Free Trade Isn't Coming Cheap

Carlos Salinas de Gortari beamed in satisfaction as he handed out awards to Mexico's best exporters at a Puerto Vallarta trade convention. Just 48 hours earlier, the U.S. House of Representatives had approved the North American Free Trade Agreement, and the crowd gave the Mexican President a standing ovation. But even in his moment of victory, Salinas issued a warning: "For the first time ever, Mexico has a deadline for becoming more efficient. There's no more manana."

It's the crowning paradox in the career of the Harvard-trained Salinas, who has turned Mexico's closed, inflation-plagued economy into a global challenger. The phaseout of North American tariffs will draw in billions in investment, and the treaty's passage provides a tremendous boost to Mexican self-esteem. But NAFTA also opens Mexico's most inefficient industries to world-class U.S. competition. That is sure to flatten some Mexican companies as both economies adjust to the reality of integration. And Mexico will start feeling its first NAFTA shocks just as Salinas prepares to name his political heir in the ruling Institutional Revolutionary Party (PRI) for presidential elections next August.

STRAPPED. In a BUSINESS WEEK interview, Salinas admits that adjusting to NAFTA will be tough. He will undoubtedly endure intense pressure to cushion the blows by easing fiscal and monetary policy. Potential casualties of free trade include many Mexican manufacturers. True, big conglomerates such as Grupo Industrial Alfa and DESC have invested millions to train workers and harness new technology in subsidiaries ranging from auto parts to steel. Yet many Mexican companies have done little so far to boost productivity.

These competitive shortcomings may surprise the many U.S. voters and politicians concerned with NAFTA's effects on the U.S. job market. But Mexican manufacturers are acutely aware of the challenge. Take CYTESA, a Mexico City-based maker of such items as woven straps for bags and suitcases. Some of its looms are 25 years old. Recently, big Mexican customers such as Samsonite have been rejecting up to 7 shipments out of 20 and demanding higher quality to match imported straps. In a meeting room behind the factory, union official Jose Ezequiel Garcia Vargas warns workers that if they don't agree to the company's plan to improve quality and productivity, the factory may close. "Until recently, people would buy our product even if it had defects, because with a closed market they had no choice," Garcia Vargas told the workers. "But with NAFTA, you guys will have to hustle."

Company Director Edgar del Castillo Avila, meanwhile, says he must invest in new technology but can't afford to borrow now at commercial bank rates of 25%. "We'll see good results in the long term, but only if we manage to survive in the short term," he says.

It's not just manufacturers who are at risk. On Jan. 1, when NAFTA takes effect, U.S. and Canadian banks can set up subsidiaries in Mexico to compete with Mexico's technologically backward, service-poor banks, and a major round of layoffs is likely. While the foreign banks are not expected to compete in retail banking at first, they will shake up Mexico's cozy club of bankers, forcing them to reduce loan rates and offer better service to corporate clients.

BETTER WAGES? Retailing also faces a shakeout. Huge Mexican chains such as Cifra and El Puerto de Liverpool, which have formed joint ventures with Wal-Mart and Kmart, will benefit from the growing buying power of the Mexican middle class. But thousands of mom-and-pop stores will be unable to compete with the attractively priced imports the big players are featuring.

For workers whose jobs survive the crunch, the promise of better wages is real under NAFTA. Economists had predicted that without the treaty, Mexico would slow down to nearly zero growth in 1994. But with NAFTA, they predict up to 3% growth in 1994, as a flood of foreign and domestic investment offsets the turmoil of restructuring. That will let the government's plan allow real wage hikes of up to 5% in the form of productivity-linked bonuses.

As wages rise, however, Mexican companies will have to work even harder. A recent survey by consultants Arthur D. Little Inc. of 15 U.S.-owned maquiladora operations showed that average salaries rose from $1.58 an hour in June, 1991, to $2.80 at the end of 1992. Roberto E. Batres, president of Little's Mexican group, sees industrial wages growing to $4 or $4.50 an hour within five years. At that point, he says, companies that have not invested in new technology and worker training will no longer be competitive with U.S. rivals that pay higher wages but produce more efficiently.

While companies must take the greatest initiative, Batres faults the government for not investing more in basic education and training. "The government's efforts are very modest so far," he says. Many company managers and union officials agree. "All we've seen are big promises of massive training programs, but little implementation," says Berta Lujan, a union leader from the Frente Autentico del Trabajo.

Salinas, a believer in the power of free markets, has nevertheless been more activist of late, cutting interest rates charged by government-backed credit unions and helping small businesses obtain seed capital. With the treaty passed by Congress, he will need all his political and financial capital to prepare Mexico for its close embrace with the U.S. and Canada. Salinas passionately wanted NAFTA. Now that he has it, he and his country must learn to live with all its pains and benefits.