Let’s talk about Nearshoring 4.0 | Quarterly Report | May 2024

FDI in Mexico

In Mexico, $20.313 billion dollars were brought in through Foreign Direct Investment (FDI) from January through March, marking the largest figure for a first quarter on record. This FDI figure is a 9.0% increase compared to the $18.636 billion reported a year ago in Q1 2023, according to the Ministry of Economy. Thus, the figure for Q1 2024 was 4.5% higher than the one logged in the first quarter of 2022 when non-recurring events such as the capitalization of Aeroméxico and the Televisa-Univision merger took place, resulting in $6.875 billion from these events – and a total of $19.428 billion.

Breaking down FDI components for the first quarter of 2024, it´s notable that $19.615 billion came from profit reinvestment (Q1 2023: $16.705 billion), $599 million from new investments (Q1 2023: $932 million), and $99 million from intercompany accounts (Q1 2023: $999 million). It´s important to note that FDI is usually very high in the first quarter of the year due to profit reinvestments as a form of dividend payment. According to the Ministry of Economy, during the first quarter of 2024, there was a reconfiguration of FDI as a result of foreign investors’ confidence in the favorable business environment and the country´s economic stability. In this way, it´s possible to retain foreign capital in the country through profit reinvestment, allowing companies to have the capability to make and receive loans as well as settle their debts abroad.

Additionally, the U.S. positioned itself as Mexico´s main investment partner, accounting for 52% of total inflows. However, diversification in the origin of investments and their participating sectors is observed. During Q1 2024, the top 10 countries investing in Mexico accounted for 92% of FDI, with notable inflows from countries like Germany (9%), Canada (8%), and Japan (7%). By state, a reconfiguration of investments occurred throughout the country, with 93% of recorded FDI occurring in 10 states, the most significant being: Mexico City (59%), Nuevo Leon (7%), Baja California (5%), Veracruz (3%), and Chihuahua (3%). Concerning FDI for each sector, it´s worth pointing out that Mexico is a hub of specialized manufacturing with a growing need for capital to develop its industries. In this sense, 42% of Q1 2024 FDI was captured in the manufacturing sector, primarily in the following sectors: Transportation equipment, beverages & tobacco, food, chemicals, metals, plastics & rubber, electric power generation equipment, computer equipment, and paper. On the other hand, financial services, mining, and transportation accounted for 25%, 12%, and 6% respectively.

These Foreign Direct Investment figures are positive because, despite the bulk coming from profit reinvestment, they reinforce Mexico’s strategic position as a preferred investment destination over other economies. The decision made by companies to reinvest the profits generated in the country is proof of positive expectations, whether to meet domestic demand or via exports. For the entirety of 2024, the consensus estimates FDI to be around $40 billion, which would set above the $36.058 billion recorded in 2023. If this year´s forecasts are met, FDI would increase by approximately 11% compared to the previous year, marking the highest figure on record. With this in mind, we should expect the proportion of new investments to accelerate their growth rate in the coming quarters to more clearly demonstrate the Nearshoring phenomenon, although we estimate that the reconfiguration of FDI will take shape in the coming years.

Demand for Industrial Space Continues to Show Strong Momentum

The industrial real estate sector continues to benefit from Nearshoring as it´s being driven by companies’ interest to establish or expand their operations in Mexico. According to information made known by the Mexican Association of Industrial Parks (AMPIP for its acronym in Spanish), it´s estimated that the demand for industrial space associated with Nearshoring will be 3 million square meters during 2024-2027. At the end of 2023, the association’s members totaled 432 industrial parks, while 50 new parks are currently under construction in Mexico. Additionally, at the end of 2023, AMPIP had 4,000 tenants and forecasts the arrival of 400 new tenants in the 2024-2027 period.

Furthermore, in its Nearshoring report, CBRE estimates that demand for industrial space associated with the relocation process during Q1 2024 amounted to 469,000 square meters, 65% of which corresponds to expansions of already established companies, and 35% to new investments. This lines up with the latest FDI data, as the largest amount came from companies that are already present in our country, which is made evident by the reinvestment of profits.

On the other hand, according to this analysis, Monterrey is the state that concentrates the highest percentage of announced investments for 2024-2026, with 31% of the total, followed by Ciudad Juarez, which accounts for 19%.

We believe that the industrial real estate segment has been the clearest evidence of the relocation of production chains. The occupancy rate in this segment is close to 98%, while average rents continue to record an upward trend.

Increased Global Protectionism

On May 14, 2024, the White House issued a statement declaring that China’s unfair trade practices in technology transfer, intellectual property, and innovation are threatening American businesses and workers. In this context, the U.S. government accused China of flooding global markets with exports at artificially low prices. In response, U.S. President Joe Biden announced a package of tariff increases under section 301 of the 1974 Trade Act on $18 billion worth of imports from China, equivalent to 4.2% of all US imports from the Asian giant in 2023.

These actions target strategic sectors such as electric vehicles (EVs), renewable energy, and semiconductors, among others.

It´s important to point out that the announcement was part of the Biden Administration´s review of the tariff increases carried out by former President Donald Trump during the trade war between Washington and Beijing, which began in 2018 and imposed tariffs on about $300 billion worth of goods imported from China. However, the U.S. government believes that the proposed and agreed-upon goals with China were not achieved, which were: i) To increase U.S. exports and ii) boost U.S. manufacturing. As a result, the Biden Administration stated that it will continue working with its worldwide trade partners to strengthen cooperation and address shared concerns about China’s unfair practices. Therefore, tariff increases were ordered in the following sectors:

Steel and Aluminum → from 0-7.5% to 25% in 2024.

Semiconductors → from 25% to 50% in 2025.

Electric Vehicles → from 25% to 100% in 2024.

Lithium Batteries → from 7.5% to 25% in 2024.

Lithium-Ion Batteries → from 7.5% to 25% in 2026.

Battery Components → from 7.5% to 25% in 2024.

Critical Minerals → from 0% to 25% in 2024.

Solar Cells → from 25% to 50% in 2024.

Ship-to-Shore Cranes → from 0% to 25% in 2024.

Medical Syringes and Needles → from 0% to 50% in 2024.

Medical Protective Equipment → from 0-7.5% to 25% in 2024.

Surgical Gloves → from 7.5% to 25% in 2026.

Considering these circumstances, it´s important to highlight that Nearshoring offers a unique opportunity for Mexico as it should strengthen its trade relationship with the United States. However, it must be extremely cautious not to become a bridge for China to the United States, as this would not only damage the bilateral relationship but could also result in various future sanctions, such as tariffs. We are convinced that this factor is crucial for the competitive development of current manufacturing and for developing new networks in the long term.

We Remain Competitive in Labor Costs

Minimum wage increases implemented over the past decade – and especially during the current administration´s time in office – have impacted various sectors in Mexico´s economy. Some studies carried out by Banxico have found effects on price increases, and it´s possible that they are generating spillover effects on wage adjustments in both the formal and informal sectors, which may vary across industries. Additionally, according to various surveys filled by business owners, labor costs are the second most significant factor incentivizing Mexico as an attractive investment destination, while proximity to the U.S. is the primary reason.

In this section, we decided to analyze whether these minimum wage increases have resulted in a loss of competitiveness in labor costs. In order to do this, we used data regarding wages of factory operators and assemblers from various economies, all reported in dollars.

When comparing wages among various economies, we found that the economy with the highest labor cost is the United States, with an hourly wage of $27.4, followed by South Korea at $16.3 and China at $8.2. Mexico has an hourly wage of $2.5, which is almost three times lower than that of the Asian giant, and Brazil is very close with $2.4. Further down, we find that Vietnam and the Philippines have hourly wages of $1.7 and $1.6, respectively.

These findings reveal that China’s “cheap” labor competitiveness seems to be more of a myth, as it is the third economy with the highest labor costs in relative terms in our sample; its labor costs also show an upward trend. This typically occurs with strong inflows of Foreign Direct Investment over several decades, which increase the country’s disposable income, and consequently, workers’ wages. Despite recent minimum wage increases in Mexico, we do not see a rising trend in wages, nor a significant loss of relative competitiveness compared to its peers. This suggests that the wage policy does not appear to have undermined one of the key attractions of our labor force. This could be due to the fact that the labor force is highly specialized and earns above the minimum wage, so the minimum level is not a reference for wage setting in the sector, according to anecdotal comments made by some of the country’s exporting companies.

Global FDI in 2023

In the past year, global Foreign Direct Investment accumulated a total of $1.364 trillion dollars, which was a 7.0% decrease compared to the $1.466 trillion dollars recorded in 2022, according to data from the Organization for Economic Co-operation and Development (OECD). In relative terms, FDI in 2023 accounted for 1.3% of global Gross Domestic Product, also lower than the 1.4% recorded in 2022 and the 1.9% in 2021. The OECD reported that some multinational corporations relocated their activities to other economies in the last quarter of 2023, which could be related to the implementation of the global minimum tax that came into effect this year and may continue to impact corporate relocation among economies.

The drop in global FDI is mainly due to a collapse in China´s FDI (to all-time lows) amidst geopolitical tensions and higher interest rates. Additionally, the organization reported that despite the challenging environment, FDI inflows were recorded in i) The United States ($341 billion in 2023 vs. $364 billion in 2022), ii) Brazil ($64 billion in 2023 vs. $73 billion in 2022), iii) Canada ($46 billion in 2023 vs. $50 billion in 2022), iv) China ($190 billion in 2023 vs. $43 billion in 2022), v) Germany ($27 billion in 2023 vs. $37 billion in 2022), vi) Mexico ($36 billion in 2023 vs. $36 billion in 2022), vii) Spain ($34 billion in 2023 vs. $43 billion in 2022), viii) Australia ($67 billion in 2023 vs. $32 billion in 2022), ix) France ($36 billion in 2023 vs. $30 billion in 2022), and x) Switzerland ($46 billion in 2023 vs. $29 billion in 2022).

Other data released by the organization shows that capital flows associated with new investments are at their lowest levels since 2005, merger and acquisition activities continue to decline and are at their lowest level in the past decade, and investment announcements stagnated in 2023, with divergences between advanced and emerging economies, as the former decreased by 20% while the latter increased by 21%, a situation also seen in Mexico with FDI announcements reported during 2023 for the coming years. Among the projects announced globally last year, notable examples in the manufacturing sector include the construction of a hydrogen plant in Mauritania (Africa) and a sand processor along with a high-capacity refinery in Indonesia. In the artificial intelligence sector, announcements were made in Malaysia (AWS), Germany (Virtus), and Australia (Microsoft) for projects related to cloud and technological infrastructure. AWS’s announcement in Mexico was made public in 2024.

Undoubtedly, it´s important for Mexico to be among the top ten leading recipients of foreign direct investment in the world, which highlights the country’s geographical importance and its competitive advantages. Looking ahead, it´s imperative to preserve and leverage the country’s advantages by addressing future challenges such as limited electrical infrastructure that has caused blackouts in several cities in the country, as well as the challenges that have been caused by limited water supply, and preserving rule of law, among others.

A Risk That Has Already Caught Up With Us

We have pointed out that one of the main challenges that could prevent us from capitalizing Nearshoring´s potential is the lack of electrical infrastructure in our country. Companies may face higher costs when there is no certainty in the reliability of electricity supply, which can diminish the desire for relocating value chains to our country. According to CFE data submitted to the Mexican Stock Exchange at the end of 1Q24, gross generation in March set at 55,614.406 GWh, including independent energy producers. The lack of both public and private

investment (due to legislative changes) is causing certain imbalances in energy consumption. Growing demand and a lag in supply have led to the state of emergency and alarm that we have recently witnessed. Additionally, National Transmission Grid acts as a bottleneck as it is an exclusive state matter. The gap will not be closed soon: There are plans to build 777 km of new transmission lines in the short term, but this only represents 0.7% of the national grid. By 2031, 4,325 km are planned, merely 3.6% of the total.

This situation must be addressed by the next administration, as there is an urgent need for extensive rounds of investment to accelerate the pace of electricity generation and transmission. Concerning this issue, joint participation between the government and the private sector is essential.