How Much of your Car is Made in Mexico?
The Issue:The vertical integration of automobile production across the three NAFTA countries is viewed as one of the most important international supply chains in North America and the world. Given the reliance on auto parts and labor from Canada and Mexico, an escalation of trade tensions is raising uncertainty for the U.S auto industry. While the NAFTA renegotiation has been ongoing for over a year, more recently, the U.S. Commerce Department initiated an investigation into whether imports of autos and auto parts imperil national security. This could result in a 25 percent tariff on imported vehicles – a policy whose effects are hard to gauge accurately since obtaining a precise measure of the degree of integration in auto production in North America is challenging. My recent research shows that commonly held views of supply chain integration in automobile production among the United States, Canada and Mexico understate the true depth of these linkages by a substantial extent. This suggests that imposing protectionist measures that disrupt the tight trade linkages in automobile production among NAFTA countries could cause greater economic disruption than what would be concluded based on traditional, lower estimates of international supply-chain integration.
In the face of global supply chains, escalating trade tensions raise uncertainty for the U.S auto industry.
- The motor vehicle industry is a key part of the U.S. economy and one in which Canada and Mexico play a vital role. Over the last five years, motor vehicles have accounted for around 7 percent of U.S. manufacturing GDP and 13 percent of U.S. merchandise trade. The NAFTA partners play an outsized role with 60 percent of U.S. vehicle exports shipped to Canada and Mexico and 50 percent of U.S. vehicle imports arriving from them (these figures come from Bureau of Economic Analysis data). The modern nature of global supply chains implies that a large chunk of this trade represents vehicle parts that are shipped back and forth across borders several times before being delivered to final consumers. For example, the classic American Chevy Corvette is currently still assembled in the U.S. but with engines that are built in Canada and with transmissions coming from Mexico (see here).
- Tracing global supply chain linkages is crucial for understanding the implications of restrictive trade policies. In a world without international supply chains, trade restrictions decrease exports in the country on which the tariff is imposed. But with deep international supply chain linkages, the imposition of trade restrictions can have implications for additional countries. Today, intermediate inputs account for over two-thirds of world trade. In the face of global supply chains, the effects of trade restrictions on production-jobs spill over to other countries, often including the one that imposed the tariff or quota. This means that obtaining an accurate estimate of how protectionist U.S. trade policies could blow back and adversely impact U.S. manufacturing jobs requires an understanding of the extent of integration of international supply chains.
- Standard estimates undercount the extent of cross-national supply chains in automobile production among the NAFTA countries. By one estimate from 2011, 17 percent of the value of finished vehicles imported by the U.S. from Mexico was U.S. value-added that was previously exported to Mexico (see here). The main assumption used in generating this estimate is that vehicles exported from Mexico have the same amount of U.S. value-added regardless of the destination to which they are shipped. But in my analysis, I find that this is not the case. I used a confidential Mexican government-owned database which reports the universe of manufacturing import and export shipments at the firm-level. This allowed me to track the origin of the inputs used by the Mexican vehicle manufacturers exporting to different international markets. The data revealed that the origin of inputs indeed varies a lot depending on the final destination of exports.
- In reality, when American consumers buy vehicles from Mexico these tend to be made by firms that import most of their vehicle parts from the U.S. The above pie charts show that 74 percent of all the foreign parts used by vehicle assemblers in Mexico that export to the U.S. are imported from the U.S. itself. In contrast, the firms that assemble vehicles in Mexico and that export to other markets tend to have supply chains with fewer U.S. parts. For example, only 18 percent of the imported parts used by firms exporting to Germany come from the U.S. For the most part, this is driven by different vehicles being exported to different countries rather than firms producing the same vehicle in different ways for different markets. The crucial point is that the firms exporting from Mexico to the U.S. have decided to set up very deep supply chains between the two countries — much deeper than previously thought.
- Thirty-eight percent of the total value of Mexican vehicles imported by the U.S. represents the value of American parts, which is more than double the 17 percent figure that had been commonly considered. Vehicle manufacturing plants in Mexico use Mexican labor to transform foreign vehicle parts into finished vehicles. On average, about one-third of the value of every vehicle shipped to the U.S. corresponds to value created directly by Mexican workers and Mexican vehicle parts while the remaining two-thirds corresponds to the value of foreign parts imported from outside Mexico. About 74 percent of the value of these foreign parts is imported from the U.S., but these parts from the U.S. also include inputs from other countries. Accounting for international trade along all stages of the supply chain results in the estimate that 38 percent of the value of the average finished vehicle exported from Mexico to the U.S. is American value returning home.
- The effects of a trade war are different when production chains are globally integrated versus when the goods traded are produced domestically in their entirety. In a world in which some vehicles are wholly produced in one country, with inputs from that country alone, and other vehicles are wholly produced in another country, a trade war would increase the price of imported vehicles and perhaps reduce the variety of vehicles available in each country. But when production is fragmented, with parts of every vehicle sourced from a range of countries and each country specializing in specific parts of the supply chain, no country has the capacity to produce most cars independently and trade restrictions and tariffs have wider-ranging effects. For example, a 25 percent tariff on Mexican imports will have a much bigger impact on U.S. vehicle production and manufacturing jobs when supply chains cross the border than when production occurs solely in Mexico with Mexican parts. Furthermore, the efficiencies that come from specialized production are lost with severing international supply chains. In the postwar era, with much of the world’s manufacturing capacity destroyed by the second world war, the big American carmakers Chrysler, Ford, and GM were competitive in the global arena while producing cars entirely in their Michigan plants. Today, however, these firms compete with the new global giants Toyota and Volkswagen by reducing their costs and exploiting the advantages of splitting their supply chains across all of North America. Bringing the supply chain back into Michigan could raise production costs and make U.S. cars less competitive in international markets and this could be further exacerbated if foreign countries retaliate with their own tariffs in a full-blown trade war.
What this Means:
The structure of world trade has changed radically over the last couple of decades with international supply chains spreading production processes across national borders. This is especially true of automobile production in North America since NAFTA went into effect in 1994. Accurate measurement of supply chain linkages is especially important, in this environment, to gauge how changes in trade policy ripple across country borders. North America, in particular, appears to be much more integrated in terms of supply chains than previously thought. This implies that U.S. protectionism against its NAFTA partners may be the equivalent of shooting oneself in the foot, at least in the short-term, since many American jobs could be lost as consequence of hurting the Canadian and Mexican supply chains on which these jobs depend. In the long term, destroying supply chains will have detrimental effects on the efficiency and competitiveness of the North American economy derived from countries specializing on the production stages on which they are each most fit.