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The Mexican Experience with NAFTA. Francisco J. Alejo Consul General of Mexico October 22, 2003. University of Texas LBJ School of Public Affairs. Contents. Introduction The Context of NAFTA 1. Accelerated Globalization 2. Mexico/ USA: An Asymmetrical Relationship

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The Mexican Experience with NAFTA

Francisco J. Alejo Consul General of Mexico October 22, 2003

University of Texas

LBJ School of Public Affairs


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Contents

  • Introduction

  • The Context of NAFTA

  • 1. Accelerated Globalization

  • 2. Mexico/ USA: An Asymmetrical Relationship

  • 3. The Transformations of Mexico

  • II.Mexican Experience with NAFTA

  • 1. Economic Performance, Trade and Investment

  • 2. The Pending Agenda

  • 3. Lessons and Policy Implications

  • 4. Conclusions


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The Context of NAFTA

I. Introduction


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Along the last several years, until the end of 2001, global trade grew at about three times the rate of OCED economies, surpassing $7 trillion in cross-border movement of goods and services.

2. Foreign direct investment (FDI) grew even faster than international trade and actually surpassed $1 trillion in flows in 2000

1. Based on: Earl H. Fry, “North American Integration. Policy Options”, CSIS, Policy Papers, July 2003

Highlights of the Globalization 1


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The number of multinational corporations (MNC’s) in the World also expanded dramatically, from 7000 in the 1960’s to roughly 65,000 today.

The 65,000 MNC’s control 850,000 affiliates, which employ 54 million workers world wide and were responsible for producing $19 trillion in annual sales in 2001, almost three times the aggregate value of global international trade.


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5. International currency transactions amount to approximately $1.5 trillion per day. Production sharing systems and stock markets constitute a 24 hour phenomena conducted by continuous, computerized automatic systems.

6. In spite of September 11, 2001 events, international tourism returned to record levels in 2002 with 715 million people spending over $460 billion


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7. Immigration and refugee flows are also without parallel, and at least 175 million people currently reside in countries different from their place of birth.

8. The number of transactions through internet-crisscrossing the planet is astronomical and grows at a maddening pace.


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I.2. Mexico/US: An Asymmetrical Relationship

The US continental land mass is equivalent to roughly 4.5 times to that of Mexico. The population of the former is almost 2.8 times more than the 100 million Mexicans living in Mexico.

2.The Mexican GDP is equivalent to one sixteenth of the US corresponding GPD. A 6.5% annual growth of the US economy aggregates additional production equivalent to the total Mexican GDP, even though the latter ranks between the 9th and 10th largest in the world.


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3. After almost 10 years of NAFTA, 85% of total Mexican exports are aimed at the US economy and constitute 20% of the country’s GDP. Nearly half of the 3 million new jobs created in Mexico between 1993 and 2000 were export related. In contrast, 37% of total US exports are destined to the NAFTA partners, and contribute with only 4% of the US aggregate GDP and employment. US commitments as a global superpower increasingly spread out all over the planet.


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4.The growing size of the US economy, its global corporations, and the need to keep a large global techno military edge, justifies a gigantic and unbeatable investment in science and technology.

5. In the case of Mexico, in contrast with Canada, there are also very important asymmetries in education, cultural and institutional development.


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Of special and paramount importance are the asymmetries in physical and telecommunications infrastructure.

7. It was precisely because of the fundamental role of the asymmetries that the European Community assigned a pivotal role in the achievement of European integration to the special funds for balancing the levels of basic development among the member nations.


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I.3 The Transformations of Mexico

1.Demographic Transformation: from 20 million inhabitants in 1950 to 100 million 2000.

2. Settlements transformation: from 80% rural population to 75% urban population in only 60 years. With only one city with more than one million inhabitants to one megalopolis with 18 million inhabitants, two cities with more than 3 million and ten cities with more than one million inhabitants in the year 2000.


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3. Educational Transformation: from more than 70% illiteracy level to more than 90% literacy, to almost 100% coverage by the elementary school system and to almost two thirds coverage by the high-school system in only two generations.

4. Economic Structure Transformation: from a dominantly agricultural and mining rural economy to an essentially industrial and service urban economy in only 30 years from 1950 to 1980.


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5. Trading Transformation: from a tightly closed economy, with more than 90% of the importation code subject to “previous specific permit” by the government and an average customs tariff of more than 80% by 1982 to less than 5% of the code subject to previous prermission and maximun customs tariff of 20% and a weighted average tariff of less than 10% by 1990.

After signing free trade agreements with Chile and the United States in the early 90’s, Mexico has signed such treaties with more than 30 countries. No other country has signed so many.


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6. Public/Private sectors roles Transformation: from an economy tightly controlled and dominated by the public sector (the public sector expenditure represented 48% of the GDP in 1982 and there were more the 1200 corporations fully or mostly owned by the federal government) to a highly decentralized economy with only a bundle of state owned corporations and public sector expenditures representing a maximum of 22% of GDP. The process of deregulation has encompassed almost all sectors of economic activity.


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7. Democratic Transformation: from a highly centralized and one hegemonic party system that lasted for more than half a century to a multiparty, highly reliable and competitive political system in only 22 years. This comprised new legislation for political parties in 1978, new polling legislation in 1978, 1987 and 1995; a judiciary system for dealing with post polling disputes in 1995 and 1998; a massive transfer of financial resources from federal to state and local governments took place between 1995 and 2002; a new legislation on transparency and accessibility to public records and information as an indisputable right for citizens and the media.


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8. Human Rights Transformation: constitutional reforms and new legislation allowed for a new autonomous regime for the 10 million members of the indian communities of the country and the establishment of a fully independent national commission as a watchdog for human rights plus the subscription to the Inter-American and United Nations Human Rights treaties.


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2/ Based on: Aldo Flores Quiroga, “The North American Free Trade Agreement…”, Secretaria de Relaciones Exteriores, Mexico, Agosto, 2003.

II. The Mexican Experience with NAFTA 2


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Four favorable outcomes for Mexico stand out during NAFTA’s first 10 years

Substantial increase in trade and investment, with a positive impact on economic growth and job creation

Lower vulnerability to foreign shocks, except for those that have originated in the US economy.

Productivity increases associated with technology transfers

Stable and credible legal framework for the solution of trade controversies


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Much more, however, needs to be done:

Integration of productive chains

Expand physical, financial, and informational infrastructure, especially at the borders

Create compensation funds to promote regionally balanced growth

Improve existing mechanisms for conflict resolution

Develop intelligent borders for the flow of goods, services, knowledge and people


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Contents

Economic performance, trade and investment

The pending agenda

III. Lessons and policy implications

IV. Conclusions


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A. Macroeconomic convergence

  • Inflation rates

  • Interest rates

  • Exchange rate

  • Country risk

  • Production


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Mexican inflation is converging toward the US and Canadian rates…

Annual inflation rates, Mexico, United States and Canada

Mexico

United States

4.3%

2.6%

Canada

2.1%

Source:INEGI


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…gradually contributing to interest-rate convergence between Mexico and the United States

Interest rates, Mexico and United States

(One month certificated deposits)

Mexico

United States

5.18%

1.22%

Source: INEGI


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The Mexican peso has weakened but its volatility is relatively low

Average daily volatility in the foreign exchange market

(% daily apreciation or depreciation)

InterbankForeign Exchange Rate

(MXP/USD)

10.93

Source:SREwith Banxico´s data

Source:Banco de México


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Country risk has differentiated from other Latin American markets

Country risk

(Emerging Markets Bond Index EMBI+, JP Morgan)

Latin America

EMBI+

Mexico

Source: JP Morgan


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Mexico’s GDP performance is closely associated with variations in US GDP

Quarterly GDP, Mexico* and USA**

(seasonally adjusted series)

United States

(right scale)

Correlation coefficient: 97%

Mexico

(left scale)

* Billions of pesos of 1993

** Billions of dollars of 1996

Source:INEGI


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This close correlation is due to the deepening integration of US and Mexican industrial sectors

Industrial production

(annual % variation, three month moving average)

Canada

USA

Mexico

Correlation coefficient: 97.2%

Source:INEGI


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B. Trade and investment

  • Trajectory and reallocation of trade flows in the North American area

  • Mexican participation in the US market

  • Long and short term capital flows into Mexico


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Seventy-six percent of Mexico’s total trade is oriented toward the United States

Africa and the Middle East

United States

Eastern Europe

Western Europe

Latin America and the Caribbean

Asia

Canada

Source: INEGI


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Exports shipped to United States represent 90% of the Mexico’s total sales abroad

United States

Africa and the Middle East

Eastern Europe

Western Europe

Latin America and the Caribbean

Asia

Canada

Source: INEGI


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Sixty three percent of the Mexican imports come from the United States

Africa and the Middle East

Eastern Europe

United States

Western Europe

Latin America and the Caribbean

Asia

Canada

Source: INEGI


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Since 1994 Mexican exports have expanded notably and are more concentrated in the manufacturing sector

Total Mexican exports (billions of dollars of 2002)

NAFTA

GATT Accession

Growth 1993-2002:

149%

$160.7

Growth 1985-1993:

80%

88%

$32.6

20%

67%

9%

Source: SRE with INEGI data


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Imports have also increased, driven primarily by the demand of intermediate goods

Total Mexican imports (billions of dollars of 2002)

NAFTA

GATT Accession

$168.7

Growth

1993-2001:

107%

Growth 1985-1993:

237%

75%

$40.7

61%

12%

27%

Source: SRE with INEGI data


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NAFTA has thus produced a significant trade expansion for the US, Mexico and Canada

Intra-regional trade

(billions of dollars)

North American trade integration 1993-2002:

Trilateral trade increased 109%

Mexico’s participation in intra-regional increased from 15% to 20%

Last year’s trade decline is due to the sluggish performance of the US economy

Source: SRE with USDOC, Statistics Canada and INEGI data


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Mexico is the second trade partner of the United States...

Main US trade partners

(total trade, billons of dollars)

Participation of Mexican products in the US market (%)

NAFTA start date

Source: Ministry of the Economy with USDOC data


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…and it is the second largest export market for the US

US exports

(billions of dollars)

Source: Ministry of the Economy with USDOC data


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United States is the main investor in Mexico

Foreign Direct Investment

(billions of dollars, cumulative 1994-2002: 112.4 bd)

* Excludes the Banamex-Citigroup transaction

Source: Ministry of the Economy


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C. NAFTA’s impact by sector

  • Agriculture

  • Manufacturing


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Reciprocal tariff eliminations helped Mexican exporters increase their participation in the US market…

Mexican agricultural exports to the United States

* Includes the January-October

Source: Ministry of the Economy


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…placing them among the main suppliers of a diverse set of goods in the US market

Mexican agricultural goods in the US market

* January-October

Source: Ministry of the Economy with USDOC data


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NAFTA has benefited Mexican consumers by fostering competition among suppliers, thereby lowering the prices of many goods

Prices of staples in the average Mexican diet has declined

Source: Ministry of the Economy


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Mexico’s manufacturing sector has also been a beneficiary of NAFTA, through greater exports and lower consumer prices

Real price change of manufactured products

Exports to the USA and Canada of manufactured products

Positive export performance due to NAFTA

Real price decrease

Source: Ministry of the Economy


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Output in sectors with significant backward and forward linkages has increased

NAFTA success stories

Source: Ministry of the Economy


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D. Effectiveness of Mexico’s free trade agreements

  • Evolution of Mexican exports

  • Performance of Mexican imports


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Mexican exports to the United States, Costa Rica and the G3 have increased notably since the launching of the respective FTAs…

Exports (Index based on real exports, constant dollars of 1990, semiannual moving average)

Costa Rica

* Not duplicated

EUA

G3

Chile

Canadá

Number of months after FTA

Source: DGREB con datos de INEGI

* Not tripled


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…but exports to Bolivia and Nicaragua, with whom Mexico also has FTAs, have not grown significantly

Exports (Index based on real exports, constant dollars of 1990, semiannual moving average)

Triángulo del Norte

Bolivia

Nicaragua

Unión Europea

Uruguay

* Not doubled

Number of months after FTA

Source: DGREB con datos de INEGI


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The FTAs with Chile and Costa Rica have generated a substantial increase in Mexican imports from them…

Imports (Index based on real imports, constant dollars of 1990, semiannual moving average)

Costa Rica

Chile

Number of months after FTA

Source: DGREB con datos de INEGI


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…just like the FTAs with the United States, Canada, Venezuela, Colombia, Guatemala, Honduras and El Salvador

Imports (Index based on real imports, constant dollars of 1990, semiannual moving average)

Nicaragua

Canadá

G3

EUA

TN

Uruguay

Number of months after FTA

Source: DGREB con datos de INEGI


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The trend in imports from Bolivia and Israel, however, has not changed with the FTAs

Imports (Index based on real imports, constant dollars of 1990, semiannual moving average)

UE

Bolivia

Israel

* Not reached

Number of months after FTA

* Not doubled

Source: DGREB con datos de INEGI


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Contents

Economic performance, trade and investment

The pending agenda

Lessons and policy implications

Conclusions


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A. Low domestic-content integration of Mexican products

  • Relevance of the in-bond sector for manufacturing exports

  • Low domestic-content of goods produced in in-bond plants


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The in-bond industry generates more than 50% of manufacturing exports…

Mexican exports of manufactured goods

(constant billion dollars of 2000)

146

145

137

132

119

45.5%

100

83.8

70.8

56.4

50.6

41.3

37

54.5%

49.9%

50.1%

Source: SRE with INEGI data


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…but it uses very few domestic components…

In-bond industry inputs

(billions of pesos of 2002)

580

543

533

533

521

3.7%

475

440

378

254

96.3%

216

189

184

Source: SRE with INEGI data


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Contents

Economic performance, trade and investment

The pending agenda

Lessons and policy implications

Conclusions


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Lessons

Mexico’s unilateral trade liberalization that took place during the late 1980’s was too fast, too abrupt and without being accompanied with appropriate promotional and supporting policies as well as the necessary sequencing of such policies as to avoid excessive destruction of productive industrial chains and linkages as in effect happened.

By the time the NAFTA was enacted, beginning in 1994, a large proportion of previously existing productive chains in the country’s manufacturing industry had been obliterated by foreign competition.


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3. Free trade cannot address every development problem -it is just one instrument among many in the policymaker’s tool kit

4.Productivity increased by time requires continuous technological innovation and expansion of human capital

5.Export promotion alone does not guarantee the integration of productive chains


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Implications: A few examples

Implement domestic policies to redistribute incomes between the north and the south of the country, which implies the reduction of differences in productivity levels.

Consider the establishment of cross-border, social-cohesion funds to help balance the development process and provide adjustment assistance: the leveling out of availability and quality of physical and telecommunications infrastructure, a drastic reduction in the “digital divide”, and the expansion and spreading of human capital.


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3.Create an environment that favors continuous productivity increases

Invest more in education and training

Improve production processes

Modernize physical and financial infrastructure

Promote technology transfers

4.Seriously consider the possibility of “NAFTA plus” with structural adjustment assistance funds, a customs union, a common market including labor or even EU-style arrangements.


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Contents

Economic performance, trade and investment

The pending agenda

Lessons and implications

Conclusions


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Conclusions - The bad

Free trade has yet to benefit the Mexican south and that is essentially dependent on appropriate development policies adopted by Mexico and development assistance provided by the other NAFTA partners.

Existing dispute settlement procedures have been insufficient to address notable trade controversies (cross-border transportation, agriculture), hence it is necessary to consider the creation of a North American Commission, a permanent North American Court on Trade and Investment that replaces the current NAFTA panels, and possibly even a North American Parliamentary Group.


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The absence of adjustment assistance funds slows down the process of factor reallocation and trade integration and the overall growth potential of the region.

Mexico’s growth has become excessively dependent on the dynamics of the US economy. It has to rely more on its own domestic and third international markets and keep in tune with the US economy’s pace of technological change.


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Conclusions - The good

  • NAFTA provides a stable legal framework for the expansion of trade and investment

    • Significant increase in Mexican trade and benefits for the three parties involved.

    • Significant increase in FDI flows

    • Greater competitiveness of the manufacturing sector

  • NAFTA has helped to spur growth and job creation in Mexico

  • Mexico’s trade negotiating stance in world markets has improved because of NAFTA


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