MEXICO CITY — Mexico's auto industry, having thrived under the flexible rules of the North American Free Trade Agreement, is about to face a big test under the more restrictive replacement negotiated by President Donald Trump.
The United States-Mexico-Canada Agreement no longer has the words "free trade" in its name, which is fitting because some the freedom automakers had to build vehicles in Mexico and ship them north duty-free is also gone.
"Are we satisfied with the new rules? Let's say we achieved a delicate balance, which for us means a great challenge," Eduardo Solis, president of the Mexican Automotive Industry Association, said at a press conference last week.
The USMCA undercuts some of Mexico's cost advantages in building vehicles by requiring a minimum amount of content — 40 percent — to be produced by high-wage workers, receiving at least $16 an hour. That effectively, though not explicitly, requires a greater share of parts and labor from the U.S. and Canada, because typical Mexican wages are a fraction of that threshold.
The high-wage content threshold applies to each vehicle. For pickups, it's 45 percent, according to a summary of the USMCA.
NAFTA, which remains in effect until the new agreement is ratified and phased in, cuts automakers some slack to configure their vehicles as it suits them, as long as 62.5 percent of their content comes from somewhere in North America. That means any given model could have predominantly Mexican parts and labor, although the Mexican Automotive Industry Association has said Mexican-made vehicles on average have about 40 percent U.S. content because of integrated supply chains.
That flexibility, along with a labor force that earned about one-fourth as much as in the U.S., set the groundwork for the installation of 21 light-vehicle plants, 11 heavy-truck factories and hundreds of supplier operations over the last 25 years.
Under the USMCA, Mexico and Canada agreed to raise the percentage of North American content to 75 percent from 62.5 percent. And unlike the previous rules of origin, which did not establish additional restrictions, the new rule has several.
Along with the high-wage rule, automakers must prove that the steel and aluminum in their vehicles are manufactured in the region in order to qualify for duty-free crossing. They also must show that core components such as the engine, transmission, suspension, axles, chassis, steering system and batteries meet the 75 percent regional requirement.
The impact "will be different for each automaker, and even for each model," said Manuel Padrón, an auto sector specialist at the law firm Baker & McKenzie.
For example, the current Ford Fiesta would not comply because 70 percent of its content comes from Mexico and only 10 percent from the U.S. and Canada, according to recent data from NHTSA. Ford is phasing out the Fiesta in the U.S.
Asian automakers with North American assembly plants will have to find new sources for components because many still rely on home countries that are outside the NAFTA region.
For example, Honda's HR-V, a small crossover made in Mexico, has between 30 and 35 percent Mexican content, 20 percent from the U.S. and Canada and between 25 percent and 30 percent from Japan, according to a NHTSA report.
Kia is in a similar position: The Forte model made at its plant near Monterrey has 47 percent Mexican content, 51 percent Korean and only 2 percent from the U.S. and Canada.
"We are going to work to adapt to the new conditions," said Horacio Chavez, general director of Kia Motors Mexico during a press conference. "But let's wait until our parent company tells us clearly where we are and where we should go."
If the USMCA is ratified, the new rule will take effect Jan. 1, 2020, and phase in. Automakers will have three years to adjust their supply chains to meet the new targets, with a possible two-year extension.
The Mexican supplier industry has a clear opportunity to increase production given the higher North American content requirements, but the U.S. and Canada can attract investment, too, by touting their higher wages to meet the 40 percent rule.
The Mexican auto supplier association INA expects domestic output will rise by about 10 percent to meet the new rules of origin.
"Carmakers, especially Asian and European carmakers, will have to invest more in tools, in North American components," Oscar Albin, head of INA, told Reuters.
The new rules should boost auto parts production from about $90 billion annually at present to "around $100 billion" over the next three years, Albin said. In the course of that period, the sector should add about 80,000 new jobs.