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NAFTA After Three Years

Published on Saturday, November 01, 1997

Mexico’s gross domestic product (GDP) growth rate has made impressive gains as the economy recovers from the financial crisis that struck the country in December 1994. During the first six months of 1997, Mexico's GDP grew by a very strong annual rate of 7% which was well above expectations. Its climb to 5.1% in 1996 also surprised many analysts after it dipped 6.2% in 1995. As the economy continues to expand, many new Mexican trade and investment opportunities are emerging.

The Mexican Demand for U.S. Products Is Rising

As the Mexican economy builds momentum, U.S. companies are once again finding lucrative markets there. In fact, a larger percentage of U.S. goods are now being sold south of the border racking up impressive numbers. Mexico now accounts for 10% of U.S. worldwide exports of agricultural crops; 23% of U.S. apparel and other textile products; 21% or rubber and plastic products; 17% of fabricated metal products; and 13% of electronic and electric equipment.

From Mexico's perspective, U.S. goods are securing a greater share of their individual import markets. For example, since NAFTA went into effect, Mexico has imported more textiles from the United states than any other country. As a result, the U.S. share of Mexico's textile import market jumped 17.2 percentage points to 86.4% — the largest of any U.S. gain.

U.S. exports of transportation equipment also acquired a significant increased of the Mexican transportation import market by rising 19.2 percentage points to 83.1%. And impressive gains were made in the electronic goods and appliances sector, where U.S. market share rose by 7.5 percentage points to 74.3%. On average, U.S. suppliers' share of total Mexican imports grew from 69.3% to 75.5%.

Despite the recession, increases in sectoral bilateral trade have also become significant. From 1993 through 1996, U.S.-Mexican automotive bilateral trade jumped 185.6%; textile and apparel trade increased by 119%; and agricultural exports plus imports rose by 44%, benefiting both U.S. and Mexican businesses.

Overall, U.S. merchandise exports to Mexico are up significantly. In 1996, they reached almost $57 billion, a 23% increase since 1995, with 44 out of 50 U.S. states experiencing export growth. The prospects this year are even better. In the first four months of 1997, U.S. exports to Mexico virtually equaled U.S. exports to Japan, the United States' second largest export market, even though Japan’s economy is 12 times larger than Mexico’s.

As Mexico's economy continues to grow, its demand for U.S. goods, especially the following ten, will continue to offer U.S. exporters opportunity. These include: automotive parts and equipment, franchising services, building products, pollution control equipment, chemical production machinery, telecommunications equipment, apparel, management consulting services, aircraft and parts, and electronic components.

NAFTA's Impact Thus Far

It is difficult to accurately measure the short-term impact NAFTA, which was implemented only three years ago, has had on the United States for several reasons. For one, many Mexican and U.S. tariffs are still in the process of being phased out, but not yet eliminated. Complicating this is the negative effect Mexico's deep economic and financial crisis, steep fall in output, increase in unemployment, and drop in real wages has had on bilateral trade. Nevertheless, an overall performance of the accord has been made by the Clinton administration and private organizations with similar conclusions.

According to a recent study released by the Clinton administration, “NAFTA had a modest positive effect on U.S. net exports, income, investment and jobs supported by exports.” Several other studies have concluded that NAFTA has resulted in a modest increase in U.S. net exports, controlling for other factors. A new study by DRI estimates that NAFTA boosted real exports to Mexico by $12 billion in 1996, compared to a smaller real increase in imports of $5 billion, controlling for Mexico's financial crisis.

An earlier study by the Dallas Federal Reserve finds that NAFTA raised exports by roughly $7 billion and imports by roughly $4 billion. The relatively greater effect on exports partly reflects the fact that under NAFTA Mexico reduced its tariffs roughly 5 times more than the United States.

DRI estimates that NAFTA contributed $13 billion to U.S. real income and $5 billion to business investment in 1996, controlling for Mexico's financial crisis. These estimates suggest that NAFTA has boosted jobs associated with exports to Mexico between roughly 90,000 and 160,000. The Department of Commerce estimates that the jobs supported by exports generally pay 13 to 16 percent more than the national average for non-supervisory productions positions.

Without the Mexican recession, U.S. exports to Mexico would undoubtedly be higher, generating greater benefits to the United States. Mexico has made deeper cuts in its average tariff rate applied to U.S. products. Since the agreement was implemented, Mexico has reduced its trade barriers on U.S. exports significantly and dismantled a variety of protectionist regulations. Before NAFTA was signed, Mexican tariffs on U.S. goods averaged 10%. Since then, Mexico has reduced this by 7.1 percentage points. This has increased the attractiveness of U.S. goods over European, Japanese, and other foreign country products.

In comparison, U.S. tariffs on Mexican goods averaged only 2.07% and more than half of Mexican imports entered the United States duty-free. Since then, U.S. duties have come down 1.4 percentage points.

Mexico’s Economy is Exceeding Expectations as it Recovers from the Financial Crisis

Published on Wednesday, October 01, 1997

The Mexican economy is making solid gains as it recovers from the financial crisis that struck it in December 1994. The country’s gross domestic product grew by 5.1% in 1996, and climbed at an impressive annual rate of 7% during the first six months of 1997— well above expectations and quite an achievement from its 6.2% decline in 1995.

As the economy continues to expand, Mexican trade and investment opportunities will grow.

U.S. Exports to Mexico Are Rising

U.S. merchandise exports to Mexico have risen significantly. In 1996, they reached almost $57 billion, a 23% increase since 1995, with 44 out of 50 U.S. states experiencing export growth.

And as the demand for U.S. products has grown, the Mexican share of U.S. world exports has become quite impressive. For example, Mexico now accounts for 10% of U.S. worldwide exports of agricultural crops; 23% of U.S. apparel and other textile products; 21% of rubber and plastic products; 17% of fabricated metal products; and 13% of electronic and electric equipment.

Despite the recession, increases in sectorial bilateral trade have also become significant. From 1993 through 1996, U.S.-Mexican automotive bilateral trade jumped 185.6%; textile and apparel trade increased by 119%; and agricultural exports plus imports rose by 44%, benefitting both U.S. and Mexican businesses.

The prospects this year are even better. In the first four months of 1997, U.S. exports to Mexico virtually equalled U.S. exports to Japan — the second largest American export market — even though Japan’s economy is 12 times larger than Mexico’s.

Best Export Prospects

The 10 top U.S. exports to Mexico are:

• Automotive parts and equipment
• Franchising services
• Building products
• Pollution control equipment
• Chemical production machinery
• Telecommunications equipment
• Apparel
• Management consulting services
• Aircraft and parts
• Electronic components.

Florida Exports to Mexico Are Also Up Significantly

Exports from Florida also performed well. During the second quarter of 1997, Florida’s exports to Mexico jumped 27%, compared with the same period in 1996, and reached $225 million. By industry, Florida exports that performed exceptionally well included: apparel and other textile products, which increased 130.1%; industrial machinery and computer equipment, 100%; transportation equipment, 97.3%; food and kindred products, 89.5%; textile mill products, 57%; and electronics and equipment, which expanded by 42%.

NAFTA Three Years Later

The task of isolating the economic effects of NAFTA after a little more than three years of operation is challenging. While Mexico’s tariff cuts have been substantial, its market-opening rules are not fully phased in.

The challenge is compounded by several significant events that have directly affected trade flows. These were: the strong performance of the U.S. economy, Mexico’s financial crisis since the 1930s, and the implementation of tariff cuts by the United States agreed to in the Uruguay Round and implemented in the World Trade Organization (WTO).

Nevertheless, according to a recent study released by the Clinton administration, “NAFTA had a modest positive effect on U.S. net exports, income, investment and jobs supported by exports.” This conclusion is shared by several other studies.

NAFTA’s Effect on Mexican Trade Barriers

Under NAFTA, Mexico has reduced its trade barriers on U.S. exports significantly and dismantled a variety of protectionist regulations. Before NAFTA was signed, Mexican tariffs on U.S. goods averaged 10%. Since then, Mexico has reduced this by 7.1 percentage points. This has increased the attractiveness of U.S. goods over European, Japanese, and other foreign country products.

In comparison, U.S. tariffs on Mexican goods averaged only 2.07% and more than half of Mexican imports entered the United States duty-free. Since then, U.S. duties have come down 1.4 percentage points.

NAFTA’s Effect on Key Sectors

Since NAFTA went into effect, U.S. suppliers have seen their share of Mexican imports grow from 69.3% to 75.5%. The greatest gains are in textiles, where the U.S. share has increased 17.2 percentage points to 86.4%; the transport equipment sector, which gained 19.2 percentage points to 83.1%; and the electronic goods and appliances sector, up 7.5 percentage points to 74.3%.

Weigh All the Factors and Know the Risks

Before entering or expanding into any country, it’s important to ask the right questions — and understand the risks. For example, should you adapt your product to better suit Mexican needs? What are the currency risks? How will you get paid?

It’s important to know the answers to these and other questions, and to understand the factors that could mean the difference between a business success or failure.

Expanding Internationally Through JVs or Acquisitions Can Be Profitable — or Costly

Published on Tuesday, July 01, 1997

Companies in record numbers are expanding internationally. Choosing the right strategy to achieve this can really pay off. Choosing the wrong method, however, can result in serious financial loss.

Most companies typically enter foreign markets through exporting, joint ventures (JVs), strategic alliances, licensing technology or through acquisitions that require direct investment. The strategy that is best for you will depend on your commitment, resources and level of the risk you are willing to incur. Of course, your product or service, the degree of technical support, and the economic, political and cultural environment you are penetrating are also critical.

What Is a Joint Venture and a Strategic Alliance?

A JV is simply a cooperative business venture by two or more companies. Typically, partners will allocate resources, risks, potential rewards, and delegate responsibilities while preserving autonomy.

An international JV can enable you to establish a presence abroad with the assistance of a foreign partner who may provide knowledge of government workings, regulations, internal markets and distribution. This can be particularly valuable to you in unfamiliar territory.

A strategic alliance is similar, yet very different. It may be formed when a company gives authority to another to exploit technology, R&D, or marketing rights, but does not create a separate entity. A typical example is the manufacturer-independent sales rep relationship.

To solidify this arrangement, a handshake or simple written agreement may suffice. It is often less formal and a preliminary step to creating a JV. Consequently, both would allow you to quickly respond to a rapidly changing environment and complement strengths in order to seize opportunities.

Limit Your Risks and Compromise

A small company with limited capital, manpower and the need to limit risks often find a JV ideal. It’s generally safer than an acquisition, especially if a host government legislates policies negatively affecting your business. Or, as a result of social unrest, a coup results in business loss.

On the down side, profits are shared. Various factors can also lead to disagreements over efforts, marketing strategies or differences in management philosophies. Your ability to compromise is essential.

You Can Share Your Technology

Through a licensing agreement, you can authorize a foreign company to use your technology or intellectual property in a market over a certain time period. This may include patents, trademarks and production techniques; or technical, marketing and managerial expertise.

Licensing is particularly attractive to small firms because it affords international expansion while significantly limiting risks. It also usually requires a smaller effort than other strategies. It rarely demands capital investment and does not necessitate that the parties work closely together.

In cases where the foreign market lacks hard currency, restricts the repatriation of profits or direct investment, has high trade barriers, or is politically unstable, licensing may be the only viable strategy.

Licensing also has its disadvantages. You can easily lose control of quality, distribution and marketing policies and support services. If compensation is based on sales volume, you may have to rely on the honesty of the licensee to report units sold. Additionally, earnings are usually less than those provided by most other entry methods.

A typical agreement requires an up-front fee, royalties based on earnings, and consulting or training assistance. Many evolve into JVs, while some JVs or strategic alliances are eventually converted to licensing agreements when interests change.

Foreign Acquisitions Require Sizable Resources — But Offer Large Rewards

Through foreign direct investment, you can acquire an interest in a company in your target market. This method is usually chosen after years of exporting or success has been achieved through a pre-existing JV.

Foreign acquisitions usually require an abundance of resources and the exposure to risk is considerably higher. As a result, large companies are usually better suited.

By the end of 1994, U.S. companies had cumulative direct investments of $612.1 billion in foreign countries. The largest investment destination was the U.K., followed by Canada, Germany, Japan, Switzerland, Bermuda, France, Netherlands, Austria and Brazil.

If you desire controlling interests, your stock purchase will range from 51% to 100%. If successful, the revenue can often exceed profits obtained through other types of expansion methods. Ownership can also put you in the position to accept lucrative government incentives.

Perceptions, Reliable Service and Cultural Affinity Make a Difference

It sometimes makes sense to acquire a manufacturing presence in your target country to satisfy consumers’ demand for domestically produced goods. And because of proximity, both acquisitions and JVs generally allow for effective servicing of their products resulting in satisfied customers that are confident in your company and products.

Establishing a foreign base to service a particular region is also beneficial for cultural reasons. It’s predicted that more U.S. companies operating in Mexico will use the country as a base to service smaller Latin countries. The cultural affinity among the Mexicans and Central and South Americans can make assimilation less difficult and sales easier.

Secure Your Future

Regardless of which method of expansion you choose, mistakes will undoubtedly occur. Expanding internationally can be difficult and costly — but very financially rewarding.

Expanding globally has become a primary key to economic growth in the years to come. But this can’t be achieved without a sufficient level of commitment on your part to cope with the new and rapidly evolving global environment.

Know Your Risks in the Annual Review of the China Most Favored Nation Trade Issue

Published on Tuesday, July 01, 1997

From 1991 through 1995, U.S. exports to the People’s Republic of China increased 86%. And if exports routed to China via Hong Kong were included, the numbers could be 37% higher. The 1.2 billion consumers have become the United States’ 13th largest export market, edging up from 16th place in 1991.

U.S. exports to China support over 200,000 high-wage U.S. jobs. This emerging powerhouse has one of the fastest growing economies and is expected to grow by 10% -12% annually through the year 2000. It’s already the 3rd largest economy and could become the largest early in the 21st century. As its economic strength grows, its need for U.S. goods will increase as well.

Reduction in Chinese Trade Restrictions Are Anticipated to Accelerate U.S. Exports

Many exporters believe that access to China’s market has been hampered, significantly contributing to our large trade deficit. Recent Chinese tariff reductions could positively affect this.

On April 1, China implemented 4,000 tariff reductions on a wide variety of imports, ranging as high as 50% for pharmaceuticals and related chemicals. Coupled with China’s elimination on December 31, 1995, of 176 quantitative restrictions, import controls and licenses, U.S. exports should increase at a further accelerated rate. Many, however, feel much more needs to be done, especially in terms of intellectual property protection.

Other Changes Could Benefit U.S. Exporters

As of last year, some 8,000 Chinese companies had import and export rights. These newly prosperous residents are in a better position to buy U.S. merchandise, including consumer goods.

In February, China began the process of making its currency fully convertible by the year 2000. This will make it easier for Chinese-based companies to import.

The Impact of the China MFN Issue

The annual review process of whether or not to grant China Most Favored Nation (MFN) trading status has made planning difficult for both U.S. importers and exporters. Granting MFN ensures continued access to each others markets.

Denying China MFN would result in the United States imposing such high tariffs on Chinese imports that trade would be severed. In retaliation, China would curtail our imports. This could negatively affect your business if you’re exporting there. Lucrative Chinese contracts and exports would undoubtedly shift to Japanese and European competitors. The myth that U.S. imports would decline would be quickly shattered. Asian low-cost suppliers would quickly fill the gap.

With little at stake in the U.S. market, China would have less incentive to protect intellectual property, or address human rights or nuclear proliferation issues. As a U.S. producer of computer software, for example, the Chinese long-term failure to prevent piracy could become a detriment.

Be Informed and Prepared

The annual China MFN review process can easily be affected by unforeseen non-related issues and events. And this year’s decision can have little impact on next year’s process. Consequently, if you export to China, you must be prepared to identify substitute markets. If you import, it is wise to locate other sources. If you have investments there, know your opportunities, and risks — and have a flexible plan.