How China is eating Mexico's lunch: the Maquiladora system's comparative advantage is being challenged head on

International Economy, The, Spring, 2003 by Daniel H. Rosen

So China is eating Mexico's lunch, but more due to the Mexican inability to capitalize on successes and induce broader reform than to China's lower wage workers per se (India has pennies-an-hour laborers, but is not directly threatening Mexico). If China were not attracting factories from the Mexican border and capturing new investments before they happen, then other countries probably would be.

What are the implications of China's competitive challenge for the peso? For one thing, don't expect the Chinese currency, the renminbi (RMB), to be revalued this year or next. The Chinese government is committed to the stable RMB-U.S. dollar peg for the time being, and has the wherewithal to back it up. Contrary to some reports, the U.S. government is not leaning on Beijing to revalue. Some Mexican commentators have suggested an undervalued RMB is to blame for weak Mexican exports. But foreign investment into Mexico, which in turn drives exports (as is the case in China as well), was robust fight through the peso appreciation of the late 1990s and into 2000, and should be a more fundamental driver of export growth than exchange rate fluctuations. Further, the peso effectively devalued against the RMB by falling against the dollar since 2002, and this should provide a modicum of export edge for the short term.

If Mexico fails to achieve deeper regulatory reform--the real determinate of peso strength--then the diversion of direct investment and manufacturing by reform-minded China could well be the proximate reason for another peso crisis. But Mexico has nearly $50 billion in reserves to employ in staving off currency crisis while the country finds its way to redouble domestic reform. If Mexico takes the course of eschewing bold restructuring appropriate to the challenges--and the peso flounders as a result in the face of diminished expectations--then please: don't blame China.