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Summer 1995 - Volume 1, No. 1

Tennessee's Trade with Mexico: The Impact of a Turbulent Year
Steven G. Livingston

Rarely have exporters operated in as volatile an environment as that of Mexico over the past 18 months. First came the tremendous promise of NAFTA. On January 1, 1994 tariffs dropped to zero on 48.9% of U.S. exports entering Mexico, a dramatic increase from the 17.9% of American exports which were duty free in 1993. While Mr. Perot listened for the giant sucking sound, almost all trade forecasters heralded what they believed would be an historic boom in trade. And, indeed, through 1994 the growth of US exports to Mexico doubled that of US exports to the rest of the world. No one, however, predicted what happened next: the collapse of the peso and a severe contraction of the Mexican economy. In the wake of this crisis, Mexican imports fell sharply. From April 1994 to April 1995, the Mexican trade balance shifted from a deficit of $1.4 billion to a surplus of $620 million, with imports dropping some 15.4%. US exports tumbled, dropping from $4.5 to $3.5 billion a month between November 1994 and February 1995. Exports are now stabilizing, but at a level not much different than before NAFTA. Meanwhile, because of the cheap peso, Mexican exports to the US have surged to record levels, perhaps soon to break $6 billion a month.

How have Tennessee firms fared in this environment, and what does the future hold for them? Perhaps fortunately, Tennessee is not as reliant on the Mexican market as are many states. In 1994 Mexico accounted for 7.84% of the state's exports, slightly below the US average - and nowhere near the over 25% of a state like Texas. Nevertheless, Mexico has become increasingly important to Tennessee exporters. It is our third largest market. 1994 exports were valued at a little over $600 million, six times the figure in 1987. Mexico today takes double the percentage of state exports that it did less than ten years ago. Of course, these figures hide significant variations within different industries. In Tennessee, seven of the twenty seven SIC industry groupings which export sell more than 10% of their exports to Mexico (only five sectors show no exports to Mexico). Agriculture, leather working, and the primary metal industries are particularly reliant on the Mexican market. Most of these industries did well between the NAFTA boom and the peso bust: Tennessee exports to Mexico rose about $30 million a quarter after NAFTA came into effect. Fourteen of the twenty two industry groups with Mexican exports posted solid gains. The bust, however, hit equally hard. Exports fell $23.5 million between the end of 1994 and the first quarter of 1995, dropping to levels of a year and a half earlier. Figure 1 documents this fall.

Assuming that exports had instead continued to grow only at a modest 5% - much less than the 10 year historical average - this means a loss of some $95 million in Tennessee exports for 1995. Yet a few star sectors such as petroleum refining (up 828%) and textiles (367%) have continued to grow in the face of this general downturn. And none of Tennesee's "big three" export sectors were savaged - while the transportation industry was off 8%, chemicals (+49%) and the industrial machinary industry (+57%) made robust gains.

Most experts expect Mexico to experience a prolonged economic slump. The overall export environment will continue to be tough. As explained in the accompanying article on the peso collapse by Professor Zeitz, much of the impact is yet to be felt. We do, however, have several clues for determining how particular Tennessee industries will be affected. Table 1 displays them. Two obvious clues are how responsive industries have been to the previous events in Mexico. The NAFTA and Peso "effects" are percentage deviations from the quarterly industry growth rate which we would have anticipated (for the first quarter of 1994 and 1995 respectively) had the two events not occurred. Industries gaining from NAFTA should have a significant positive "NAFTA effect" and industries suffering from the peso collapse should have a strongly negative "Peso effect." Particularly worrisome are those industries such as food processing or rubber manufactures which experienced dramatic export declines after the peso collapse.

We have several additional guides for estimating future trade performance. One is the preexisting sectoral trade balance between Mexico and the U.S. This is a measure of the relative competitiveness of U.S. industries in each sector. The sectors with strongly positive U.S. balances ought to best positioned to fend off rival Mexican producers; in some cases they may have no powerful local competitors. Another measure is the substitutability between foreign and domestic products (the "elasticity of substitution" in the lingo of economics). Industries in which foreign and domestic products are highly differentiated should be better able to withstand the price advantages newly gained by their Mexican competitors. Parenthetically, they should also be better positioned to protect home markets from Mexican imports. The Michigan Model of World Production and Trade has estimated an index of substitutability for the U.S. Here it is used as a proxy for Mexico as well. The higher the index, the more differentiated the product and therefore the less the vulnerability of exports to price competition alone. Finally, the Commerce Department's International Trade Administration produces market research studies which highlight the sectors it believes are the best positioned to expand their exports. Table 1 indicates those sectors where the ITA has located Mexico's greatest export opportunities.

These clues together suggest some Tennessee industries should continue to fare well: furniture and fixtures (currently exporting very little to Mexico) and petroleum refining have perhaps the best prospects. Textiles and the fabricated metal industry should also continue to be strong. The leather, primal metal, and stone, clay, glass and concrete industries, however, may be in for a harder road. Not surprisingly, however, most industries appear to face a mixed environment. This suggests that much of the success of Tennessee exporters will continue to depend on finding particular niches or opportunities within the larger crosscurrents now buffeting the Mexican market.


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