A few weeks ago, it was made known that between 2017 and 2018, Mexico dropped three places in the IMD World Competitive ranking, to 51st out of 63 countries. However, the news failed to emphasize that, according to this indicator, our country has actually lost 19 places in competitiveness over the past 5 years, from 32nd in  2013.

Competitiveness is a broad concept that, according to Arturo Bris  –director of the IMD World Competitiveness Center–, expresses “the way in which countries, regions and companies manage their competencies in order to accomplish long-term growth, generate jobs and increase wellbeing.” According to the World Economic Forum, “A competitive economy is a productive economy, and productivity leads to growth, which, in turn, takes us to (higher) income levels and improved wellbeing.”

The IMD index contemplates more than 250 indicators correlated with competitiveness, since they operate in one of the three following ways: as factors that create the conditions for competitiveness, as competitiveness level indicators, or as variables that receive the direct effects of the level of competitiveness accomplished. Of the four major factors, the ones that have lost the most places are ranked as follows:

• Greatest loss in government efficiency (54^th place): Worsened institutional and social schemes, which are determined by the degree of effectiveness of government actions. In particular, some of the most deteriorated components in this category are: growth of the informal economy, high levels of corruption and bribery, lack of transparency, risks to personal safety and property rights, limitations to the justice system, high homicide rate, elevated income and opportunity inequalities, tax evasion and difficulties in the creation of new companies.
• Decline in economic performance (35^th place): Low dynamism in public and private investment, total and per capita domestic production, and formal employment; rise in inflation and cost of food; depreciation of the peso; and limitations in international trade, such as its high concentration in the United States and limited service exports. These latter two aspects assume a particular risk in face of the NAFTA renewal difficulties.  
• Erratic behavior of  business efficiency (48^th place): Erratic, but with a downward trend. Interestingly, a decline in all the subcomponents of this factor can be observed, such as: productivity, efficiency, management competencies, financial position, and attitudes and values.
• Lowest loss in the factor infrastructure (55^th place): Six places lost since 2013. This shows us that our infrastructure has traditionally been limited and has not increased at the same rate as in the rest of the world. Aspects such as basic infrastructure, health and environment, and education displayed the greatest losses.

Mexico's position in the IMD World Competitiveness Ranking, 2018.

There are, of course, strengths and positive behaviors in diverse components associated with Mexico’s productivity and competitiveness, which can serve as a foothold for developing a national crusade to recover the country’s competitiveness and productivity.

However, it is important that the new federal government, which will come into power at the end of this year, should develop and address a comprehensive agenda that will tackle the institutional, social, economic and political obstacles that have affected the competitiveness, productivity, growth and wellbeing of Mexico and its inhabitants. This is a challenge that urgently needs to be addressed with intelligence, courage and political will.

The violence caused by drug trafficking is a source of much destabilization in many realms, from the rule of law and human rights to institutional trust and the country’s reputation. However, what effect does it have on economic variables, such as productivity?

To know more about the effects of drug violence on the labor productivity of Mexicans, we decided to analyse the decade between 2003 and 2013, conscious of the fact that the so-called war on drugs meant that there was a watershed for the level and reach of criminality in the country.

Our results confirm that the resulting violence of drug trafficking has harmed work place productivity, however its impact differs depending on if the crimes were prosecuted by the local, state or federal authorities. The decline in productivity is explained by the effects that crime has on the opening of new businesses and on the creation of capital, due to the high levels of uncertainty it provokes.

The high rate of theft and robberies also reduces the probability of companies expanding their operations, with a larger repercussion than the sanctions or bribes. At the same time, local trade is negatively affected by the crime related murders of the cartels.

In our article “Violence in Mexico and its effects on labor productivity”, co-written with Dr. André Varella Mollick, of the University of Texas Rio Grande Valley, we examine the evolution of labor productivity in the 32 Federal Mexican Institutions. On a theoretical basis, an econometric model was designed in which the labor productivity of different states depends on the real wages of workers as well as other factors. When forecasting the model, we use the so-called “Generalized Methods of Moments”, tackling the bi-directional nature of labor productivity and wages, with statistics from the IMSS [Mexican Institute of Social Security].

Moreover, the criminality variables were obtained from the Executive Department of the Public National Security System, at local, state and federal levels. Under the federal jurisdiction drug crimes, firearm crimes and cartel crimes were taken into consideration (64.5% of the total), while at local and state levels vandalism, house robberies, murders, assaults, kidnappings and blackmail (62% of the total) were all accounted for.

The war on drugs: a before and after

Since the start of the war on drugs, declared by Felipe Calderón’s government in December 2005, cartel feuds have incited a wave of violence that has specifically focused on the northern border states (Baja California, Sonora, Chihuahua, Coahuila, Nuevo León and Tamaulipas), where 25% of drug trafficking crime is concentrated. The state of Tamaulipas has the highest rate of drug trafficking crimes, where, between 2007 and 2014 there was a ground zero of an extreme wave of violence, leaving 100,000 victims, either dead or missing.

If we compare the prior period of 2007, under the rule Vicente Fox, with the more recent period, during the governments of Felipe Calderón and Enrique Peña Nieto, all categories of crime have risen. House theft rose by an average of 33%, while drug cartel crimes and kidnappings have shot up to 174% an 150% respectively.

In order to get a real view of the effects of this increase in violence on labor productivity, we introduced the fictitious variable the war on drugs to our research. Surprisingly, the impact on labor productivity was different between that of the crimes prosecuted by local or state authorities, and those prosecuted by federal authorities.

Federal forces vs local and state forces

We found that the effects of criminality differ depending on if the crimes are processed by federal authorities or local and state authorities. The former seems to be more effective when it comes to combating crime.

According to our results, the majority of crimes processed by local or state authorities, especially extortion, murder, kidnapping and vandalism have a clear negative effect on labor productivity and are statistically important. Nevertheless, the effects are much less for crimes processed under the jurisdiction of federal authorities.

One possible explanation has to do with the role that both play on the economic environment when tackling the violence.

Presumably, federal authorities have less cartel corruption, and have therefore been more effective in their fight against crime than their local and state counterparts.

More collateral damage for productivity

An indirect effect of the rise in criminality, but just as negative on labor productivity, is the increase in public security costs, which have continued to grow since 2008, despite the financial crisis.

Faced with an increase in violence, it seems logical that states are investing more in security. These efforts, while being useful in the fight against crime, are not immediate, and it can take years before they become an effective control against criminality and consequently benefit in higher productivity.

The immediate effect, however, is negative for productivity. Other writers have found that a reduced anti-terrorism budget has resulted in a larger economic increase.

In the past, Harold Sirkin said that, as the global business environment has become more complex, the competition does not take place between companies, but between supply chains. In order to thrive in the market, it is no longer enough to just sell the best product or have the best brand. Nowadays, the success of businesses depends on their ability to efficiently integrate themselves into global production chains that allow them to get their high-quality products on the market, at a lesser price and in a timely manner.

NAFTA has favored precisely this type of integration in our region: by reducing or eliminating custom tariffs, production chains have been reshaped in search of the best possible efficiency, pinpointing every stage of the production chain in the best location for that function to be carried out.  
 

How much would a NAFTA exit cost us?

A prime example is the automotive industry, which favors our country for the installation of their global assembly plants for export due to the low-cost skilled labor we offer. Even though the final assembly is carried out in Mexico, several automotive components cross the border more than once as production supplies. This results in an integrated global chain which benefits from the various levels of expertise in each economy in order to create the highest added value.

Actually, designing and manufacturing an engine can be done in factories in the USA, using electronic supplies from Canada or Mexico. The engine is then sent to a factory in Mexico to be finally assembled into a car, which will cross the border once again to be sold in the USA or Canada. Our country also provides car parts used for final assembly in the USA. These cars are sold to other markets such as Europe and Asia.  

Furthermore, regional integration offers huge logistical benefits due to the close geography of our markets: a car that leaves the production line in a factory in Mexico may arrive in the United States within a matter of days; whereas a vehicle imported from China can take several weeks to arrive. The overall picture of the industry is far more complex, as various supplies used in assembly plants in Mexico originate from other important economic regions such as Asia or Europe. Nevertheless, the highest added value occurs inside NAFTA, with final production in Mexico. 

This was shown in a recent study by the Center of Automotive Research (CAR), whose analysis reported that it was US$1200 cheaper to produce a car in Mexico to be then sold in the USA, rather than to produce it directly in the USA; and US$4300 cheaper to produce the same car in Mexico, rather than in the USA, to then sell it in Europe (this is for cars with an average sale price of US$25,000). These savings result from quantifying the differential costs from manufacture, parts import, transport to the destination market, and the tariff advantages at NAFTA terms.
 

The trend will continue, with or without NAFTA

The potential scenario is how companies take advantage of the differences between countries and manage to adapt efficiently to ensure success in the global markets. This partly explains why the manufacturing activity in the United States has declined in the last 30 years, certainly favored by NAFTA, but mainly due to the search for efficient production chains. This was initially achieved by moving an important part of the production from the USA to China, and due to recent economic changes, to Mexico.

The USA will unquestionably remain a manufacturing power, but mainly for highly-specialty parts and products, as well as continuing in their role as a hotbed for research, innovation and design. This trend will continue for our northern neighbor in the next few years, with or without NAFTA, but it would certainly be more beneficial for the region’s production chains if the current NAFTA remains in place.

The first round of Free Trade Agreement (FTA) renegotiations have begun amidst heightened tensions. Instead of seeing it as an opportunity to strengthen integration in the region to make North America one of the most competitive blocks in the world, the initial rhetoric of the Americans has intensified the negotiations, principally in relation to rules of origin, dispute settlement mechanisms, labor issues and several other burning matters that could intensify the discussions. 

• Rules of Origin: These are the regional content requirements that products need to meet in order to be considered as duty free for the countries that make up the agreement. Consider the automotive industry, for example, which is one of the most important trade sectors in the region. A car needs to have at least 62.5% of inputs made in the region in order to benefit from it. The United States is looking to increase that percentage to have a higher number of products manufactured in this country.  
• Dispute Settlement Mechanisms: This refers to the processes that countries use to resolve commercial disputes in the region. Currently they are resolved impartially by a binational panel, however the United States wants to incorporate changes that allow them to make decisions unilaterally.   
• Labor Issues: This is another cause of conflict. While Canada favors immigration with a system based on clear rules that incentives candidates qualified in specific areas, Mexico is interested in temporary migration agreements and a larger opening that allows a more flexible flow of migration. On the other hand, the stance of the United States is a more closed one, especially in relation to Mexican immigrants.    

The agreement needs to be modernized or adapted to the current and future circumstances of the issues stated. Canada and Mexico both agree that the dispute settlement mechanisms should not be removed, and that no change that is introduced concerning rules of origin should favor to just one sole member. However, work needs to be done to simplify procedures and grant more flexibility so that the rules can be adapted to future needs.  

In the coming months, it is critical for both the Mexican and Canadian teams to work together to achieve a common goal. Both Mexico and Canada are looking for an inclusive and responsible agreement that includes environmental issues, gender perspective and the standardizing of working conditions.

The stances of Mexico and the United States are similar when it comes to the telecommunication and finance sectors, important issues that both could agree on. These sectors as well as digital trade and energy, can help to create a unique opportunity for growth and integration in the region.

The next few months of negotiations will be difficult. Mexico and Canada are strengthened by their similar objectives, but Mexico must also look for common points of interest with the United States, and focus on the issues analyzed at the negotiation table. They need to look beyond the information given by the media and the likely belligerent rhetoric of President Trump. 

In the 1st of June, 2017 President Trump made good on his campaign promise to pull out from the Paris accord on climate change. This withdrawal followed an executive order signed in March that rolled back key Obama-era climate policies.  More specifically, emissions rules for power plants (known as the Clean Power Plan), limits on methane leaks, a moratorium on federal coal leasing, and the use of the social cost of carbon to guide government actions have all been rescinded.  As the second biggest polluter behind China, the U.S. played a key role in meeting the Paris goal of keeping the planet’s warming under 2 degrees Celsius.

World leaders condemned President Trump’s decision to quit Paris climate accord in a chorus of global disapproval1. So why should we be worried? First, the withdrawal increases uncertainty. Current U.S. investment in clean energy may be impacted. As Europe and China continue to invest in clean energy technologies in response to the climate change threat, the withdrawal will undoubtedly reduce the U.S.’s ability to foster clean-tech, and alternative energy innovations and industry thereby reducing its competitiveness and ability to transition to a low-carbon economy. Given the U.S. leadership in innovation, this will be a tremendous loss to not only the United States but society as a whole.  

Second, the U.S. withdrawal may also incite calls in Mexico and Canada to abandon their environmental/climate change efforts so as to remain “competitive”. In Canada, for example, the opposition party is calling on Prime Minister Trudeau to abandon its proposed price on carbon in light of the U.S. executive order.  Yes, the international context matters, but do we want to go down the same path as the U.S.?  The scientific and academic communities have spent two decades studying climate change. This research has shown that climate change is real and worsening and will have both a human toll and cost cities billions of dollars in damage every year if efforts are not undertaken.  In fact according to The New York Times, American representatives of over 30 cities, three states, more than 80 universities and over 100 businesses are preparing to submit a plan to the United Nations pledging to meet the US greenhouse gas emissions targets under the Paris climate accord despite the US withdrawal2.  

Successful business and government leaders look at the facts and project into the future. Their strategic and policy decisions are based on what they believe the world will look like tomorrow. The threat of stranded or unrecoverable coal, oil and gas reserves is real and a financial risk that many investors are seriously considering when deciding where to place their money3. Countries dependent on the fossil fuel sector need to take this risk seriously. The long-term competitiveness of these countries will depend on how they transition to a low-carbon economy.

Both Canada and Mexico have enormous clean energy resources.  Canada has a massive natural potential for the development of renewable including wind and solar resources, tidal and geothermal energy, and hydro4 while Mexico has huge wind5 and solar6potential.  With the U.S. reneging on its climate leadership, Canada and Mexico should take the baton and become the North American leaders. A new industry is being built around renewables (e.g., the electric car) and it is imperative that we participate in its development. In doing so, Mexico and Canada, their citizens, and their businesses will be better prepared for the transition to the low-carbon economy7.

Climate change is a global issue that must be addressed as a team, when one player/country falters; the others must step up for everyone to prosper.  Climate change is a long term economic reality that governments and businesses must address – we all share one planet and the planet must be protected – climate change is not only an energy security issue it is also a national and food security issue. Cooperation at all levels, from governments (federal, provincial, state, territorial, municipal), industry, non-governmental organizations, indigenous peoples and civil society is needed to move us from a state of reaction and defensiveness to a state of pro-activity and adaptability.  I end this article with a quote published in 1903 whose message is as relevant today as it was then.  Let’s not let this withdrawal stop our progress.

It is among those nations that claim to be the most civilized, those that profess to be guided by a knowledge of laws of nature, those that most glory in the advance of science, 
that we find the greatest apathy, the greatest recklessness, in continually rendering impure this all-important necessity of life…

                                                                                  Alfred Russel Wallace,
Man’s Place in the Universe, 1903

Globalization encouraged companies to design and implement their business strategies to take advantage of the competitiveness of each region, configuring and adapting the value of their supply chains in manufacturing, investment, and trade. It’s clear that the global value chains took years to configure, with the flexibility to respond quickly to changes in technology and consumer trends, and regulations and financial cycles, among many other global economic factors. However, this status seems to be facing challenges, mostly from political events and apparent anti-globalization postures in several countries, including the USA, the UK, and many others around the world. The question that arises is how these politically led movements and governments will impact the competitiveness of the current global value configuration? In practice, what does it mean in terms of changes to regulations and benefits of trade and direct-investment agreements, double-taxation treaties, property-rights protection, environmental regulations, and quality standards, among many other economic factors that define the feasibility of both production and consumption? 

The impact of the future of globalization or anti-globalization depends on several factors. Some of these factors are the political and economic views of the new generation of leaders and governments on how profound and deep the changes in trade and foreign-direct investment regulations will be, new tax configurations, changes in rules of origin within trade agreements, environmental and logistics regulations, and the non-trade-related issues that governments would probably like to tie to trade, such as immigration, security, border crossings, and democratic processes, among other issues.

How will this new status quo impact a trade-dependent country like Mexico? It depends on how fast governments and companies come to understand their current situation and potential changes, the effectiveness of their capacity to change their global value chains to maintain their competitiveness, and their capacity to negotiate or renegotiate trade regulations with potential partners. We need to remember that changes in a global supply do not come about from one day to the next; it might take years before a company can reconfigure its sourcing, manufacturing process, logistics planning, and so on.

There is no time to waste. The business leaders of multinational and domestic companies must be prepared to understand and evaluate the business environment, to foresee the possible changes, to evaluate challenges and economic impact; they must be able to reconfigure management and organizations, be assertive negotiators with governments as well as with suppliers and customers, and to evaluate and design new processes, products, and customer-service management.

As a proud Global Network for Advanced Management partner, EGADE Business School is preparing the transformational leaders that this new paradigm demands: innovative leaders with global vision and experience and the character and competence to create and instrument sustainable change for business and society.

The main idea of TPP was to augment multinational agreements to compete with superpowers such as China, which was not part of the agreement. However, paradoxically it is now China who could benefit by replacing the USA in TPP. This subsequent reconfiguration has the added potential of polarizing geopolitics in some regions. 

This could cause mixed feelings for Mexico. On the one hand, it would allow Mexican imports to enter into new markets, but on the other, it would have to define a clear and objective strategy that differentiates and adds real value to its existing markets, as well as the new ones. This strategy would have to avoid being seen as trying to compete with landmark countries such as China (especially after they join the WTO), in terms of the main competitive advantages on offer, including low currency values and cheap labour, and show that the merits and potential of each of the economies can elevate them both further. They must seek to diversify a market which cooperates and accommodates as much as possible. We must also not forget the trade deficit speeches that played an important part in the US presidential campaign, with the USA having a deficit of 28 Million Dollars with Mexico as of December 2016 (This figure includes intermediate goods, due to the nature of trade relations between the two countries).        

Is this the end of our commercial alliance with the US?

The NAFTA region is also being challenged by the renegotiation of its agreement. It is an important moment for Canada, the United States and Mexico, as the first two have stated their intention to continue with their trade agreements, but the latter two have differing views on the benefits of the agreement. This is despite Mexico being the USA’s second largest export market with 211.8 Million Dollars in 2016, and the USA being Mexico’s largest export market with 270.6 Million Dollars in the same year. This is down to the huge integration of production lines in several sectors, such as manufacturing, specifically in the mass consumer goods industry for example.    

A possible duty increase of between 20-35% for products passing from Mexico over the northern border may affect different sections of both markets in terms of cost, investment, inflation and employment, hurting both producers and consumers. So, instead of getting involved in a trade war or declaring who the winners or losers are with an emperor-style thumb, should both economies not just see each other as integrated regional production lines that reap each other’s benefits, and consequently become even stronger in the face of other trade blocks? An astute model, which takes into consideration the size and distance of markets to explain bilateral trade patterns was a much better economic explanation for trade agreements, such as NAFTA, than the political model which is being demonstrated at the moment. 

One thing for certain is that an interruption in the highly integrated global supply chains such as those in the US and Mexico will affect the interdependence that both countries have. The tariffs on Mexican products are not the answer and will not benefit either country. The past has shown us that these types of protective measures are detrimental for both producers and consumers. 

The IMF growth forecast for Mexico has been falling in the last months from 2.4% to 2.1% and most recently to 1.7%. Now is the time to strategically rethink an economic plan that includes trading in both old and new markets, as well as considering the technological, social and political variables in today’s dynamic but uncertain environment.  

Latin American currencies—the Mexican or Colombian peso—like the currencies of other emerging economies, have fallen sharply against the U.S. dollar in the past few years, losing nearly half of their value. This surge in the exchange rate poses a risk to these economies, as it can be reflected in consumer prices, limiting people’s buying power and having a negative effect on the productive sector.

However, not all central banks have reacted in the same way, or at least not with policies that affect the exchange rate directly. What policies have they followed? Is one of their priorities keeping the exchange rate stable, or does price control have more weight in their decisions?

My recent research with Dr. Francisco G. Carneiro, from the World Bank, and Dr. André Varella, from the University of Texas Río Grande Valley, was published by the World Bank’s Policy Research Working Paper Series and analyzes the relationship between interest rates and exchange rates in emerging economies, based on their inflation-targeting policy. Called “Inflation Targeting and Exchange Rate Volatility in Emerging Markets,” the article compares countries where the central banks react to volatile exchange rates with the use of inflation-targeting mechanisms to countries where they do not.

Since the 1990s, central banks have put most of their effort into guaranteeing long-term price stability by using inflation-targeting policies. This policy was first used by central banks in developed countries such as New Zealand, Canada, England, Sweden, and Australia, but recently, emerging economies such as Brazil, Chile, Israel, Peru, and Mexico have started to use variants of it. So far, the countries that have adopted the inflation-targeting plan have managed to keep inflation rates down. In some cases, GDP growth has improved. But has it been as effective in keeping the exchange rate from being so volatile?

To find out, we analyzed the relevance of the exchange rate on the reaction function of the central banks of 24 emerging market economies; 9 of them have inflation-targeting policies (inflation targeters—IT), and 15 of them do not (non-inflation targeters—non-IT). The sample included Latin American, Asian, African, and Eastern European countries and used data from the first quarter of 2000 through the second quarter of 2015.

Research on the topic suggests that it is important to consider the exchange rate as part of the inflation-targeting policy package, as it interacts with other factors. For our research, we took these implications and other endogenous factors into account. Our first analysis shows that IT economies have lower average inflation levels (3.97%), compared to non-ITs (6.27%), and have less-volatile exchange rates (0.28%) than non ITs (0.73%).

We also noted that while central banks in IT and non-IT economies do not usually react to economic growth, they undoubtedly place different importance on inflation and exchange rates. On the one hand, we noted that central banks in non-IT countries reacted to exchange-rate fluctuations, but only during the period leading up to the Great Recession (2008), suggesting a structural change in actions taken by central banks, with more importance placed on inflation and less on exchange-rate volatility. On the other hand, the results show that central banks in IT countries do react to inflation movements but rarely to other factors such as short-term economic growth.

These results confirm that inflation-targeting policies have helped central banks set price expectations, making their macroeconomic management easier. However, it may not be appropriate to use an IT plan in every country. To be successful with this approach, countries must make sure that their central banks are independent, must define short- and long-term inflation targets, must be transparent with the information they present to the markets, and must report on the targets set.