The entrenched system works to the detriment of the overall economy.

By Don Quijones, Spain, UK, & Mexico, editor at WOLF STREET.

Chronic low salaries in Mexico have become a big bone of contention in the ongoing renegotiation of the North American Free Trade Agreement (NAFTA). In a talk at the University of Chicago last week, Canadian premier Justin Trudeau reiterated that if the labor standards of NAFTA were improved, companies would have fewer incentives to move factories to Mexico for cheap labor while Mexican workers would get a better deal. But that’s the last thing the Mexican government and global manufacturers with operations in Mexico seem to want.

Moody’s offered a bleak prognosis for Mexico’s low-cost regime. “Mexico has not attained the stellar growth rates that were anticipated from liberalizing its economy, and wage and productivity gaps with the US have widened rather than shrunk,” it said in a report last August. “NAFTA has not remedied Mexico’s low growth, low productivity and low wages,” it said:

If Mexico’s productivity continues to stagnate, the income gap with the US will widen over time, instead of converging. Mexico’s low productivity, low wages and low growth over the last three decades, even outside periods of economic crisis or recession, are not being remedied by the current export-focused growth model reliant on access to the US market through NAFTA. Mexico has maintained its comparative advantage through negative real wage growth, at the expense of income levels. As a result, instead of converging through trade, wage and productivity gaps with the US have widened.

Mexican assembly line workers only receive about one-eighth of what workers doing the same job north of the border earn. This is a feature, not a bug, of Mexico’s export-driven economy. Four years ago Jim Neil, the Goldman Sachs economist that first coined the BRICs term to describe Brazil, Russia, India and China, said that Mexico’s work force has the potential to turn Mexico into the “new China.” Since then wage growth in China has soared, leaving Mexico, as well as much of Latin America, in the dust.

Mexico’s system of wage repression has been working wonders for global automakers setting up shop in Mexico. For example, most of the workers at the Audi factory in the state of Puebla, inaugurated in 2016 and assembling the Audi Q4 SUV, which carries a sticker price in the US of over $40,000 for base versions, make $2.25 an hour — a tiny fraction of what a similarly qualified American or Canadian worker earn.

That nominal salaries in Mexico have stagnated in the wake of NAFTA should hardly come as a surprise. After all, NAFTA, like many other trade agreements that followed it, created a template for economic rules in which the lion’s share of the benefits would flow to capital while labor was lumbered with most of the costs. This was a feature, not a bug.

NAFTA granted corporations special protections against national labor laws that might threaten profits, set up special courts — presided over by pro-business experts — to judge corporate suits against governments, and at the same time effectively denied legal status to workers and unions to defend themselves in these new cross-border jurisdictions. Before any large global manufacturer sets up shop in Mexico, a “protection” contract is usually drawn up with the respective union to lock in low wages .

The problem for Mexican workers is not just that their salaries are so low; it’s that their already limited purchasing power is being further eroded by rising prices. In December 2017, the consumer price index increased 6.8% year-on-year, the sharpest since May 2001.

Average purchasing power slipped by 2.5% in 2017, according to Mexico’s National Council for the Evaluation of Social Development (CONEVAL), an independent government organization. During the same period the percentage of Mexico’s population that cannot afford even the basic daily food basket — just 92 pesos ($4.96) — rose from 39% to 41%.

According to another study, this time by the Institute for Industrial Development and Economic Growth, between 2012 and 2017 the number of people earning no more than the minimum wage — 88 pesos ($4.80) per day — increased by 15.5%. The number of workers receiving between three and five times the minimum wage dropped by 9.6% while the number earning more than five times the minimum wage plummeted 30.6%.

Clearly, conditions for many workers in Mexico are getting more, not less, precarious while internal demand continues to stagnate. Hence, much depends on whether the new NAFTA agreement that emerges from the current negotiations — assuming one actually does — finally puts an end to the rampant wage repression its predecessor helped institutionalize.

If that happens, Mexico’s political and business class are going to have to come up with a new national economic model that goes far beyond merely providing cheap labor to assemble products for the world’s biggest market, while at the same time ensuring that rising wages do not fuel inflation. That is not going to be an easy task, especially if the peso weakens. But if it works, the rise in internal demand might allow Mexico’s economy to finally begin growing at the sort of rates that proponents of the original NAFTA agreement forecast over two decades ago. By Don Quijones.

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