What Lies Beyond NAFTA?

by James Heskett

Summing Up

One of the defining issues in the 1992 U.S. presidential election, NAFTA, has fallen off the radar in the current campaign. This suggests either that many in the U.S. have lost interest in it or, more likely, the subset who visit the HBS Working Knowledge site are generally comfortable with the results that NAFTA has produced. But it seems not to have receded in interest among at least one group of readers of this column. The column "What Lies Beyond NAFTA?," with a focus on future responses to issues concerning migration between Mexico and the U.S., elicited comments largely from Mexican readers—not surprising in view of the central role that Vicente Fox, the president-elect of Mexico, is expected to play in upcoming discussions of NAFTA 2.0.

There was little argument among respondents about the positive impact of NAFTA on both U.S. and Mexican consumers and economies. The conclusion is that it has created jobs on both sides of the border while sharpening the ability of Mexican companies to compete. The Mexican business community is learning to cope not only with foreign competitors, but also with rising labor costs caused by more competition for the skills of the Mexican labor force. In the words of Alejandro Jaime, "American society needs Mexico and vice versa."

Nor was there any argument that illegal immigration into the U.S. from Mexico is a dehumanizing process for both countries. As Diego Martinez put it, "Illegal immigration is a terrible thing. Not only does it create a new social class of underground activity in the U.S., but it also creates millions of broken homes ... in Mexico." He concludes that legalizing the free flow of labor into the U.S. "could be equivalent to the abolition of slavery in the nineteenth century."

And respondents seemed largely in agreement that Vicente Fox is well equipped to help foster a serious discussion of ways of dealing with the labor migration that will take place one way or another between the two countries. In addition, Xavier Ponce de Leon expressed the hope that something might be done to foster the creation of wealth (and jobs) in Mexico through the removal of structural barriers that inhibit entrepreneurial behavior.

However, before action might be taken to correct the problems created by illegal immigration, respondents would first gather some facts. According to Martinez, "There is probably some research done on the inflationary impact of regularizing illegal residents in the U.S." Roberto J. M. Rodriguez asks, "What is the U.S. economic labor demand that could be satisfied by Mexican workers? What is the Mexican labor (pool) available to satisfy the U.S. demand?" Devdip Ganguli asks, "... will neighboring countries be justified in considering it their right that the privileges be extended to them as well?" It's hard to argue with his conclusion that "In the end, we have more questions than answers." What do you think?

Original Article

Sometimes it's the smallest books on our shelves that contain the most provocative ideas. Take, for example, a little book, The Nature of Mass Poverty, based on series of lectures given by John Kenneth Galbraith more than twenty years ago. In it, Galbraith argues that poverty in developing nations has to be dealt with much differently than in economies of plenty, that what works in a developed nation may be irrelevant to a nation of mass poverty.

In a developed economy, the bias is toward greater income and the means and effort to achieve it. The assumed essentials for economic development have long been, in Galbraith's words: "savings over current consumption to purchase capital; a progressive technology to embody or make use of the capital; a political and social system that allows and encourages the individual to seek his (or her) own betterment; and a regulation of the whole process, in the main by the market." He later added a fifth essential, that the society not "breed (producing population growth) up to the limits of its subsistence." (The words in parentheses are mine.)

In contrast, where mass poverty exists, particularly in predominantly rural societies, increased income sets in motion forces that "restore the previous level of deprivation," thus thwarting individual motivation and the likelihood of emergence from conditions of mass poverty. There is no excess of income over current consumption, hence no saving, accumulation of capital or resulting improvement in income. Without capital, innovation is not rewarded. In fact, it is regarded as risky. Failure can produce starvation. Therefore, labor-intensive practices do not change. What security there is results from the procreation of many children who can someday support their parents. When investment from outside does occur, it may extend life expectancy, thereby increasing population until it consumes the higher level of output produced by the investment, restoring the previous condition of poverty. Galbraith called this "the equilibrium of poverty."

In Galbraith's view, there is an answer: migration from poor to rich countries, with benefits for both. In the coming months, be prepared for a reopening of a discussion of these issues. It will be led by a John Wayne-like figure, Vicente Fox, the president-elect of Mexico. In this case, Mexico's version of Duke (who, whether on his horse or not, even looks a bit like John Wayne) will be coming to the rescue of those in his country who are afflicted by the equilibrium of poverty. The discussion will address this in the context of a review of what lies beyond NAFTA.

Regardless of who Fox's counterpart in the U.S. may be next year, what is the appropriate response? Given the labor shortage in the U.S., is it now appropriate to open our borders to an unlimited number of neighbors from the South, essentially legalizing what is now happening illegally anyway? If so, what is the appropriate response to what assuredly would be opposition from U.S. labor unions? Or is there an intermediate step perhaps involving renewable work permits requiring a periodic return to Mexico, something many migrants do anyway? If concessions are made to Mexicans, will they have to be extended to more distant neighbors? What are the benefits and costs for a U.S. economy already straining at its limits? How should this be translated into policies regarding immigration?

    • Diego Martinez (HBS MBA '96)
    • Director — Latin America, Global Food Exchange.com

    NAFTA has had a very deep impact in Mexico; we are seeing manufacturing facilities (maquiladoras) spreading at an ever-increasing phase. Mexican export value has quadrupled since NAFTA and you can see a much stronger middle class emerging in Mexico.

    But what are all these maquiladora phenomena, and for that matter illegal immigration, all about? In economic terms, they are market imperfections translating into higher transaction costs. However, these market imperfections and their economic impact are not felt by the capitalists in the system, because they are absorbed by the lowest participants in the food chain in the way of lower wages in Mexico or illegal employment in the U.S.

    Do we really want to legalize the flow of labor and all illegal residents in the U.S.? This could be equivalent to the abolition of slavery in the nineteenth century, when men were given equal rights and, decades later, everyone was given equal opportunities. There is probably some research done on the inflationary impact of regularizing illegal residents in the U.S.

    Illegal immigration is a terrible thing. Not only does it create a new social class of underground activity in the U.S., but it also creates millions of broken homes, single moms and ghost towns in Mexico, not to mention the thousands that die each year trying to get across the border.

    In Mexico it would have a deep impact in competitiveness. Most companies in Mexico are still reliant on cheap labor and are already feeling the pain. But in the long run, that is good news. Marginal producers will be squeezed out of the market by better ones.

    We have big hopes in Fox and his yet-to-be-determined U.S. counterpart. They have a big challenge ahead, and so far the mindset, at least in Mexico, is on the right track. We hope to see a positive attitude from the next U.S. president and legislators in the next administration.

    There is yet another Mexico, one that is further along the development process. It is largely rural and uneducated, located mainly in the southeast of the country. Mr. Fox will need to devote most of his energy to improving the standard of living of this group through self-sustaining policies and not government grants. This process could take a couple of generations to show results.

    • Jorge Almeida
    • Manager, Mexico City Tennis Association

    In fact, Mexicans leave their country for the U.S.A. because their economy does not offer them the minimum requirements for survival. But many of them go as peasants to work picking cotton or fruits, labor that not many Americans like to do. That means Mexico exports a cheap labor force, which has a definitive roll-up on the prices of groceries and other farm products.

    Both countries are denying the real paper [sic] of illegal aliens. NAFTA might legalize and recognize the input of these workers to both economies.

    Recognition of aliens allows the U.S.A. to legitimize its role in the world power balance. Instead of imposing its policies as a SINGLE country, the U.S.A. fights for three countries' economic interests.

    Well, that is how I view it from abroad.

    • Anonymous

    Peace in poverty-stricken countries will bring the people together to develop COMMON goals. Once these goals are in place, people may develop a will to work towards these goals. It is a good opportunity for people to be able to work/study in developed countries, to get ideas and apply them to their own situations in their own countries. Tolerance is the key for the developed countries, because we are not always right and I think we can learn from the simplicity of less-developed countries.

    • Devdip Ganguli
    • Student, SAICE

    Well firstly, the point put forth by Galbraith that "migration from poor to rich countries, with benefits for both" can be argued. While it may be true in the long run, whether this will bring immediate benefits to the U.S. is questionable. There are questions to be answered first:

    1. Yes, there is a labor shortage in the U.S., but can the labor from Mexico effectively counter this problem (e.g., is the quality of labor need-satisfactory)?

    2. What about socioeconomic problems arising from the fact that freer access is granted to Mexico?

    3. And as rightly said, will neighboring countries be justified in considering it their right that the privileges be extended to them as well?

    And finally, are we willing to get over minor differences for the greater good (economic and otherwise) of Mexico? In the end, we have more questions than answers.

    • Roberto J. M. Rodriguez
    • Business Development, Ingenio Creativo

    I would say to do market analysis:

    What is the U.S. economic labor demand that could be satisfied by Mexican workers?

    What is the Mexican labor available to satisfy the U.S. demand?

    Could this perhaps be seen as a labor exchange between the U.S. and Mexico? You have some needs, I can satisfy your expectations.

    Because he was elected, Mr. Fox has the latitude and capability to deal with this phenomenon. Does he have the right people to support him? Technology? Training?

    I believe he has been preparing for this.

    • Alejandro Jaime
    • International Buyer, Corporativo Valsi, S.A. de C.V.

    I think that NAFTA has brought beneficial consequences to Canada, the U.S., and Mexico. Mexico has the opportunity to participate in the American economy, one of the most powerful and demanding producers worldwide. But Mexico also has to face the introduction of products that compete with Mexican goods — sometimes much better products.

    Cheap Mexican labor is (against everything U.S. conservatives have said) something the United States wants especially for the low salaries, because the native American-born do not do that. Can you imagine a pound of oranges costing $6 just because American workers demanded much better work conditions and higher salaries?

    The American government closes its eyes to the bad conditions under which people in Mexico and other countries have to work, without Social Security.

    I know the problem is that Mexico cannot employ all of them. But the truth is that American society needs Mexicans, and vice versa.

    • Xavier Ponce de Leon (HBS MBA '97)
    • Vice President, Business Development, Telefonica B2B

    Concerning Galbraith's thinking about the different treatment required in dealing with poverty in less-developed countries, I would comment that Mexico needs to solve two structural barriers that inhibit wealth creation in the poor segments of the population.

    The first problem is the level of "entrepreneurial awareness" provided by the Mexican public school system. Students usually come out of school (if they graduate) with very little knowledge of the tools required to materialize entrepreneurial opportunities available.

    The second problem is the high level of bureaucracy and governmental obstacles involved in setting up a new business. Even with agreements like NAFTA, which provide access to new and broader markets, it is tough to compete when it takes so much effort to incorporate a new company and fulfill all the fiscal requirements.

    Although we cannot expect sudden dramatic changes in such cultural problems, I think Mexico expressed its hope and willingness to change with the vote given to Vicente Fox in the recent elections.