For Mexico, an Edge on China

Posted on September 18, 2012


China’s rising wages and slowing growth present a chance for Mexico to wrest back some of the business that chased cheap labor across the Pacific in the past decade, when Chinese wages averaged a quarter of Mexican pay.

Mexico may already be a less-expensive place to make an array of products for the U.S. market, said Boston Consulting Group, which estimates that China’s average manufacturing wage topped Mexico’s this year, when accounting for differences in productivity. Mexican workers typically produce more per hour than Chinese workers, and the proximity to the U.S. means companies can ship faster and often at a lower cost to American customers.

St. Louis-based Viasystems Group Inc.,VIAS -4.08% which makes industrial cabinets, shifted some work back to Mexico from China in the past year. “It took our clients a few years to react to rising costs in China. But now they are definitely getting much more interested in making things here,” said Homero Galindo, head of Viasystems in Mexico.

China still retains enormous advantages, including a billion consumers. As Chinese wages rise, those consumers will have more money to spend on products rather than simply make them for the rest of the world.

And few expect a wholesale rush back to Mexico. The drug war there scares away new business, and the country has built neither the skilled labor pool nor parts-supply chain to mount a serious challenge to China’s manufacturing prowess.

But as Chinese wages continue to rise, Mexico looks the best-placed to benefit. Mexico, which exports more than all the rest of Latin America combined, was the least-expensive place outside the U.S. to manufacture for the U.S. market, according to a December 2011 survey by consulting firm Alix Partners.

Factories along the U.S. border in Mexico can supply American markets more quickly than those in Asia, especially with products that rely on custom designs or the whims of fashion.

Customers who buy a Dell Inc. computer at a big-box retailer get a product made by Foxconn in China. But shoppers on the company’s website can customize their orders—adding, say, more memory or a lotus-pink cover. Those computers are assembled and delivered from a sprawling 1,200-acre Foxconn plant near Ciudad Juárez, which churns out as many as 35,000 laptop and desktop computers a day. “We can have a truck on the U.S. side in a few hours,” said Francisco Uranga, Foxconn’s head of business development for Mexico.

Mexico also is attractive for items that are bulky or costly to transport. Auto production in Mexico has hit record levels, and a number of non-U.S. car makers, including Nissan Motor Co. and Volkswagen AG, are planning multibillion-dollar factories there.

A return of business to Mexico also would benefit the U.S. American companies earn 37 cents for every dollar that Mexico exports because Mexican companies rely heavily on U.S.-made parts. The ratio is far lower for Chinese firms, which use mostly locally made inputs. Plus, more jobs south of the U.S.-Mexico border reduces incentives for illegal immigration north.

In the past decade, no country has been hurt more by China’s rise than Mexico, which had been an emerging-market pioneer since signing a free-trade deal with the U.S. that took effect in 1994.

Mexico got an initial lift from the deal. But many companies that set up operations in Mexico later moved to China, where rock-bottom wages more than offset Mexico’s tariff advantages.

China now exports about $1.9 trillion worth of goods a year world-wide, about five times as much in dollar terms as Mexico. A decade ago, China exported about double Mexico’s tally. Since then, the average wage across China has climbed to $2.50 an hour, including benefits, from 60 cents in 2000, according to Flextronics InternationalLtd., FLEX -2.46% a Singapore-based electronics maker with 40,000 workers in Mexico and 100,000 in China.

Mexico’s average wage, including benefits, is about $3.50 an hour, the company said. In coming years, the company said, wages in China will likely top those in Mexico.

“We believe that Mexico will benefit from these changes, but we don’t think it will be a wholesale rush into Mexico,” said Harold Sirkin, a consultant who studies global competitiveness at Boston Consulting Group.

The goal of Chinese policy makers is to boost wages, even if that means relinquishing the role of cheapest producer—along with its lowest-paying jobs—to other countries. For companies, the plus side of rising wages in China is wealthier consumers. “It might be a little more expensive to produce in China for export, but it also means a rising consumer base,” said Mike McNamara, CEO of Flextronics. “So if you’re selling in China, too, then it may make sense to just produce there rather than split up operations in different locations.”

Mexico’s attractions have yet to add up in a big way. Last year, the country drew $19.44 billion in foreign direct investment, down slightly from $20.21 billion in 2010, and well below the $26.9 billion invested in 2008.

Mexico has, however, made gains in its share of annual U.S. imports, climbing to nearly 12% last year from 10% in 2009, according to the U.S. Census Bureau. China, which had been gaining market share consistently, saw its share fall slightly to 18% from 19% in 2010.

“If you think about currency, wage appreciation and other taxes in China—all are becoming a relatively strong headwind,” said Bill Muir, executive vice president for manufacturing at Jabil Circuit Inc., JBL -0.40% a Florida-based electronics maker.

A few years ago, making washing machines was only worthwhile in Mexico if a manufacturer expected 30% to 40% of the machines to need expedited shipment. But now that figure can be as low as 10% for it to make sense to choose Mexico, Mr. Muir said.

The main thing holding Mexico back, he said, is violence. An estimated 16,000 people died in drug-related homicides last year and more than 50,000 in the past five years. According to a 2011 United Nations report, Mexico’s homicide rate was 18.1 people per 100,000 in 2010, compared with a per capita rate of about five in the U.S. and 1.1 in China. “It’s a tragic irony, because if there’s one time that Mexico has improved on a competitive basis, it’s during the past five years,” Mr. Muir said. “But that’s also a time when Mexico’s security situation really deteriorated.”

Mexico has developed a strong supply chain in some industries like automotive and aerospace, but it still lacks a spectrum of suppliers to rival China’s.

For the past 15 years, Mexico has trumpeted its macroeconomic management, but the country has failed to pass significant economic overhauls to boost competitiveness. Analysts cite the national energy monopoly and labor rules as well as weak tax collection—which at 12% of annual economic output leaves little money for investing in infrastructure or education.

The country slid 16 places to No. 58 in the global competitiveness rankings of the World Economic Forum from 2001 to 2011. China, meanwhile, has climbed to No. 26 from 39 in 2001, when it was roughly on a par with Mexico. Key areas where Mexico is lagging behind include security (139th), labor-market efficiency (114th) and quality of education (107th).

Ace Corp. Holdings Ltd., a contract manufacturing firm in Hong Kong with factories clustered in southern China, bought a 50% stake in an injection-molding company in Monterrey, Mexico, in 2010, mostly to be closer to suppliers in Mexico’s booming auto industry.

Jack Yeung, chief executive of Ace, said his business is growing rapidly. But he can’t ramp up as rapidly as he would like because he can’t find enough Mexican workers skilled in the latest technology. He and others say Mexico let its manufacturing skills atrophy.

Bruno Ferrari, Mexico’s economy minister, said a program linking universities with manufacturers is starting to produce skilled workers needed by exporters. Mexico now graduates 55,000 engineers a year, he said, double the rate of Brazil. He also said Mexico has boosted its infrastructure investment to 5% of annual economic output from 3% a decade ago.