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Why a tariff on Mexican auto imports could backfire

December 27, 2016 Article 3 min read
Daron Gifford
Let’s take a collective, non-partisan breath. Although trade wars make good press and create barriers, they drive up costs in the country trying to protect itself. Incentives-based policies may be a more certain way to retain and grow jobs.

The siren song of protectionism is playing throughout the U.S. these days, with the promise that high import tariffs and renegotiated trade deals will stop companies, particularly in the auto industry, from moving production to Mexico and elsewhere.

But let’s take a collective, non-partisan breath and remember: Many, if not most, economists agree that the benefits of tariffs, no matter how well-intentioned, are temporary, if not illusory.

A tariff on goods from Mexico, for instance, would invalidate NAFTA, which has been in place for 20 years, and that would hurt many U.S. carmakers — OEMs and suppliers alike — that have invested in Mexican plants. Already, in Mexico, Ford saves about 40 percent in labor costs over its unionized U.S. plants. Nissan, GM, Honda, Mazda, Volkswagen, BMW, Kia and Fiat Chrysler also are building or planning small vehicle lines south of the border.

Action and reaction

Restricting Mexican auto imports also could incentivize plants to redirect their exports to other countries with favorable trade agreements, competing with and potentially reducing U.S. exports elsewhere.

Further, a tariff on auto imports from Mexico would only provide short-term relief, as, eventually, U.S. production costs will rise because of the decline in competition from abroad. Steel tariffs, for example, have never worked well, and the steel companies did not reinvest the profits gained, leading to continued non-competitiveness.

And let’s not forget that tariffs force industry leaders to look for ways to elude the tax. Last spring, for instance, when the U.S. Commerce Department imposed a 500 percent run up in duties on Chinese cold-rolled steel, China shipped its steel to Vietnam and then to the U.S.

Of course, supporters advocate protective duties to force the return of American manufacturing jobs -- a laudable goal. But small-vehicle manufacturing jobs are not returning to the U.S. any time soon, and neither are the vehicles. Many are made for export to other countries. The small car market will increase only if fuel prices rise and car prices are kept low to be affordable.

If gas prices do rise and make small cars popular again, consumers will find U.S.-made small cars to be too expensive for many to buy. A 35 percent duty would inflate the price of, for example, a 2017 Ford Focus hatchback, with a base price of about $37,000 to about $50,000.

It will be up to the auto industry to remain flexible and watch what happens next. Suppliers need to relook at their manufacturing strategies and alternatives, to be ready for the change. They may want to adopt a wait-and-see approach, but waiting to see could also lead to being behind the curve.

Higher costs 

The bottom line is that although trade wars make good press and create barriers, they drive up costs in the country trying to protect itself, hence protectionism. Incentives-based policies are a more certain way to retain or grow jobs, something that we might already be seeing with tax breaks offered to Carrier’s Indiana-based operations in order to keep some production in the U.S.

Hopefully, what will come to pass in 2017 is more of a carrot than a stick approach -- perhaps programs of incentives to manufacturers to encourage domestic production growth and investment, rather than move it to Mexico.

This approach could force manufacturers to rethink their capital decisions, as well as the total cost of the supply chain. It also would not hurt those who have already invested in Mexico but could redirect their future decisions.

The economics of auto manufacturing on a global scale are as complex as a car itself. Performance improvement requires a long, thoughtful look under the hood. 

Daron Gifford is the partner leading automotive industry strategy consulting at the accounting firm and consultancy Plante Moran in Detroit.

This article originally appeared in Automotive News >>

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