USMCA: New Rules for a New EraBy Alejandro Enríquez | Wed, 07/01/2020 - 09:10
After a long period of deliberation, a finalized USMCA will bring certainty to the industry. As stricter rules of origin are enforced, new investments and expansions are likely to take place in the short and middle terms, changing the automotive landscape of the region just as NAFTA did.
Under pressure from US President Donald Trump, Mexico, Canada and the US redefined their trade relationship in North America with a renegotiation of NAFTA that started in August 2017 and evolved into a new deal: USMCA. Trump based his determination to force a new agreement on protecting jobs, industries and workers, and after a long wait, the US Congress ratified the new deal in January 2020, just months after Mexico. Followed by Canada who sanctioned the treaty in March. For the automotive industry, the agreement will have major implications as stricter rules of origin are implemented, including the additional Protocol of Amendments signed in December 2019.
According to Minister of Economy Graciela Márquez: “The first highlight from USMCA for the automotive industry is that Mexico maintains its preferential access to the US market. Changes agreed in rules of origin will boost a greater degree of integration for this industry in North America. An increase in the regional value content (RVC) further reinforces and consolidates production chains and promotes greater use of inputs sourced in North America, providing greater opportunities for Mexican suppliers.”
Three major rules of origin for vehicles were introduced in USMCA, which are outlined in Chapter 4 of the treaty, in Annex 4-B, Chapter 87 and in Appendix to Annex 4-B: Provisions related to the product-specific rules of origin for automotive goods, articles 3, 4, 6 and 7. Later, further changes were introduced in the Protocol of Amendment, amendment 2.A.
With USMCA, Mexico maintains its preferential access to the US market” Graciela Marquez, Minister of Economy
The first rule refers to RVC, which is the percentage of the vehicle that must be manufactured in North America to be traded tariff-free. This can be calculated according to two different methods: the Net Cost Method (NCM), referring to the total cost of the vehicle minus sales promotion, marketing, after-sales service costs, royalties, shipping, packing costs and non-allowable interest costs; and the Transaction Value Method (TVM), meaning the value of the vehicle determined in accordance with the Customs Valuation Agreement. The RVC rule is different for light vehicles and trucks than for heavy vehicles, both in terms of percentage and the time companies have to comply with this new rule. Light vehicles and trucks will have a three-year period to reach a 75 percent RVC, according to NCM, while heavy vehicles will have a seven-year period to reach a 70 percent RVC following NCM.
“These new standards will benefit auto parts producers across North America. Companies that use components that are imported from outside the region will have to find a way to buy them or produce them locally. This will surely lead to investments in all three countries. This will be a gradual process and Mexico could use it to attract more FDI. Still, we need political and investment security and a robust implementation of USMCA,” says Oscar Albin, Executive of President of INA.
The second rule of origin is a newly created Labor Value Content (LVC) requirement. It establishes a three-year period for light-vehicle producers to comply with a 40 percent standard regarding manufacturing and technology development made at a certain salary rate. For light trucks and heavy vehicles, the standard is 45 percent, while it is 40 percent for light vehicles. Of this 40 percent, at least 25 percent should be linked to high-wage (US$16 per hour) material and manufacturing expenditures, no more than 10 percent to high-wage technology expenditures and no more than 5 percent to high-wage assembly expenditures. For heavy and light trucks, the percentage related to high-wage material and manufacturing expenditures is 30 percent.
56% of MAR 2020 interviewees believe the new USMCA will have a positive impact on the Mexican Industry
Executive President of AMIA Eduardo Solis says the LVC rule is not intended to increase Mexican workers’ wages. “Salary content requirements in USMCA are meant to attract auto parts production operations to the US and Canada rather than incentivizing salary increases in Mexico, as wages of US$16 per hour can only be found in those countries. However, the treaty offers a way to reduce those percentages. For instance, if a company produces advanced battery packs, transmissions or engines or engages in R&D operations in the region, it is possible to play with the percentages,” he says.
Finally, USMCA implements a third rule establishing special requirements for steel and aluminum used in passenger vehicles, light and heavy trucks. The original version of the agreement stated that a vehicle would be considered regional only if 70 percent of the vehicle producer's purchases of aluminum and steel (by value) come from North America. The Protocol of Amendment added that in a seven-year period, for steel to be considered regional, all its manufacturing processes must occur in at least one of the three countries, except for metallurgical processes involving the refinement of steel additives. Such processes range from the initial melting and mixing to the steel’s coating stage. The new requirement does not apply to raw materials used in steel manufacturing processes. Ten years after USMCA’s enforcement, countries would set appropriate requirements to consider aluminum as regional.
USMCA is expected to advance the Mexican automotive industry another step ahead. Fifty-six percent of MAR19/20 interviewees believe the new agreement will have a positive impact on the national industry. “USMCA’s enforcement will help to curb uncertainty,” says Manuel Nieblas, Partner and Manufacturing Industry Leader of Deloitte Mexico. Juan Francisco Torres Landa, Partner of International Law firm Hogan Lovells BSTL, agrees with Nieblas. “The new rules of origin may not be ideal for some but they ensure continuous development of the automotive industry in the face of political uncertainty,” he says.