Mexico in the Context of Global Trade Tensions

Mexico in the context of global trade tensions Aldo Heffner*/ February 27, 2020

*/ The opinions and points of view expressed do not necessarily represent the institutional position of the Bank of Mexico or its Board of Governors.

Index 1

Trade tensions at a global and regional scale

2

Trade diversion

3

Possible long-term effects of US-China trade tensions

4

Recent developments in the (non-oil) trade balance

5

Final remarks 1

Introduction 

Rising protectionism can be singled out as one of the main risks facing the world economy.



In particular, there is uncertainty regarding the extent of the distortions that such measures could have on global trade and productive processes.



There is also uncertainty about the effect that tariff measures and the deterioration in international trade conditions could have on the global economy, investment and global trade in the short and medium terms.



Over a longer horizon, the effect of protectionist measures on Global Value Chains (GVCs) have the potential to magnify their adverse impact on global output.



In this context, Mexico has faced its own share of trade tensions, such as the renegotiation of NAFTA.  Recently, Mexico, the United States and Canada reached an agreement to update NAFTA, although its ratification by Canada’s parliament is still pending.

 The new Treaty (USMCA) may have overall positive results on Mexico’s trading conditions vis-à-vis a cancellation of NAFTA and may improve investment incentives within the country, but vis-à-vis NAFTA, at least some relevant sectors may be adversely affected (e.g. auto sector).

2

Auto sector: What is new in USMCA relative to NAFTA? ď Ž

Relative to NAFTA, USMCA imposes new conditions for tariff-free trade in the auto sector among Mexico, Canada, and the United States. These new conditions imply a tightening in the rule of origin requirements for auto trade in North America.

ď Ž

For the auto sector there are four important changes in USMCA relative to NAFTA: 1.

Regional Value Content (RVC): increase in the percentage required for automobiles and light trucks from 62.5% to 75%, and from 60% to 70% for heavy trucks.

2.

Requirements for vehicle parts content: change from one content requirement level (62.5%) to three groups with different thresholds. i.

Core parts (RVC of 75%)

ii.

Principal parts (RVC of 70%)

iii.

Complementary parts (RVC of 65%)

3.

North American sourcing of metals: at least 70% of the steel and aluminum used in the manufacture of cars and small trucks must originate in the USA, Canada or Mexico.

4.

Labor Value Content (LVC): 40% of the materials for cars and 45% of the content for light trucks must be produced by regional enterprises that pay workers at least $16 per hour.1/

1/ The USMCA does not provide for the USD $16 an hour wage rate to increase with inflation nor for the Parties to periodically update the rate threshold.

3

A tightening in rules of origin requirements has the potential to achieve an outcome opposite to its intended objective, as local content can decrease if the burden of compliance is too high relative to the alternative.

With no change in the conditions for MFN trade for the automotive sector in the NAFTA region, the transition from NAFTA to USMCA could imply that at the margin less automotive trade will use the benefits of the Treaty.

Regional content and rules of origin at the firm level

Regional content and rules of origin at the industry level

Source: Freund, Caroline. (2017). “Streamlining Rules of Origin in NAFTA�. Peterson Institute for International Economics.

4

Automotive Sector under USMCA 

In what follows we present the results of an exercise based on a quantitative general equilibrium trade model (see Costinot and Rodríguez-Clare [2014]) in which we compare, relative to the initial starting point of “NAFTA”, two counterfactual scenarios: a) Imposing the RVC and LVC conditions of the USMCA for automotive trade in the region.

b) Imposing MFN tariffs for North American trade in the auto sector. 

To properly interpret the results of this exercise, it is important to keep in mind that this exercise only contemplates the general equilibrium implications of changes to the barriers that shape automotive trade in the region. The shift from NAFTA to USMCA contemplates changes in other sectors that are not being considered for the purposes of this exercise, and can have important macroeconomic consequences (i.e. reduce uncertainty) that are not accounted for. In addition, important assumptions had to be made in order to map RVC and LVC requirements into the model.

5

Comparative statics: Transition from NAFTA to USMCA in the automotive sector Effect on Real Output of Transport Equipment

Effect on Prices of Transport Equipment

Percent

Percent

1.0

2.8

0.0

2.4

-1.0 2.0 -2.0

Labor Value Content 1/

1.6

-3.0 Regional Value Content 2/

1.2

-4.0 Most Favoured Nation

Labor Value Content 1/

-5.0

0.8

Regional Value Content 2/

-6.0 Most Favoured Nation

0.4 -7.0

Japan

United Kingdom

Korea

Germany

Italy

France

China

United States

Canada

0.0 Mexico

Japan

United Kingdom

Korea

Germany

Italy

France

China

United States

Canada

Mexico

-8.0

1/ Introduced like an iceberg cost of 2.4% of transport equipment from Mexico to other USMCA partners estimated to capture the requirement of 40% of a car must be made in a plant where workers earn at least $16 per hour.

2/ Based on ad valorem equivalents of non-tariff measures obtained from Burfisher et al. (2019) , adjusted for percentage use of tariff free treatment.

Source: Elaborated by Banco de Mexico with data from the World Input-Output Database 2016, based on Costinot, A., & Rodríguez-Clare, A. (2014) “Trade Theory with Numbers: Quantifying the Consequences of Globalization”.

Handbook of International Economics, Volume 4, 197-261 and WTO Integrated Data Base (IDB).

Determinantes de la Inflación

6

Comparative statics: Transition from NAFTA to USMCA in the automotive sector Effect on Sales of Transport Equipment Destination Market Percent Seller: Canada

1

1

0

0

0

-1

-1

-1

-2

-2

-2

-3

-3

-3

Buyer

-4 -5

Domestic sales

-5

Outside USMCA

Domestic Sales

Outside USMCA

Most Favoured Nation

-5

Labor Value Content 1/ Regional Value Content 2/ Most Favoured Nation

-4

United States

Regional Value Content 2/

Mexico

Labor Value Content 1/

-4

Mexico

Domestic sales

Outside USMCA

Canada

United States

Labor Value Content 1/ Regional Value Content 2/ Most Favoured Nation

Buyer

Seller: United States

1

Canada

Seller: Mexico

Buyer

1/ Introduced like an iceberg cost of 2.4% of transport equipment from Mexico to other USMCA partners estimated to capture the requirement of 40% of a car must be made in a plant where workers earn at least $16 per hour.

2/ Based on ad valorem equivalents of non-tariff measures obtained from Burfisher et al. (2019) , adjusted for percentage use of tariff free treatment.

Source: Elaborated by Banco de Mexico with data from the World Input-Output Database 2016, based on Costinot, A., & Rodríguez-Clare, A. (2014) “Trade Theory with Numbers: Quantifying the Consequences of Globalization”.

Handbook of International Economics, Volume 4, 197-261 and WTO Integrated Data Base (IDB).

Determinantes de la Inflación

7

Long term effects of transition from NAFTA to USMCA in the automotive sector Effect on Light Vehicle Production*

Effect on GDP*

Thousands of units

Percent

0

0.00 -0.10

Thousands of units

-50

-0.20 -100

-0.30

-150

-0.40 -0.50

-200

-250

RVC+LVC

-0.60

MFN

-0.70

RVC+LVC

-300

MFN

-0.80 Mexico

Canada

United States

Mexico

* Note: Calculated by applying the percent losses estimated for transport equipment sector output in the counterfactual exercises to each country’s light vehicle production for 2018.

Source: Banco de Mexico with data from Automotive News, Canada´s National Statistical Agency, U.S. BEA, OCDE and INEGI.

Canada

United States

* Note: Calculated by running the percent losses estimated for transport equipment sector output in the counterfactual exercises through each country’s input-output table (as available from the OECD).

Source: Banxico with data from Automotive News, Canada´s National Statistical Agency, U.S. BEA, OCDE e INEGI.

Determinantes de la Inflación

8

Index 1

Trade tensions at a global and regional scale

2

Trade diversion

3

Possible long-term effects of US-China trade tensions

4

Recent developments in the (non-oil) trade balance

5

Final remarks 9

Trade diversion gains for Mexico from the US-China trade war 

In a context of a moderation in global economic activity, the escalation of bilateral trade tensions between the United States and various countries has affected international trade patterns.



It is natural to assume that US-China trade disputes could in principle divert trade to Mexico.



Indeed, Mexico's share in US imports has been increasing while that of China has decreased.  Although the imposition of higher tariffs on China by the US can explain, in part, the greater share of Mexico in US imports, the total gain is not completely attributable to those tariffs.

 The evidence suggests that this increase can be partly associated with greater participation in goods in which China had no presence in the US market before any tariff changes came into effect.

10

Share of U.S. Total Imports Percentage; s. a.

28.5

25.5

25.0

22.0

21.5

76

65

18.5

China

China 18.0

54

Rest of the World

43

15.0

Mexico

32 11.5

Jul-19

Jan-19

Jul-18

Jan-18

Jul-17

Jan-17

Jul-16

Jan-16

Dec-19

Dec

8.0

Jul-15

Jul-19

Jan-19

Jul-18

Jan-18

Jul-17

Jan-17

Jul-16

Jan-16

Jul-15

Jan-15

Dec-19

Dec

11.0

21

Jan-15

14.5

10

*The vertical dotted lines indicate the month when each list became effective; July, August and September of 2018 for lists 1, 2, 3 and September of 2019 for list 4, respectively. s. a. / Seasonally adjusted data.

Source: Banco de MĂŠxico with data from U.S. Department of Commerce.

11

Cumulative Change on U.S. Imports' Share Average share between July 2018 and the specified period vs. July 2017-June 2018, percentage points Mexico

China

July 2018 – December 2019 vs. July 2017 – June 2018

2

2

1

1

0

0

2 0.6

0.5

0.3

0.3

0.3

0.2

0.1

0.1

0.1

1

0.1

0 -1 -0.6

-2

Rest

Singapore

India

Korea, South

Switzerland

United Kingdom

Taiwan

Ireland

Netherlands

-3

Vietnam

-3

Jul-18 Aug-18 Sep-18 Oct-18 Nov-18 Dec-18 Jan-19 Feb-19 Mar-19 Apr-19 May-19 Jun-19 Jul-19 Aug-19 Sep-19 Oct-19 Nov-19 Dec-19

-3

-2

-2.1

Mexico

-2

Jul-18 Aug-18 Sep-18 Oct-18 Nov-18 Dec-18 Jan-19 Feb-19 Mar-19 Apr-19 May-19 Jun-19 Jul-19 Aug-19 Sep-19 Oct-19 Nov-19 Dec-19

Without additional tariffs With additional tariffs (L4*) With additional tariffs (L1, L2 and L3) Total

-1 Without additional tariffs With additional tariffs (L4*) With additional tariffs (L1, L2 and L3) Total

China

-1

With additional tariffs (L1, L2 and L3) With additional tariffs (L4*) Without additional tariffs

Excluding HTS Subheadings where China had no share in 2017 (such as oil and most vehicles**) 2

2

1

1

2 0.6

0.4

0.4

0.3

0.3

0.2

0.1

0.1

0.1

1

0.1

0 0

Rest

Singapore

India

France

Korea, South

United Kingdom

Taiwan

Ireland

-3

-2 -3

Netherlands

-3

-2

Vietnam

-2

-1 -0.2

-2.4

Jul-18 Aug-18 Sep-18 Oct-18 Nov-18 Dec-18 Jan-19 Feb-19 Mar-19 Apr-19 May-19 Jun-19 Jul-19 Aug-19 Sep-19 Oct-19 Nov-19 Dec-19

Jul-18 Aug-18 Sep-18 Oct-18 Nov-18 Dec-18 Jan-19 Feb-19 Mar-19 Apr-19 May-19 Jun-19 Jul-19 Aug-19 Sep-19 Oct-19 Nov-19 Dec-19

Without additional tariffs With additional tariffs (L4*) With additional tariffs (L1, L2 and L3) Total

-1 Without additional tariffs With additional tariffs (L4*) With additional tariffs (L1, L2 and L3) Total

China

-1

Mexico

0

With additional tariffs (L1, L2 and L3) With additional tariffs (L4*) Without additional tariffs

*The vertical dotted lines indicate the month when each list became effective; July, August and September of 2018 for lists 1, 2 and 3, respectively, and September of 2019 for list 4. **Around 80% of the value of total U.S. imports of light vehicles is excluded from the analysis, because China had no share in 2017 in the products that make up this item.

Source: Banco de México with data from U.S. Department of Commerce. For more details, see Box 2 in the Jan-Mar 2019 Quarterly Report.

12

Decomposition of the Cumulative Change in Mexico's Share in U.S. Imports, excluding HTS Subheadings where China had no share in 2017 (such as oil and most vehicles*) Average share on the specified period vs. July 2017 - June 2018, percentage points

0.6

0.6 0.4

0.2

0.2

0.2

0.0

0.0

0.0

-0.2

-0.2

-0.2

-0.6

-0.4 -0.6

Nov-19 Dec-19

Jul-19

May-19

Mar-19

Jan-19

Sep-19

December

-0.8

Sep-18

Nov-19 Dec-19

Jul-19

May-19

Mar-19

Jan-19

Sep-19

December

-0.8

Jul-18

-0.6

Optical and measuring instruments Electrical machinery Mechanical machinery Rest

-0.4

Nov-18

Electrical machinery Vehicles Mechanical machinery Rest

-0.4

Sep-18

Nov-19 Dec-19

Sep-19

Jul-19

May-19

Mar-19

Jan-19

Nov-18

Sep-18

Jul-18

December

0.6 0.4

Jul-18

Optical and measuring instruments Beverages, spirits and vinegar Vehicles Mechanical machinery Rest

Without Additional Tariffs by U.S. to China

0.4

Nov-18

Total

With Additional Tariffs by U.S. to China

*Around 80% of the value of total U.S. imports of light vehicles is excluded from the analysis, because China had no share in 2017 in the products that make up this item.

Source: Banco de MĂŠxico with data from U.S. Department of Commerce.

13

-0.8

Index 1

Trade tensions at a global and regional scale

2

Trade diversion

3

Possible long-term effects of US-China trade tensions

4

Recent developments in the (non-oil) trade balance

5

Final remarks 14

Estimation of long-term effects and spillovers from US-China trade tensions ď Ž

In what follows we present the results of another exercise based on a quantitative general equilibrium trade model (see Costinot and RodrĂ­guez-Clare [2014]) in which we estimate how the recent Phase 1 agreement between the US and China could influence long-term economic activity in these countries, as well as the potential spillovers of these measures to third countries.

ď Ž

To properly interpret the results of this exercise, it is important to keep in mind that this exercise only contemplates the general equilibrium implications of changes to trade barriers. The effects that this agreement could have on trade policy uncertainty, and the subsequent implications for investment and consumption decisions, are not captured by this exercise.

15

Phase One Deal Potential Spillovers Effect on Real Output

Effect on Prices

Percent

Percent

Prior to agreement

0.10

0.4

0.05

0.3

0.00

0.2

-0.05

0.1

-0.10

0.0

-0.15

-0.1 Prior to agreement

-0.20

Phase 1 (tariff reduction)

Phase 1 (tariff reduction) -0.25

Mexico

US

Canada

UK

France

Italy

Taiwan

Germany

Brazil

Japan

Russia

South Korea

-0.4

Australia

China

US

Australia

Brazil

Japan

France

Italy

Russia

UK

Germany

South Korea

Canada

Taiwan

-0.30

-0.3

Phase 1 (tariff reduction & larger quotas)

China

Phase 1 (tariff reduction & larger quotas)

Mexico

-0.2

Note: The “Phase 1” deal scenario includes the reduction of tariff rates from 15% to 7.5% on 110 billion dollars of imports from China (September 1 list), the indefinite delay of 15% on 150 billion dollars scheduled for December and the exclusion and tariff reduction lists published by China.

Source: Banco de Mexico and World Input-Output Database 2016, based on Costinot, A., & Rodríguez-Clare, A. (2014) “Trade Theory with Numbers: Quantifying the Consequences of Globalization”. Handbook of International Economics, Volume 4, 197-261.

Determinantes de la Inflación

16

Index 1

Trade tensions at a global and regional scale

2

Trade diversion

3

Possible long-term effects of US-China trade tensions

4

Recent developments in the (non-oil) trade balance

5

Final remarks 17

Mexico: Trade Balance and Current Account Foreign trade: Merchandise trade balance of Mexico U.S. Billions of dollars, s. a.

Total Non-Oil Products 12

12

Total Oil Products Non-Oil Products

9

6

6

100

3

0

0

80

-3

-6

-6

60

-9

-12

-12

2019-IV

2019-I

2017-I

2016-I

2015-I

2014-I

2013-I

2012-I

2018-I

IV Quarter

40

2011-I

2019-IV

2019-I

2018-I

2017-I

2016-I

2015-I

2014-I

2013-I

2012-I

IV Quarter

2011-I

2019-IV

2019-I

2018-I

2017-I

2016-I

2015-I

2014-I

2013-I

2012-I

120 Total Exports Imports

IV Quarter

2011-I

Current Account U.S. Billions of dollars

s. a./ seasonally adjusted Source: Banco de MĂŠxico with data from PMI Comercio Internacional, S.A. de C.V; and SAT, SE, Banco de MĂŠxico, INEGI. Merchandise Trade Balance. SNIEG. Information of National Interest.

18

18

-15

Mexico: Unit Value Index and Implicit Volume of Non-Oil Product Imports Index 2015 = 100 Consumer Goods

Intermediate Goods

150

140

150

Capital Goods* 124

150

124

Unit Value Index

Unit Value Index

Unit Value Index

Implicit Volume s. a.

Implicit Volume s. a.

Implicit Volume s. a.

125

120

125

112

125

112

100

100

100

100

100

100

75

80

75

88

75

88

60

50

76

50

IV Quarter

2005-I 2006-I 2007-I 2008-I 2009-I 2010-I 2011-I 2012-I 2013-I 2014-I 2015-I 2016-I 2017-I 2018-I 2019-I 2019-IV

IV Quarter

2005-I 2006-I 2007-I 2008-I 2009-I 2010-I 2011-I 2012-I 2013-I 2014-I 2015-I 2016-I 2017-I 2018-I 2019-I 2019-IV

IV Quarter

2005-I 2006-I 2007-I 2008-I 2009-I 2010-I 2011-I 2012-I 2013-I 2014-I 2015-I 2016-I 2017-I 2018-I 2019-I 2019-IV

50

* The graph is presented in 3-quarter moving averages due to the high volatility of the original series. s. a./ seasonally adjusted.

Source: Banco de México with data from PMI Comercio Internacional, S.A. de C.V; and SAT, SE, Banco de México and INEGI. Merchandise Trade Balance. SNIEG. Information of National Interest.

Determinantes de la Inflación

19

76

Mexico: Unit Value Index and Implicit Volume of Exports Index 2015 = 100 Total

Oil Products

150

140

Non-Oil Products

175

310

150

130

Unit Value Index

Unit Value Index

Unit Value Index

Implicit Volume s. a.

Implicit Volume s. a.

Implicit Volume s. a.

125

120

150

240

125

115

100

100

125

170

100

100

75

80

100

100

75

85

60

75

30

50

IV Quarter

2005-I 2006-I 2007-I 2008-I 2009-I 2010-I 2011-I 2012-I 2013-I 2014-I 2015-I 2016-I 2017-I 2018-I 2019-I 2019-IV

IV Quarter

2005-I 2006-I 2007-I 2008-I 2009-I 2010-I 2011-I 2012-I 2013-I 2014-I 2015-I 2016-I 2017-I 2018-I 2019-I 2019-IV

IV Quarter

2005-I 2006-I 2007-I 2008-I 2009-I 2010-I 2011-I 2012-I 2013-I 2014-I 2015-I 2016-I 2017-I 2018-I 2019-I 2019-IV

50

s. a./ seasonally adjusted.

Source: Banco de México with data from PMI Comercio Internacional, S.A. de C.V; and SAT, SE, Banco de México and INEGI. Merchandise Trade Balance. SNIEG. Information of National Interest.

Determinantes de la Inflación

20

70

Mexico: Anual Change in the Non-oil Trade Balance Estimates of Price and Quantity Effects* U.S. Billions of dollars Total

Automotive Products 20

Price Imports Quantity Imports Price Exports Quantity Exports Balance

10

5

10

0

0

0

-10

-5

-10

IV Quarter

IV Quarter

IV Quarter

2019-IV

2019-III

2018-III

2018-I

2017-III

2017-I

2016-III

2016-I

2015-III

-20

2015-I

2019-IV

2019-III

2019-I

2018-III

2018-I

2017-III

2017-I

2016-III

2016-I

2015-III

-10

2015-I

2019-IV

2019-III

2019-I

2018-III

2018-I

2017-III

2017-I

2016-III

2016-I

2015-III

-20

2015-I

20

Price Imports Quantity Imports Price Exports Quantity Exports Balance

2019-I

Price Imports Quantity Imports Price Exports Quantity Exports Balance

Non-Automotive Products 10

*A positive change on imports (both, quantity and price) indicates a reduction.

Source: Banco de México with data from PMI Comercio Internacional, S.A. de C.V; and SAT, SE, Banco de México, INEGI. Merchandise Trade Balance. SNIEG. Information of National Interest.

21

Mexico, Non-Oil Products: Terms of Trade and Price and Quantity Effects

Non-Oil Products: Unit Value Index (UVI) and Terms of Trade Index 2015 = 100 , 3-quarter moving average

Anual Change in the Non-oil Trade Balance Estimates of Price and Quantity Effects U.S. Millions of dollars

110

Between 2016 y 2017

Between 2017 y 2018

Between 2018 y 2019

+

+

+

105

D Export.

100

Quantity Effect Price Effect

95

Total

-

=

D Import.

D Non Oil Trade Balance

D Export.

-

=

D Import.

D Non Oil Trade Balance

D Export.

-

=

D Import.

D Non Oil Trade Balance

20,664

9,856

10,808

21,489

15,995

5,494

13,159

5,368

7,790

9,920

13,024

-3,104

12,887

16,161

-3,274

1,889

-7,821

9,709

30,584

22,880

7,704

34,376

32,156

2,219

15,047

-2,452

17,500

UVI of Exports UVI of Imports

2019-IV

2019-I

IV Quarter

2018-I

2017-I

2016-I

2015-I

Terms of Trade

90

The change in the value of trade in the product s can be expressed as: Quantity Effect

Price Effect

Source: Banco de México with data from PMI Comercio Internacional, S.A. de C.V; and SAT, SE, Banco de México, INEGI. Merchandise Trade Balance. SNIEG. Information of National Interest.

22

Index 1

Trade tensions at a global and regional scale

2

Trade diversion

3

Possible long-term effects of US-China trade tensions

4

Recent developments in the (non-oil) trade balance

23

Final Remarks 

The Phase 1 agreement between the US and China, and the ratification of the USMCA in the US have significantly reduced trade tensions and trade policy uncertainty.



However, some tensions remains, such that trade policy uncertainty and rising protectionism still pose challenges for the world economy, particularly in terms of their impact on GVCs.



In the case of Mexico:  There is some evidence suggesting that Mexico has benefitted from the trade diversion caused by US-China trade disputes, but…

 These “gains” may be short-lived if trade tensions lead to a further slowdown of global economic activity, larger trade distortions and a break-up of GVC.  Trade balance adjustments, both in terms of prices and quantities, may also be reflecting the effects of trade tensions and trade diversion.

24