Mexico looks to Asia as Trump effect bites

A brand-new Chinatown is set to rise on the outskirts of Monterrey, the manufacturing hub in north-eastern Mexico, just 300 kilometres away from the US border. A $1.2bn project, the Hofusan Industrial Park will host 100 Chinese companies, shops and residential units, and strengthen the interest of Asian investors in the region, where manufacturing powerhouses such as South Korea's Kia have already poured billions of dollars in the past years.

Thanks to its proximity to the border, Monterrey has flourished since the North American Free Trade Agreement (Nafta) came into force in 1994, making the state of Nuevo León a key piece in the regional supply chain of productions such as automobiles that mainly serve the US market. The election of Donald Trump as US president now threatens to change the outlook of the local industry dramatically.

US investors, which make up about half of foreign investment in Nuevo León, have become more hesitant since Mr Trump came into power with his ‘America First’ agenda. Companies such as air-conditioning giant Carrier have publicly scaled down existing investment plans in the state, following on the heels of Ford, which cancelled a new $1.6bn plant project in the central state of San Luis Potosí.

Looking to the Far East

Now faced with the prospect of unearthing a source of alternative investment, the Mexican local authorities had no hesitation in looking towards Asia.

“The gringos [Americans] shouldn’t be that confident that they are so important, the world is very big,” says Jaime ‘El Bronco’ Rodríguez, Nuevo León's outspoken governor. “We are going to bring over Chinese companies, companies from other Asian and South American countries. The market belongs to the world, not to the US, and if the US closes up, it’s going to fail.”

Nuevo León is not an exception in Mexico. A delegation of state governments including those from Tamaulipas, Morelos, Tlaxcala, Puebla and Oaxaca flew to Beijing in March, where they met with public authorities and private investors such as telecoms giant Huawei. Meanwhile, Chinese trade missions to Mexican states are also reportedly on the rise. On a national level, the government, led by Enrique Peña Nieto, is building up efforts to strengthen ties with Chinese investors, as well as those from Japan and South Korea, while it engages in a delicate war of words with the White House.

At the same time, the Pacific Alliance bloc (Chile, Colombia, Mexico and Peru) is working to keep the Trans-Pacific Partnership – or at least parts of it – alive, even without the US, emphasising the bloc’s willingness to strengthen ties with partners across the Pacific Ocean. A possible revision of Nafta, or even a complete suspension, could be disastrous for Mexico, as the US remains by far its largest trading and investment partner. However, Mexico has free-trade agreements (FTAs) covering 46 countries, and its authorities are committed to using these as a platform to ease economic dependence on the US.  

US dependency

Mexico’s exports to the US grew to $302.3bn in 2016, from only $42.9bn in 1993, when Nafta was ratified, according to figures from the country's ministry of the economy. Bringing Canada into the picture, exports to North America made up 83.7% of Mexico’s total exports in 2016. The integration of regional supply chains has never been higher.

“There are auto components that cross the border four times before being assembled into a car,” says Manuel Montoya, managing director of Nuevo León’s automotive cluster association Claut. “This is the result of 23 years of Nafta. Emptying Nafta would mean disrupting all these value chains.”

Despite the volcanic statements of Mr Trump, which at one point included the threat of a 35% border tax, the White House has yet to notify Congress its intention to review Nafta and thus trigger a 90-day consultation period that would lead to the start of official talks with Mexico and Canada. In the meantime, the US administration has cooled off some of Mr Trump’s statement over the future of the agreement.

Top US trade adviser Peter Navarro and trade secretary Wilburn Ross (who personally owns an automotive component supplier IAC, which has eight production facilities scattered across Mexico) have shifted the focus from tariffs, which Mexico has already strongly rejected, to the establishment of tripartite dispute panels and a tougher rule of origin. Goods such as cars have to meet a 62.5% local content requirement to be shipped to the US duty free. However, there might be room for negotiation on this.

“Under the current rules, you can bring in components from other countries, then add value through a process in Mexico, and thus comply with the rule of origin. This is what the Americans have realised now,” says Mr Montoya.

Mexico’s booming trade with North America has coincided with booming trade with its suppliers in Asia and elsewhere. If the country had a trade surplus with its Nafta partners of $123.9bn in 2016, overall it accumulated a trade deficit with the world of $13.1bn, mostly because of soaring imports of production inputs.

However, Juan Carlos Baker, Mexico's deputy economy minister, views this as the normal functioning of a global value chain and sees limited scope for a review of the rule of origin. “For some products the rule of origin is already very strict,” he says.

Seeking alternative markets

While they wait for the White House to trigger an official review process of Nafta, Mexican authorities are looking elsewhere to improve the country’s trade and investment matrix. If 85% of Mexico's exports go to the US and Canada, northern American investors accounted for 52% of the all accumulated FDI in the country between 1999 and 2016, according to figures from the Ministry of Economy.

“We are not going to overlook the US market, and we are going to put more attention on Canada, but also look for new markets for investment and trade,” says Jesús Mario Chacón, head of global business promotion at national investment promotion agency ProMexico. He highlights Mexico’s 12 FTAs covering 46 countries and the opportunities they represent to diversify the country’s trade and investment matrix.

Mexico has already experienced a sharp growth of investment from Asian powerhouses such as Japan and South Korea, with the likes of Toyota, Honda and Hyundai establishing major production capacity in the country and bringing part of their supply chains to Mexico. Combined Japanese and South Korean investment has soared to $11.1bn over the past five years, almost three times as much as the $4.1bn in the five years before that. Economy ministry figures show that Chinese investment, although still low in absolute figures, has also been growing.

“We are seeing a lot of investment from Europe and Asia,” says Frédéric García, managing director of Airbus Mexico and president of the country's Executive Council of Global Enterprises. “What is coming is an overall strengthening of local value chains beyond the automotive sector. I think of the liberalised energy sector to add value to oil and gas production and electricity, but also aerospace, which has experienced a double-digit growth in the past 10 years.”

Asian investors are no substitute for US investors at present in Mexico as the investment of Japan, South Korean and China combined over the past five years barely matched the $10.4bn from US investors in 2016 alone. However, to some extent they may be able to counter any downturn stemming from Mexico’s mounting disagreements with its northern neighbour. But in the long run, Mexico’s combination of geographic advantages, cheap labour, improving infrastructure and liberal institutions are an enticing proposition for any investor.

“We expect FDI in Mexico to decline in the short term as companies weigh the repercussions of investing while Mr Trump is in office,” the Economist Intelligence Unit said in its 2017 research. “However, Mexico’s competitive advantages as a destination for export-based manufacturing are unlikely to be badly affected in the medium and longer term.”