By Charles Benoit, CPA Trade Counsel
Many businesses are getting serious about moving their supply chains and sourcing out of China, especially those that sell into the U.S. market. The twenty five percent tariffs the U.S. imposes on thousands of products from China are instrumental in driving this shift.
USMCA and CAFTA countries stand to win from this shift. Curiously though, some of these governments are using this window to fight for the ability to increase the amount of Chinese content in the goods they export to the United States.
Mexico benefited from NAFTA; that access was worth a lot
Between 2010 and 2020, vehicle production in Mexico doubled. This wasn’t because the Mexican car market doubled, but rather it was due to NAFTA, which granted Mexican vehicles duty-free access to our market. President Clinton and his Republican Congress gave this to Mexico despite the fact that auto worker wages were about 80 percent lower there. Auto assembly and auto parts plants shut down here and set up there. USMCA at least imposed a $16/hr minimum wage in Mexico for automotive work.
A trade agreement with Central America gave those countries a privileged role in the massive apparel industry
Lesser known than NAFTA is CAFTA-DR, a free trade agreement between the U.S. and Central American countries, and the Dominican Republic.
Have you ever noticed that the t-shirts you buy often say “Made in Guatemala” or another Central American nation? That’s because we still have default tariffs on clothing typically ranging from 10% to 15%, but CAFTA-DR countries enjoy duty-free access. CAFTA-DR was less of a give-away than NAFTA, because duty-free access for apparel shipments is largely predicated on a requirement that the apparel makers in those countries use a certain amount of American-made textiles, depending on the garment. This is known as the “yarn-forward” rule, which is a particular application of what’s known more broadly as a “rule of origin”. Thanks to the yarn-forward rule of origin, America still has a viable textile industry that buys U.S. cotton and employs thousands of workers. Similarly, the $16/hr minimum wage update in USMCA was part of USMCA’s automotive rule of origin. Mexican car companies don’t have to pay $16/hr, but if they don’t, those cars won’t qualify for duty-free treatment under USMCA.
Weakening rules of origin undermines the whole rationale of having a trade deal
Rules of origin are necessary in any free trade agreement. Otherwise, who’s to say what counts as “Made in Mexico”? If we didn’t have rules of origin, a company could import bike frames, gear boxes, wheels and seats from China, assemble them in Mexico, and export the assembled bike to the USA duty-free a “Mexican-made” bicycle.
Now, common sense would dictate that all parties to a free-trade agreement (FTA) have a vested interest in strong rules of origin, so as to benefit their workers and producers. After all, the rationale of FTA supporters is that countries get ‘stronger together’ by maximizing their respective comparative advantages in a single economic union. Their expectation is that this increases the regions’ businesses’ overall ‘global competitiveness’. (Another point of view is that they mainly facilitate increased corporate concentration, and thus drive down economic prosperity, but that’s another column).
Mexican, Canadian, and Central American politicians are betraying their own people by seeking more foreign (read: China) content in their exports to USA
Unfortunately, common sense takes a back seat if it gets in the way of multinational enterprises chasing fatter profit margins, or the desires of the Chinese Communist Party.
So with that in mind, we have a possible explanation for why – less than two weeks after U.S. Trade Representative Katherine Tai visited her counterpart in Mexico City – Mexico announced they were suing the U.S. under USMCA to allow far more non-North American (i.e., Made-in-China) content in the “Mexican-made” vehicles exported to the United States.
Mexico’s Minister for the Economy was pleased when Canada joined her lawsuit too:
Nos da gusto que Canadá ha decidido sumarse a la solicitud de consultas, que solicitamos el pasado 20 de agosto, en relación a la interpretación que EE.UU. hace sobre las Reglas de Origen del sector automotriz contenidas en el #TMEC.
— Tatiana Clouthier (@tatclouthier) August 27, 2021
But why would Mexico be pushing to allow for more overseas content in their vehicle exports to the United States? Is that going to work out well for North American automotive suppliers? No, it won’t. It will work out better for automotive suppliers in China, though. That would be in keeping with the desires of Mexico’s Under Secretary of Foreign Trade. She wants to strengthen Chinese investment:
Hoy celebramos de manera virtual la IX Reunión del Grupo de Trabajo de Alto Nivel (GAN), la cual tuve el honor de presidir con el Viceministro de Comercio de China, Wang Shouwen, con el objetivo de fortalecer la relación de comercio e inversión bilateral.
— Luz María de la Mora (@luzmadelamora) August 20, 2021
Only a handful of actors could benefit from Mexico acting as a mere conduit for goods from China, but at what cost to Mexican workers and society?
La secretaria @tatclouthier sostuvo una reunión con directivos de Amazon, con el objetivo de diseñar proyectos de cooperación con la empresa que deriven en beneficios para nuestro país. pic.twitter.com/lPOlsGslNW
— Economía México (@SE_mx) September 10, 2021
Central American leaders are also playing into China’s hands by seeking to weaken textiles rules of origin in CAFTA-DR
In April, Vice President Harris held a meeting with Guatemala’s president to announce another $310 million in aid from American taxpayers. Guatemala’s President Alejandro Giammattei was happy to take the money, but according to Inside Trade, he had some other ideas for the Vice President. Ideas which would hurt American producers and workers, and in turn, hurt Guatemala’s business stemming from North American supply chains. The President suggested:
“If the [yarn-forward] rules of origin were changed, we would be able to produce enough garments for export within a year, and that would mean 500,000 people who would not have the need to migrate because someone in their family would have a dignified job to face life”
Central American leaders need to ignore false promises by multinational apparel company CEOs
President Giammattei likely got this idea because he was told to expect more apparel manufacturing jobs by multinational apparel companies if the rule was weakened. Lobbyists for these companies have been arguing that “overly strict rules of origin” in CAFTA are making the region less competitive. They want the ability to buy more Made-in-China fabrics for final cutting in Central America, and then export that apparel to the U.S. tariff-free.
If the yarn-forward rule of origin requiring U.S. textile content goes away, these multinationals can buy Chinese textiles instead of American textiles, and fatten their profit margins. So we know why they’re interested in pushing this agenda, and why they’re happy to dangle meaningless promises to get what they want.
But it’s a mistake. President Giammattei shouldn’t listen to stateless multinational brands. The only reason Guatemala and other CAFTA-DR countries haven’t already been completely displaced by Asian apparel companies is because of America’s apparel tariffs, which Guatemalan-made apparel can avoid under the yarn-forward rule of origin. If you pull the string on yarn-forward, you’ll wind up unravelling America’s apparel tariffs altogether, and the apparel industry will leave this continent just like so many others. You don’t compete with China by sourcing from them even more.
Rather than weakening our rules of origin, North American leaders should be united in recapturing market share lost to China
President Giammattei and Minister Cloutier need to change course. Rather than hope for more investment from multinationals by serving as a conduit for China, why not push for increasing tariffs on Chinese apparel (which has serious forced labor issues upstream) to increase their CAFTA trade and raise employment in the trade agreement region?
Let’s raise our default tariffs and strengthen our rules of origin to stop the leaking of production overseas. If we do this, we’ll have a stronger continent.