Updated 9 months, 3 weeks ago

Trump's trade war implications for Mexico and the US

The first 100 days of a president are often used as a measure of accomplishment. They are also supposed to be a honeymoon, or a period in which the newly appointed president has a high political capital to implement policies. Trump is still far from becoming president and his volatile character makes it hard to know what he would do should he ever make it to the White House; however, some of his pledged policies towards Mexico provide a motive to analyze the implications for the U.S.-Mexico economic relation.

More than trying to make any prediction (actually, most of Trump policies are not legally possible), this article intends to show several facts on the strength of the relationship between Mexico and the U.S. The close ties that these countries share make impossible to imagine the consequences of Trump’s policies. More than a honeymoon, Trump’s 100 first days would be a nightmare. It will take less than that for both countries to witness sharp declines in economic growth.

Mexico is not paying for the wall. It simply will not. Trump has affirmed that if the country denies, he will increase tariffs on Mexican exports and charge fees on remittances sent by Mexican workers. If that ever happens, it is not hard to assume retaliatory tariffs from Mexico. Then, trade would be the immediate mechanism that would affect both countries in a considerable way.

The border between Mexico and the U.S. is one of the busiest in the world, where $1.3 billion in goods where exchanged every day in January 2016 ($40.5 billion in the month). In 2015, Mexico and U.S. traded $531 billion, similar to the size of Argentina’s GDP. That means that every year, the two countries trade an amount of goods worth the value of all final goods and services produced in Argentina.

The effect of a sudden and sharp increase in tariffs for Mexican products is more intuitive. This would probably immerse Mexico in the deepest recession ever seen. International commerce would simply implode. In its open economy, trade flow represented 70% of its GDP in 2015. Only exports to the U.S. constituted 71% of total exports and 24.7% of Mexico’s GDP the same year.

The Mexican economy is also highly dependent on foreign direct investment (FDI) coming from the U.S. During 2015, Mexico received $28.4 billion in FDI. Around 53% came from the United States, most of which was invested in the manufacturing industry. Without the preferential access to the U.S., companies would have fewer incentives to open factories in Mexico. Car manufacturers would leave and the country would witness a considerable disinvestment in many sectors.

The deterioration of the economy would also trigger a departure of portfolio investments. Around 35% of local denominated governmental bonds, equivalent to more than $115 billion, are in the hands of foreigners. This is a higher share than other emerging markets such as Hungary (16%), Malaysia (25%) or Brazil (19%). The sudden selloff the Mexican peso would cause a sharp depreciation of the currency. The central bank, Banxico, would be forced to intervene selling reserves and increasing the interest rate significantly. This would weaken economic growth even more.

Trump’s planed fees on remittances would end asphyxiating the inflows of USDs to Mexico. Remittances became the second largest contributor of dollar inflows to Mexico after FDI. The money sent by Mexican workers in the US to their homes in 2015 reached $24.8 billion, which, for the first time, was larger than the $23.4 billion of Mexican oil exports.

What Trump and his supporters do not realize is the impact that the Mexican collapse would have in U.S. Again, trade would be the where the contagion starts; Mexico is the second largest importer and exporter of goods for the U.S.  In Figure one, it is possible to see the share that Mexico represents for US imports and exports by state.

In terms of exports, Mexico is the main destination of products from California, Arizona, New Mexico and Texas. For other 26 states, Mexico is the second largest importer. New Mexico (44%), Arizona (40%), Texas (37%) and South Dakota (28%) are the states that sent in 2015 a larger share of their exports to the southern neighbor. Mexico buys nine times what China buys from Texas, an equivalent to 5.7% of Texas’ GDP every year—Texas has the second largest economy in the U.S.

Mexico displaced Canada as the second largest supplier of goods to the U.S. last year. It sends around $24 billion every month. Here, Arizona (39%), Michigan (35%), Texas (33%), New Mexico (28%) and Utah (28%) are the states that bought in 2015 a larger share of their imports from Mexico. In the case of imports, 13 states have Mexico as its first or second largest partner; however, the importance of Mexico in some cases is striking. Michigan buys from Mexico an equivalent to 9.5% of its GDP every year. Practically all of it related to the auto industry.

One might be inclined to think that a decrease in exports to Mexico would hit the U.S. economy harder than a decrease in imports. This might not be the case for many states. Higher tariffs for Mexican products would not only cause inflation in the tomatoes that U.S. imports, it will affect the sophisticated intra industry trade that exists between the two countries.

Mexico and the U.S. make millions of products together. Supply chains are deeply integrated. Take cars for instance, which explain most of the trade that Mexico has with the Midwest. It all starts with energy. Mexico doubled in the last three years the import capacity of natural gas from the U.S., reaching around 4bcf/d in 2015. With the Ramones pipeline and other projects that the Mexican government is currently building, Mexico will import around 11bcf/d by 2018. Most of the natural gas comes from Texas and it is being used to manufacture seats and engines in Mexico that are sent to Michigan, Missouri, Kentucky and South Dakota.  To this states, Mexico also sends crude oil, so US companies can built on the parts sent from Mexico and return them, so cars can be ensemble in Silao, Mexico.

With more expensive products coming from Mexico, or without Mexican products at all, U.S. manufacturers would lose competitiveness or have a hard time to produce their final goods. Only the states at the border, plus Iowa, Missouri and Michigan, which have closer ties with Mexico as importers and exporters, represent 30% of U.S. GDP. A deep recession in these states would drag the U.S. economy, which has not been able to consolidate its recovery from 2008 financial crisis. Trump’s wall and tariffs would blow him in the face within his first 100 days.

Policy and markets in Latin America |Fernando Posadas