According to the US census, 34.8% of the United States’ imports in 2018 were from two countries: China and Mexico. Both countries are manufacturing hubs that can export goods at a reduced rate. And American businesses rely on partnerships with manufacturing plants in both countries to reduce labor, shipping, and infrastructure costs. Keeping these expenses low depends heavily on taxes and tariffs.
How these tariffs are structured and how they impact US-based businesses has much to do with government foreign policy. Unless you’ve been living under a rock, you know that President Trump is currently playing hardball with both of these countries, imposing tariffs and trade penalties in an effort to curb what he considers unfair trade practices, such as the theft of intellectual property—looking at you, China.
To arm your business with the necessary knowledge to consider global manufacturing in today’s trade-war-ridden age, let’s take a look at the current state of tariffs in China and Mexico.
Manufacturing in China
Manufacturing has long been known to be a powerful economic force for increasing GDP, lowering unemployment, and raising standards of living. And nowhere has that force been recognized to such a degree than in China over the past forty years. Since the early ‘80s, China has seen exponential GDP growth as a result of proper banking and economic infrastructure and the advancement of manufacturing. Along with this came the investment from foreign companies, especially from the US.
As their infrastructure developed, China imposed strict trade regulations and internal policies that were considered antithetical to foreign businesses. However, because of the cheap labor and relatively light tariffs on Chinese goods, “Made in China,” became popular nomenclature.
In 2016, the US applied the standard tariffs across all products (roughly 1.6% on all imported goods). However, in the last three years, these numbers have been hiked up in a nasty trade war that has companies in both countries reeling from the economic ramifications.
Trade War and Imposed Tariffs with China
It started back in 2018 when President Donald Trump increased US tariffs on Chinese goods and instituted stricter trade barriers. It was an effort to cut back on the growing trade deficit, IP theft, and the enforced transfer of technology from the US to China—practices Trump deemed unfair. What was originally proposed to be a quick deal, has transpired into a trade nightmare with constant threats of increasing consequences.
And the US isn’t the only one throwing punches. China has been imposing its own steep tariff increases as countermeasures to the ones set by the US. For example:
- In retaliation to the Section 232 tariff proposed by Donald Trump, China initiated tariffs ranging from 15% to 25% hikes on an estimated $2.5B of US exports.
- Later, in retaliation to the Section 301 tariff, China issued a four-part tariff list.
- Part 1 – 25% tariff on an estimated $12.9B of US exports
- Part 2 – 25% tariff on an estimated $11.6B of US exports
- Part 3 – 5-25% tariff on an estimated $59.7B of US exports
- Part 4 – 5-10% tariff on an estimated $75B of US exports
Current US Imports from China
For the past twenty years, it seems as though any object you pick up, be it a pencil or a lamp, has had that same engraving on the bottom: Made in China. And it makes sense why: China is the US’s largest supplier, accounting for 21% of all US imports in 2018.
Today, the largest import categories are:
- Electrical machinery – An estimated $152B in 2018
- Machinery – An estimated $117B in 2018
- Furniture and bedding – An estimated $35B in 2018
- Toys and sports equipment – An estimated $27B in 2018
- Plastics – An estimated $19B in 2018
- Agricultural products – An estimated $4.9B in 2018
Manufacturing in Mexico
As the second-largest source of imports, Mexico stands as a manufacturing hotspot that has been gaining an incredible reputation among American businesses since the initiation of NAFTA over 25 years ago. The North American Free Trade Agreement (NAFTA) was a deal signed by the US, Canada, and Mexico to create a free trade zone between the countries. The resulting effects were massively beneficial for Mexico: auto manufacturing jobs in the hundreds of thousands, boost to farming exports, and a conflated interest of investors pouring assets into our southern neighbor.
Grazing over a timeline since NAFTA was signed, you see tariff elimination after tariff elimination. There hasn’t even been the notion of a tariff increase—that is until President Trump took office.
Current Affairs with Mexico
In June of this year, there was a threatened 25% tariff hike that could have significantly damaged Mexico’s economy. Considering 80% of Mexican exports are to the US, Trump figured (correctly) that they would concede to a deal. For the US, Trump wanted more secure borders, and Mexico agreed.
Successfully staving on the tariff crisis, Mexico still enjoys the NAFTA agreement of free trade among neighboring countries—now titled USMCA (more on this later).
Current US Imports from Mexico
One way to sum up the imports from Mexico to the US is: cars. Mexico is responsible for supplying everything from the vehicles themselves down to the electrical appliances to be installed into them. Of course, this isn’t solely what Mexico provides, but cars alone account for nearly 30% of the total imports.
Separated out, US imports from Mexico consist of:
- Vehicles and auto parts – An estimated $93B in 2018
- Electrical machinery and equipment – An estimated $70B in 2018
- Machinery, mechanical parts, or appliances – An estimated $66B in 2018
- Optical equipment and medical devices – An estimated $18B in 2018
- Agriculture (vegetables, fruits, nuts) – An estimated $12B in 2018
- Furniture and bedding – An estimated $10B in 2018
- Plastics – An estimated $7B in 2018
- Iron and steel – An estimated $6B in 2018
Comparing the Two Countries: Which One is More Economical
The advantages of manufacturing in Mexico compared to China may surprise you. When it comes to the tariffs, it’s undoubtedly going to favor Mexico. However, global manufacturing is best compared through a variety of factors, including:
- Policies and regulations
- Tax and tariffs
- Energy, transportation, health, and labor costs
- Workforce quality
- Infrastructure and innovation
The Brookings Institution, a nonprofit public policy organization, conducted an assessment of manufacturing for developing and developed countries across the globe. As a part of their research, they broke each country down with a scorecard that evaluated each of the factors listed above.
Here is what authors West and Lansang determined when putting China and Mexico side by side:
- Policies and regulations – In terms of overall policy, Mexico uses a model that is more pro-business and pro-trade. The extent of corruption favored China slightly, but despite this, Mexico was considered the less risky choice of the two. This, no doubt, has been affected by a trade war with no end in sight.
- Tax policy – China fared better on corporate taxes but fell short when it came to R&D tax credits, government grants, and loans. This speaks to the incentives, such as the IMMEX Program, that provide the free import of raw materials for maquiladoras.
- Costs of manufacturing – The three specific categories taken into account were electricity, oil, and health care costs, of which, China surpassed Mexico only in oil. It should be noted that neither transportation nor labor expenses were included in the analysis—both of which favor Mexico.
- Workforce quality – The workforce quality takes into account everything from productivity and labor support metrics to family income and education spending. China and Mexico fared similarly on the majority of these metrics but outperformed China on higher education spending.
- Infrastructure and innovation – When it comes to established infrastructure and research and development, China has Mexico beat. This makes sense, China has been an established manufacturing powerhouse for the last 30 years, increasing its manufacturing output every year and ranking number 1 for output since 2010. It should be noted, patent filings significantly favored China. However, the theft of intellectual property has been one of the top concerns of manufacturing in China.
Uncertainty: The Unspoken Risk Factor
President Xi Jinping operates without an opposing faction. Some might say the only opposition within a communist party is the people themselves. But without a dedicated party to run against, Xi will go unopposed for the foreseeable future. He even took measures to ensure that, much to the chagrin of the people who still clearly remember the era of Mao Zedong.
In 2018, the National People’s Congress announced a landmark decision to abolish term limits for presidents. This didn’t surprise those who have been following Xi since his early work developing a proper banking system within China and laying the groundwork for its tumultuous economic rise. Those who have worked with Xi know him as a ruthless and intelligent businessman with eyes geared to the future prosperity for the people of China.
Signing a trade deal that doesn’t directly benefit China? Unlikely for President Jinping.
What This Entails About the Ensuing Trade War?
While President Trump must be re-elected to continue the trade negotiations next year, President Xi does not. Trump also has to answer to half the country (i.e., the Democrats) who oppose his deals, whereas again, Xi does not. Thus, it seems clear the strategic positions for both sides:
- China’s president will impose tariffs that directly affect the economies of the US states that voted for Trump in hopes that he won’t be re-elected. By waiting out the next year, Xi could be renegotiating with a new president.
- Trump continues to increase tariffs to end the trade talks and sign a deal that benefits the US before his term is up. Because China relies on ongoing trade more than the US, they won’t be able to outlast this term.
To be clear—this is exactly what has unfolded.
But in a communist regime with no democratic process and no opposition party, who holds the president accountable? It’s this question that strikes at the heart of the risk of manufacturing in China. There’s no certainty these tariffs will cool over the next year. If Trump is re-elected, there are no guarantee trade negotiations will stop for the next five.
American Businesses Reluctant to Wait
The uncertainty amongst these negotiations is enough to put a halt on setting up manufacturing plants in China. American businesses already established in China are starting to partially or completely pull out of China as a result of the ensuing trade disputes, including:
Like many of these massive corporations, there are now many smaller and less established US companies doing business in Mexico.
Final Analysis: (Re)Establishing Manufacturing in Mexico
Across multiple dimensions, Mexico exceeds the manufacturing capacity of China due to the free trade agreement, reduced labor costs in Mexico, and ease of transportation. What’s more, are the continuing tariff hikes imposed by both the American and Chinese governments that are eating away at companies’ bottom lines across the board. Whether your company is considering pulling out of China, or you are interested in establishing your first global manufacturing plant, Mexico is the winning destination.
Benefits of IMMEX and USMCA
Mexico today has the 15th largest economy in the world, with GDP just under $2.6 trillion. Its substantial economic growth in the last twenty years has been attributed to North American trade policies and the rise of manufacturing. More recently, IMMEX and USMCA have benefited the Mexican economy by providing foreign companies with maquiladoras and tariff-free imports on raw materials.
- IMMEX – As a government incentive, IMMEX allows foreign companies to bypass the value tax of 16% on raw imported goods. The stipulation is that these raw goods must be considered “temporary” imports—they must be used to create goods for export.
- USMCA – On November 30, 2018, the United States-Mexico-Canada Agreement, a trade agreement that updated NAFTA, was signed. One of the most significant changes regarded automobiles. For automobiles to be sold tariff-free among the three countries, 75% of their components had to be manufactured in Mexico, Canada, or the US. This was an increase from 62.5%. Because Mexico has the cheapest labor costs, this incentivizes US car companies to deal more with manufacturing in Mexico.
Tariffs, Foreign Policy, and Manufacturing
Dive into something as complex as manufacturing operations in foreign markets, and you’re bound to run into issues. One facet of global manufacturing is how foreign policies affect international trade, and how this can hike up the tariffs placed on imported goods. In the past, China has been the go-to spot for all manufacturing needs. But with the rise of Mexican infrastructure and the impact of tariffs between the US and China, our southern neighbors have become the ideal destination.
When considering a momentous decision of moving manufacturing to Mexico outside of the US, be sure that your strategy involves logistics from location, labor training, and efficient implementation. For expert guidance into manufacturing in Mexico, consider the experts at NAPS.