By Cora Di Pietro, Vice President, Global Trade Consulting, Livingston International
In the realm of international trade, little happens in isolation, and nothing changes quickly. That is the simple reality of an interdependent and interconnected world in which relationships are rooted in multi-year, multi-million (sometimes multi-billion) dollar contracts.
Yet, things are changing. Slowly.
Nearly five years of trade conflict between the U.S. and China and a global pandemic that ushered in an era of sporadic lockdowns in major manufacturing centers, chronic port congestion in the U.S. and sluggish transport worldwide have given pause to many businesses. Those that have traditionally relied on partners in Asia to manufacture goods destined for the U.S. market at a lower cost than they would have been manufactured domestically are now thinking it may be time for a change.
The numbers paint a clear picture. About one in three (34%) of U.S. businesses in China have begun developing new supply chains for China-specific, U.S.-specific, or other region-specific business, according to the 2021 U.S.-China Business Council Member Survey. And it’s little wonder. About half (48%) of the respondents from the same survey report having lost business due to customer uncertainty over continued supply.
The result has been the so-called “China + 1” phenomenon that has seen U.S. firms set up contingency manufacturing partners in neighboring Southeast Asian countries to mitigate disruption caused by production slowdowns or shutdowns in China. For a growing number, however, the “+1” has become Mexico – and for good reason.
America’s southern neighbour boasts not only substantial manufacturing infrastructure and growing ranks of skilled workers at labor rates increasingly comparable to those in Southeast Asia; its land access also allows importers to circumvent the growing list of risks involved in ocean transport. Those risks include sudden and unexpected production delays, unpredictable port release overseas and equally erratic port processing stateside, not to mention the risk of non-compliance with a growing list of sanctions emerging from Washington. The other critical advantage of shifting production to Mexico is the ability to import into the U.S. with duty exemption through the United States-Mexico-Canada Agreement (USMCA).
Still, shifting to Mexico isn’t an entirely seamless experience and there are a few critical considerations for U.S. firms looking to move production closer to home.
Trade Compliance
The USMCA eliminates tariffs on almost all goods moving across North America’s borders but adds the burden of customs compliance. In order to qualify for tariff exemption, importing firms must pay scrupulous attention to how imports are classified and ensure strict adherence to the Rules of Origin governing imported goods. Customs authorities have become increasingly vigilant in ensuring proper compliance with customs ordinances. For example, U.S. Customs and Border Protection (CBP) collected $42.2 million in 2018 as a result of audits on importers. By 2021, that number had soared to $132 million. Similarly, CBP issued 1,385 in penalties in 2018 but 2,394 in 2021. Importers with a broad range of products and/or controlled goods will want to ensure they have sufficient human resources or external partners to manage the volume of work associated with customs compliance.
Cross-border Logistics
While a move to Mexico alleviates the worry of moving goods out of ports in Asia and through the often congested Port of Los Angeles, it does present other challenges. Mexico’s logistical operators do not have license for long-haul transport in the U.S. That means U.S. importers must account for drayage – short haul transport near the U.S. border and transference of cargo from a Mexican carrier to a U.S. one. To avoid headaches, it’s important to verify your transport partner can fulfill both the drayage and domestic transport. Equally important is to adopt a multimodal transport model that makes strategic use of truck, rail and barge. Rail transport between Mexico, the U.S. and Canada is becoming increasingly simpler with the recent merger between Canadian Pacific Railways and Kansas City Southern. The deal is anticipated to divert as many as 60,000 truckloads annually to rail via a single-service line moving goods between Mexico-Texas border crossings and points in the U.S. Midwest and Canada.
The Value and Vexation of re-export
One of the often-overlooked advantages of producing goods in Mexico for import into the U.S. is Mexico’s re-export program that allows for product components to be imported into Mexico duty free provided they are incorporated into a new product and re-exported within a set time frame. The program is incredibly beneficial to manufacturers with respect to cost containment but navigating Mexico’s often complex and sometimes opaque customs requirements can be challenging to firms with limited experience in doing so. To avoid regulatory non-compliance, U.S.-based companies looking to nearshore to Mexico should plan to enhance their internal customs compliance teams or consider working with a customs partner with demonstrated experience in facilitating two-way transactions across the U.S.-Mexico border.
Labor considerations
Mexico’s labor market is ideal for manufacturers looking to either nearshore or scale-up production. There is strong labor availability and labor rates are a fraction of what they are in the U.S. However, it’s important to note that labor regulations in Mexico are changing, partly due to provisions in the USMCA, which compel Mexico’s government to enforce a stricter labor code, particularly with respect to organized labor and more transparent labor-union voting. This topic has already become a point of content in a number of instances since the USMCA went into effect in July 2020 with complaints emerging out of Washington that Mexico’s leadership is not fulfilling its labor-reform obligations. These are important considerations for manufacturers looking to outsource production to an existing Mexican facility as the outcome could vary from labor discord, to work stoppages to higher wages and more.
Mexico’s strategic geographic position and inclusion in the USMCA makes it an obvious choice for U.S. companies to leverage as an alternative or supplement to Asian manufacturing. There’s good reason for the influx of U.S. investment in Mexico and Mexico’s recent usurping of China as America’s largest trade partner. But cost and convenience should be considered in equal part to the practical matters associated with customs administration and compliance with the country’s largest trade deal.
Failing to do so could result in unforeseen costs, administrative headaches and, in more severe cases, loss of import privileges and financial penalties.
Cora Di Pietro is vice president of Global Trade Consulting at Livingston International. She is a frequent speaker and lecturer at industry and academic events and is an active member of numerous industry groups and associations. She can be reached at cdipietro@livingston.com.