World, Business

In Mexico, manufacturing is a race to the top

By Greg Mills & Lyal White 12 November 2015

For a long time Mexicans were fleeing their own country to pursue the so-called “American Dream” north of the border. Most are now chasing the Mexican dream; a life where you work for dollars, but live on pesos in Mexico. By GREG MILLS and LYAL WHITE.

This article is based on research in Mexico in November 2015. A longer version of this article appears this week as a Brenthurst Discussion Paper at www.thebrenthurstfoundation.org.

Twenty years ago, the Mexican ambassador to South Africa was distraught about a television advert for a particular type of large corn chip, which portrayed an indolent campesino under a sombrero speaking in an accent that would make even Eli Wallach’s character in The Good, the Bad and the Ugly blush.

The erstwhile diplomat had a point. More than 30 years earlier, in 1965, his government had launched a border industrialisation program, better known as the Maquiladoras, which transformed the country’s job market and export profile, by exploiting the comparative advantage of abundant cheap labour through “quick and dirty” assembly and export. But things have changed.

Mexico is proving that manufacturing does not have to be a race to the bottom of the cheap wage pile. It also shows that effective trade policy trumps industrial policy. Hopefully these two principal lessons were absorbed by Deputy President Cyril Ramaphosa during his visit to Mexico in October this year. Like South Africa’s transition from apartheid, Mexico’s signal transformative moment occurred also 21 years ago in the shape of the North American Free Trade Agreement (NAFTA).

Take Monterrey and Guanajuato. The former is Mexico’s wealthiest and most industrialised city. Not fewer than 46,000 trucks leave each day carrying manufactured goods for the United States market, in which Mexico’s share has grown fourfold to 20% in the 21 years since NAFTA. These are no longer cheap maquila goods, but high-value exports. Mexico’s rise up the value chain is epitomised by public-private research and innovation incubators such as the PITT (Parque de Investigación e Innovación Tecnológica), near Monterrey’s international airport.

Photo: Monterrey Parque de Investigación e Innovación Tecnológica (PITT). (Greg Mills)

Guanajuato, once the centre of global silver mining, is developing a modern day Silverado in the form of the auto industry in the heart of Mexico. A giant General Motors (GM) plant there produces 370,000 pickup trucks per year. General Motors is not alone. Mazda, Honda, Hino and VW have followed suit, with Toyota set to open in 2016. The state of Guanajuato will produce 550,000 vehicles in 2015, the same as the entire South African auto industry. Mexico has moved quickly from assembler to manufacturer and innovator in the auto industry, and is now the world’s seventh-largest producer. South Africa ranks 24th.

While many social problems remain among Mexico’s 125 million people, manufacturing provides direct employment for more than two million people. As Jaime Serra Puche, trade economist and Mexico’s lead negotiator in NAFTA, puts it, ‘Today we are exporting $1 billion per day, about 80% of which is manufacturing. At the start of NAFTA, we were exporting about $100 million per day, and a big chunk of this was oil.’

Photo: Former president Vicente Fox and Greg Mills.

Politics played a big part in these changes. Vicente Fox’s National Action Party (PAN) broke the 70-year stranglehold the Revolutionary Institutionalised Party (PRI) had on Mexican politics in 2000. While the PRI is back in power after a 12-year hiatus, competitive politics has ushered in fresh reforms, notably in energy, education and the role of the unions, and telecoms, most of which are aimed to attract private capital and know-how.

Fox (73) admits that a number of challenges remain. There’s a need for continued economic growth by implementing structural reforms, improved education and skills development, and removing key obstacles to development – especially violence, drugs, crime and corruption. These are crucial at this juncture of the Mexican story. The country is also battling rising poverty and inequality. According to the World Bank, poverty has steadily increased from 47% in 2005 to 52.3% in 2012, despite the efforts of deeply considered social programmes and conditional cash transfers. These programmes need to now focus on graduating the bulk of recipients into the productive economy.

Photo: Houses in Guanajuato. Poverty in Mexico remains stubbornly over 50 percent. (Greg Mills)

Despite these challenges, Luis de la Calle, the former Deputy Minister for International Trade Negotiations, insists three factors make Mexico’s rise “unstoppable”.

  • The first relates to demographics. There is a clear increase in Mexicans of a working age, along with a declining dependency ratio between those working and those not.
  • The second is the reduction in energy costs in North America, making it the cheapest in the world. This is driven by an increase in US gas production from 64 billion cubic feet per day in 2006 to 90 billion cubic feet in 2015, along with a doubling in US oil production to ten million barrels per day, during the last five years. Mexico’s energy reforms and targeted investments, as part of an integrated North American gas network, will pipe Texan gas to far-out Mexican locations that never enjoyed industry before, while also driving down costs for existing industries. The cost of natural gas in Mexico has recently been as low as $2 per million BTUs, around one-seventh of the equivalent cost in China. Deregulation in the electricity sector has brought the commercial price of electricity down 25%.
  • The third reason concerns the real appreciation of the US dollar. Not only will this bolster existing Mexican exports like cars and appliances, but a weaker peso also allows cheaper Mexican inputs like glass, steel and plastics, into a comprehensive value-added list of exports. As a result of these drivers, Mexico is today the only large developing economy that competes with China in manufacturing. And in terms of exports per capita, Mexico is almost twice as large as China. Most importantly, this process has relied on trade agreements rather than summitry.

Being open and connected with tangible transfers has proven crucial to Mexico’s progress, as both a value-added exporter and a modernising industrial nation. In this regard, Mexico focuses on agreements like NAFTA, which has given it unparalleled advantage over competitors in the US market for over 20 years, and the recently concluded Trans-Pacific Partnership (TPP), instead of hyped-up acronyms and groupings, like BRICS.

Photo: Moderns brands and traditional Mexico mix everywhere. (Greg Mills)

Given Mexico more than fits the grade, De la Calle posits about possible BRICS membership: “Just why would we want to do that? Russia is what we were in 1981, dependent on oil and battling corruption; India is struggling governance and poor infrastructure; Brazil’s problems are bigger than our own, and it seems to want to be a closed economy not, like us, open; and China is a competitor.”

Agreements like NAFTA have instead offered real and more rapid returns. Mexico’s clearly defined trade strategy is not only the backbone of the country’s foreign policy, but also determines its competitive output, avoiding an industrial policy which many economists and technocrats in Mexico believe to be overly cumbersome and rent-seeking.

Photo: Aloe lady. (Greg Mills)

For a long time Mexicans were fleeing their own country to pursue the so-called “American Dream” north of the border. But as one businessman says, “Most are now chasing the Mexican dream. A life where you work for dollars, but live in pesos in Mexico.” The rapid conversion of the maquilas offers opportunity to achieve this new dream.

Mexico’s journey over the last quarter century shows that manufacturing does not have to be a race to the bottom; rather one to the top. DM

Dr Greg Mills is the Director of the Brenthurst Foundation. Dr Lyal White is the Director of the Centre for Dynamic Markets at GIBS.

Main photo: Nanotech centre in Monterrey. (Greg Mills)

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