greater international credibility and abated investment fears. A NAFTA would offer Mexico secure access to U.S. and Canadian markets at a time when global protectionism is on the rise. This is extremely important Asian and European firms. Additionally, a NAFTA would somewhat tie the hands of future Mexican presidents preventing a political or economic policy turnaround. Thus, greater Mexican stability is key to American long-term planning and investing.

Mexican-Based Manufacturers to Locate Further South

NAFTA could reduce the incentive for U.S. owned factories to locate along the border. Similar to content requirements established under the United States-Canada Free Trade Agreement, NAFTA content requirements stipulate that a minimum percentage of North American components must be incorporated in the finished products for that product to be considered a North American product. Once NAFTA is fully implemented, this status will allow these product to be traded in North America duty free. Whereas 9802.00.60 and 9802.00.80 permits only the U.S. content portion of the product to enter the U.S. duty free, NAFTA content rules will allow Mexican or North American products manufactured in Mexico to enter the U.S. entirely duty free even though North American components equal a minimum of 51% (62.5% for vehicles) of the finished product. Thus, the incentive to use U.S. components will be reduced. (U.S. firms currently supply 98% of materials and components used in maquiladora production). Consequently, the incentive to locate near the U.S.-Mexican border, close to traditional suppliers, is also reduced.

Several other incentives exist for U.S. plants to move away from the border. For example, the maquila employment demand is expected to grow by approximately 10 to 20% each year. Currently, a shortage of labor, water, utilities, and housing exists in Mexican border towns. The border region can not sustain greater stress forced on its infrastructure or environmental degradation caused by new production facilities. Therefore, U.S. manufacturing firms considering establishing facilities in Mexico may be forced to locate in larger metropolitan areas. Under NAFTA, restrictions preventing U.S. maquiladoras from selling their products in Mexico will be eliminated. For this reason alone, manufacturers will consider locating closer to large consumer markets. With the exception of Mexico City, Monterey and Guadalajara, the Mexican government has eliminated location restrictions.

The main concern of locating in Central Mexico is the poor infrastructure, especially the antiquated telecommunications system, housing, schools, health care, and roads. Greater transportation costs are also a concern. In response, the Mexican government has taken steps to improve the phone system. Mexico’s government controlled telephone company (Telmex) has been sold and several U.S. phone companies have established fiber optic lines in Mexico. The government has proposed the creation of new highways linking major cities together, and has deregulated the trucking industry to promote competition and efficiency. As the nation prospers, more funds will be allotted to infrastructure.

Mexican Labor Force

Between 1985 and 1987, Mexican average hourly earnings, including benefits, fell 34% from $1.60 to $1.06; the result of a severe economic downturn. Recent strong growth and sound fiscal policy has resulted in higher wages. Thus, in 1991, Mexican average hourly wages, including benefits, equalled $2.17. Mexican maquiladora wages, plus benefits, equal $1.56. In the same year, U.S. and Canadian wages, including benefits, equalled approximately $15.45 and $17.31 respectively.

Mexican average wages, including benefits, are approximately 39% less than those in Hong Kong, 50% less those in South Korea, and Singapore, and 51% less than those in Taiwan. In terms of minimum daily wages, in December 1991, the daily minimum wage rose to $4.33 based on the exchange rate December 19, 1991 exchange rate.

The Mexican labor force is characterized by growing productivity, a fast improving literacy rate (currently at 87%, one of the highest in Latin American), and a family-oriented society. Overall, organized labor in Mexico encompasses 35% of the labor force. Along the border, it is generally acknowledged that Mexican labor unions are more powerful in eastern cities, especially Matamoros, and less so in western cities. In Tijuana, for example, unions are almost non-existent.

Asian and European Firms are Establishing Plants in Mexico

Japanese firms have been profiting from Mexico’s Border Industrialization Program for some time. Japan is the fourth largest investor in Mexico after the United States, Great Britain, and Germany. Mexico is an attractive destination for Japanese investment for several reasons. One of the most important reasons is Japan's desire to lessen its dependence on Middle Eastern oil. Other obvious reasons include the close proximity of the U.S. market and inexpensive Mexican labor.

Current Japanese capital is primarily invested in Tijuana and Ciudad Juarez: the former, a popular electronics manufacturing area and the latter, a popular automobile parts manufacturing area. By some estimates, the Japanese employ over 7,500 workers in Tijuana alone. Although Japanese assembly operations embody mostly Japanese parts which are dutiable upon U.S. entry, the inexpensive Mexican labor more than compensates for the difference. Under NAFTA, unless the Japanese manufacturers source the majority of their components from North America, they will be forced to pay duty on the entire product. (These Japanese-owned operations use more U.S.-made components than do their counterparts in Japan). In January 1991, the Japanese operated a total of approximately 70 plants, comprising almost 5% of all maquiladoras.

In addition to the U.S. and Japan, Sweden, France, the Netherlands, Dutch Antilles, England, Finland, Taiwan, Spain, Germany, Canada, and South Korea now operate maquiladoras in Mexico. The four Asian Tigers - Taiwan, South Korea, Singapore, and Hong Kong - are expected to invest to a greater extent in Mexican for several reasons. One of the most important has to do with their recent graduation from the Generalized System of Preferences.

U.S. Manufacturers in Asia May Relocate to Mexico

Unless the majority of their markets are in the Orient, Many American manufacturing firms operating there will likely relocate their plants to Mexico. An obvious major advantage to the U.S. firms is Mexico’s close proximity. This significantly reduces transportation and communications costs and problems. This has and will continue to 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 and easy accessibility to Mexico facilitates plant visits from component suppliers, corporate research and development experts, engineering specialists, and the final customer. As Mexico continues to receive favorable publicity, this will improve the American business community's perspective on manufacturing in Mexico as a means to combat intense competition from abroad.

According to Bob Broadfoot, Managing Director of Political & Economic Risk Consultancy, Ltd. located in Hong Kong, U.S. investment in South East Asia is different than it was ten years ago. Today, most U.S. manufacturing firms based in the Orient produce primarily for the regional markets, not North American markets. Consequently, NAFTA will not have much of an effect. However, stated Mr. Broadfoot, many U.S. manufacturers based in Singapore manufacture electronic products primarily for the U.S. market. Many of these firms will likely relocate to Mexico. For various reasons, Zenith Electronics Corp. plans to shift about 600 jobs from its plant in Asia to Mexico. Thus, As Mexico continues to receive favorable publicity, this will improve the American business community's perspective on manufacturing in Mexico as a means to combat intense competition from abroad.

NAFTA Effect on Canada

With the understanding that Canada cannot compete with Mexico in labor-intensive industries, it has shrewdly shifted its resources to industries where it has a competitive edge. Although the emerging North American Free Trade Agreement is not responsible for this reality, it will help define the advantages and disadvantages of locating in Canada. With this in mind, the Canadian government has tailored Canadian investment policies to suit the needs of its target market: manufacturers of high-technology goods.

Canadian-based companies enjoy the benefits of a skilled, cost-effective labor force, which has proven itself to be productive and adaptable to rapidly changing technologies used by technology-intensive manufacturers. The low rate of employee-turnover, coupled with the availability of a highly-qualified labor professionals has made high technology manufacturing more productive in Canada than operations in low-wage countries.

Its modern transportation and communication infrastructure facilitates access to offshore suppliers and international markets. Thus, Canada received the highest rating for transportation, communications, and power supply infrastructure among the G7 nations in a 1990 survey of international business leaders by the World Economic Forum. Additionally, in 1991 the United Nations cited Canada as the best place to live.

Canada's legal system is recognized for effectively enforcing international contracts and intellectual property. Importantly, Canada promotes innovation by providing one of the most generous tax treatment for scientific research and development in the industrial world. Additionally, many firms located in Canada have commented on the ease of obtaining export permits and blanket export licenses compared to the bureaucratic difficulties encountered in the United States.

According to the Canada's Investment Development Program, Canadian corporations are more profitable than their U.S. counterparts. Thus, Canadian based subsidiaries typically match or exceed the profitability of the parents. Most of the world's largest international companies, including almost all the Fortune 500 companies, have operations in Canada.

A large number of multinational have recently announced plans to increase investment in Canada. Dow Chemical is currently investing some $800 million in Alberta for the construction of a new plant and related underground storage facilities, and plans to double the size of its existing polyethylene plant. The Ford Motor Company announced it has chosen its Canadian subsidiary to manufacture a new generation of cars and engines. Ford plans to invest $800 million in the project by constructing new automobile parts and casting plants and by retooling existing assembly plants. AT&T recently announced it will begin to manufacture communications equipment in Canada. It plans to manufacture circuit packs for fibre-optic telephone transmission equipment. Other investors include Chrysler, General Electric, 3M, Union Carbide, and Pratt & Whitney.

Manufacturing in Latin America

Due to the growing importance and attractiveness of Mexico to the United States, NAFTA is expected to promote U.S. trade and investment in Mexico, a portion of which will be at the expense of other Latin American countries. The trade and investment diversion effect is of such a concern to regional countries that many are strongly pushing for a docking procedure to quickly and easily accede to NAFTA. Thus, unless a trade agreement of the Americas is established in the near future, and unless South America is the primary market, U.S. companies manufacturing there will find Mexico a more attractive location.

This article appeared in Plants Sites & Parks, November-December 1992.
Topic: Trade & Finance
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