By Vaibhav Tandon

Throughout their histories, Mexico and the United States have had a complicated relationship.  More than 200 years of diplomatic relations have established deep cultural and economic ties, but these bonds could be tested under the new U.S. administration. 

The United States-Mexico-Canada Agreement (USMCA) and its predecessor, the North American Free Trade Agreement, were instrumental in establishing Mexico as a regional export hub.  This has led to a large trade imbalance with the U.S., the main source of friction under the first Trump administration. 

In his first term, Trump imposed 25% import tariffs on steel and 10% tariffs on aluminum from all nations, including Mexico.  The move triggered a tit-for-tat retaliation, with America’s southern neighbor announcing 25% tariffs on imports of several U.S. steel products.  An estimated $2.6 billion worth of farm products were also subject to new Mexican tariffs. 

As we discussed last summer, Chinese companies are using Mexico as a tariff-free back door to the U.S. market.  Bilateral trade between the two nations has surged since the pandemic, almost doubling in the last five years.  Chinese goods account for about 20% of Mexico’s total imports, making China the country’s second-largest trading partner. Foreign direct investment from China to Mexico reached a 13-year high in 2023.  The incoming administration will seek to make the practice of “white labeling” much less attractive.

Mexico will be under pressure to pick sides in a renewed U.S.-China trade war.  The threat of punitive U.S. policy could force the Mexican government to implement restrictions on China’s goods and investments, especially in the areas that are perceived to be of security risks to America.  The situation would lead to disruptions, as corporations operating in Mexico will struggle to replace Chinese supplies. 

The trade deficit isn’t the only reason behind the risk of renewed tensions between the U.S. and Mexico.  The surge of migrants is another potential trigger.  While most refugees are only transiting through Mexico, the nation has been accused of doing too little to stem the flow.  Donald Trump has threatened a blanket 25% tariff on all Mexican goods over this issue.

Mexico must look out for its domestic sector, as well.  But its support for its state-owned enterprises is frowned upon by its trading partners.  Combined with the trade imbalance, immigration and relations with China, the U.S. could demand a complete renegotiation of the USMCA in 2026, when its signatories agreed to revisit the agreement.  Few think it will be substantially dismantled, but the prospect of alterations can discourage prospective investments. 

Given high reliance on its northern neighbor, Mexico would be hard hit by trade restrictions.  Mexico exports about 80% of its goods through its northern border.  About 90% of the vehicles produced in the country are destined for export, mainly to the U.S. and Canada.  The country’s booming manufacturing sector provides employment to about 5 million of its residents.  If all of Trump’s policies are implemented to their fullest, Mexico’s gross domestic product would be 1.5% lower than it would otherwise have been, according to Oxford Economics. 

By contrast, U.S. trade with its southern neighbor represents only about one-tenth of its total.  However, the continent’s supply chains are heavily intertwined and interdependent, especially in the automotive and agricultural industries.  Mexico is an important market for American farmers and manufacturers of semiconductors and chemicals.  Targeting Mexican goods could deliver a blow to U.S. businesses and households and diminish the momentum behind re-shoring.

Long relationships have their ups and downs.  The U.S. and Mexico may be in for a challenging stretch.  But escalating tensions between such close trading partners can do lasting economic harm.  Both nations should invest heavily in working out their differences.