North American Competitiveness and Labor Market Interdependence

1. North American Competitiveness andLabor Market Interdependence Raul Hinojosa Ojeda, UCLA, Principle Investigator With: Robert McCleery, MIIS Fernando De Paolis, MIIS/DRCOG Terrie Walmsley, Purdue

2. Stylized Facts of NAFTA Today • Massive US trade deficit • ($70 Billion in August despite rapid export growth) • Despite falling oil prices, the 2006 record deficit will exceed the 2005 record deficit, which exceeded the 2004 record… • Growing discontent in US, particularly with China (trade and investment diversion) and India (trade and outsourcing) • Large and growing US undocumented population • Credible estimates (Pew Hispanic Center, 2006, and Urban Institute) place this population at 11 to 12 (Urban Institute) • Growth is accelerating, now about 500,000-800,000 per year • About 14 million in homes where one or more are undocumented (Pew Hispanic Center, 2006) • Concern about economic and social costs of existing system in US and Mexico • Questions about positive and negative impacts of remittances

3. Issues • Competitiveness and Trade Policy in NAFTA • US Immigration and Remittance Reform • Development in Mexico

4. Historical Separation of Trade and Immigration/Remittance Research • Trade largely studied by economists, migration/remittances by sociologists • Yet the two issues are clearly intertwined, nowhere more so than in North America • Thus we have assembled a team of trade and migration researchers and constructed a model that considers interactions among these two crucial flows

5. The Importance of Trade • Most early studies of NAFTA focused exclusively on trade issues • NAFTA lowers trade barriers among the three countries, leading to: • Production, investment and employment expansion in areas of comparative advantage • Corresponding contractions in areas of comparative disadvantage • Net efficiency gains, perhaps after a period of transition • In sectors with economies of scale, production levels could rise, costs fall, and prices fall by even more as competition increased, creating even larger gains • Modest redistribution impacts, presumably favoring a country’s relatively abundant factors of production

6. The Importance of Immigration and Remittances • Although the economic impact of immigration in NA is widely recognized, few NAFTA modelers considered impacts on immigration and few immigration specialists were included in the NAFTA debates • Conventional wisdom: NAFTA will raise employment and income in Mexico, thus lowering undocumented migration • Alternative perspective: Elements of the NAFTA transition will have conflicting impacts on migration, with the net effect likely to be an increase, due primarily to a collapse in corn prices and production levels in Mexico. This transition period could be long. • Remittance impacts outpace other financial flows

7. Why Rethink NAFTA Trade? • Despite trade liberalization (and increased FDI), we have seen modest income and employment growth in Mexico • Despite tariff reduction, domestic subsidies, non-tariff barriers, and agricultural protection continue to distort production and restrict gains • “North American” competitiveness vis-à-vis the world (especially China and India) has not improved as hoped • Exchange rate variability, in and beyond NAFTA, decreases potential integration and gains • Massive adjustments loom, if the US trade deficit proves unsustainable

8. Why Rethink Immigration Policy? • Undocumented migration has not decreased as had been predicted/hoped (post-IRCA or post-NAFTA) • Labor market conditions for undocumented migrants in the US are embarrassing, a point of bilateral contention with Mexico, and undermine the push for improved labor standards world-wide • The presence of exploitable undocumented workers lowers wages and worsens working conditions for all lower-skilled workers • Reducing poverty and inequality is made more difficult and costly in migrant-receiving communities • Potential public backlash against all immigration

9. Asymmetries in Trade and Immigration Policymaking • One reason trade and immigration policies are not considered in a holistic fashion is that trade is considered an international policy with domestic effects, while immigration is viewed as a domestic policy with international effects • Even the EU finds it difficult to seize the ability to regulate labor movement within the Union from member governments, much less craft a reasonable policy towards immigration from outside the Union

10. Our Trade and Immigration Model • Trade is motivated by both price differentials and regional characteristics of goods (Armington) • Services trade is included, such that none of the 29 sectors in the models (see appendix for sectoral definitions) are “purely non-traded” • Trade liberalization can consist of reducing or eliminating manufacturing tariffs, all tariffs, or all barriers, including non-tariff barriers.

11. Our Trade and Immigration Model (2) • Immigration is motivated by real wage differentials and influenced by immigration policies • Migrant remittances are explicitly modeled, and are impacted by any policy that affects migration levels or migrant earnings • Immigration policies: • Impact the wage differentials directly, raising or lowering the percentage of domestic wages earned by migrants (0.6 people revisited?). For example, wages (and productivity) of legalized migrants increases with immigration reforms • Impact the responsiveness (elasticity) of migration with respect to any given wage differential. For example, additional enforcement lowers immigration, for a given wage differential (Dallas Fed, 2001)

12. Our Trade and Immigration Model (3) • Immigration and trade interact in several important ways: • The presence or absence of immigrants in a country impacts the relative price of goods, and thus trade flows • Openness to trade impacts wage levels, and thus immigration incentives • Remittances impact the balance of payments and thus trade flows • Remittances further fuel investment and growth in migrant-sending regions, thus impacting wages, prices, trade and migration

13. Scenario Descriptions • We run three types of scenarios, although only the first two types will be presented today: • Change migration policy, with direct impact on migration and indirect impacts on trade • Change trade policy, with direct impact on trade and indirect impacts on migration • Change both policies, with direct and indirect effects on both types of international flows Within each type of scenario, we tighten or loosen US and Canadian policy, decomposing impacts of various “sub-policies” whenever possible

14. Tighter Immigration Policies • Version 1-deportation/closed border with Mexico • In this scenario, over 6 million migrant workers (and their dependents) are deported (or, alternatively, never allowed to enter the country). In this “Year without Mexicans,” we see the impacts on GDP, real wages for skilled and unskilled workers in the three countries, total exports, imports, and the trade balance as shown on the next slide • All figures in the table are percentage changes, relative to today’s “status quo” or “baseline”

15. (1a) Mass Deportation

16. Tighten Border and Anti-Immigrant Policies • A less extreme policy option is increased border enforcement and weaker legal rights and protections for existing undocumented migrants • Wages for undocumented migrants in the US and Canada will drop from about 50% to about 40% of the earnings of “natives” • A one percent increase in the wage differential now elicits a 0.3% immigration response, down from 0.4% in the status quo

17. (1b) Tighten Border and Anti-Immigrant Policies

18. Loosen Immigration Policies • Two potential “loosening” policies are considered, with different motivating philosophies and impacts: • A) “Wink and Nod” The historical practice of reducing border enforcement when the US labor market is tight, which lets in more migrants but does not address migrant-native disparities • B) Greater legal protection of existing migrants, probably through “regularization” rather than blanket legalization

19. Loosen Immigration Policies (A):“Wink and Nod”

20. Regularization/Legalization (B)

21. Legalization Plus Remittance Banking and Re-Investment Policies • In addition to the legalization of migration flows, both countries would most benefit through remittance banking and re-investment policies : • A) Greater legal protection of existing migrants, through “regularization” and legalization should include easy access to opening bank and credit union accounts for low cost remittance transfers • B) “Community Re-investment” programs should be put in place to encourage these banks and credit unions to invest in migrant sending areas, further increasing intermediation and productivity gains in both countries

22. Legalization Plus Remittance Banking and Reinvestment Policies

23. Trade liberalization scenarios • These also come in two types: Expansion of trade preferences within NAFTA to all products and multilateral trade liberalization in manufactures

24. Further NAFTA Liberalization

25. Multilateral Liberalization (Mfg.)

26. Trade Barriers Targeting India/China

27. Double Tariffs Globally (Mfg)

28. Interpreting the Results and More • Key Findings • Interesting sectoral details • Areas for further research

29. Key Findings • Migration scenarios have impacts that are an order of magnitude greater than trade scenarios. • Therefore NAFTA studies that ignore labor markets miss the primary driver of integration and the primary source of both gains and conflict. • Trade impacts of migration scenarios can also be large, confirming that a model incorporating both channels is important to understanding either phenomenon.

30. Deportations • Massive deportations of 4 million skilled and unskilled Mexican-origin workers would lead to a sharp economic contraction in the US. US GDP falls by 1.2% (around $130 billion). • Mexico’s initial GDP gains from more labor must be balanced against the foreign exchange and development impacts of reduced remittances. A $9 billion trade balance adjustment (increase exports and decreased imports) is needed. • Distributional impacts are mixed in the US, with modest gains for low skilled labor (under $50/year), greater gains for skilled labor, and losses of 0.5% of capital income and 1% for landowners. • Wage declines in Mexico are similar in magnitude, but greater in percentage terms. Capital and land owners gain, but modest amounts (0.2% and 0.5%, respectively).

31. Tighter Border Controls • Tighter controls cannot reasonably halt migration. Our benchmark was to “deter” about 1 million unskilled (and 0.5 million skilled) migrants, 375 thousand from Mexico and 580 thousand from the rest of Latin America. • The macro impact on the US and Mexico is less extreme, but still very significant. US GDP declines by 0.4% (nearly $50 billion), while Mexico’s increases by 0.6% (just 6 billion) and GDP for rest of LA rises by ¼ percent ($4 billion). This differential of nearly 5 to 1 between gains and losses illustrates the global efficiency of migration. • Distributional impacts are similar, but are now born disproportionately by low skilled labor. • Modest impacts on “rest of LA” as a whole clearly obscure large negatives for some small Central American and Caribbean countries.

32. Legalization • Legalizing existing migrants creates large gains for the US (0.6% of GDP), with only modest GDP declines in Mexico (0.3%) and rest of LA (0.1%). • Migrants themselves are the big winners, with modest declines for other US workers. • Even the modest negatives above rest on an increase in immigration in response to legalization (about 350,000 low skilled workers, 150,000 from Mexico). Studies (Dallas Fed 2001) did not indicate such an increase immediately before and after IRCA in 1986.

33. Weaker Border Controls • Compared to legalization, the US gains less (0.5 versus 0.63), unskilled US workers lose more ($67 versus $50), and Mexico and rest of LA lose more (0.7% and 0.3% versus 0.3% and 0.1%). • Additional migration inflows are three times greater, explaining why costs to Mexico and rest of LA are about three times higher.

34. Interesting Sectoral Details • Tigher border controls reduces output in all US sectors, in the long run. • In dollar terms, output falls by more than $2 billion in: Other processed foods, leather-wood-paper, Chemicals-rubber-plastics, other metal products, motor vehicles and parts, electronic equipment, and non-electrical machinery. Construction falls over $5 billion, and total capital goods production falls $9 billion. • In percentage terms, the largest declines are in textiles, garments, transport equipment and electronic equipment, all of which fall by more than 0.6%. Many other sectors see decreases of more than 0.5%.

35. Legalization-Sectoral Impacts • One sector (other agriculture) contracts, but 13 sectors record gains of more than $2 billion. Those with gains above $3 billion are: leather-wood-paper, chemicals-rubber-plastics, motor vehicles and parts, non-electric machinery, and construction. Note that all of these sectors were $2 billion losers from tighter controls. Total capital goods production rises by $14 billion. • Large percentage gainers besides those noted in the last slide are: Ferrous metals, trade and transport, and government and misc. services. • Note that there are three potential effects in this scenario—labor supply, income, and productivity. Each can influence sectoral output, in potentially offsetting ways.

36. Weaker Border Controls-Sectoral Impacts • The usual suspects gain, with the largest absolute gain in construction and the greatest percent gains in textiles and garments. • On the Mexican side, large absolute contractions of about $1 billion are seen in trade and transport, non-electrical machinery, and electronic equipment. In addition, large (<1%) percentage reductions can also be seen in: textiles, ferrous metals, other metal products, and motor vehicles and parts. In contrast, no sector experiences a contraction of ½ billion or more in the legalization scenario.

37. Notes for Further Research • First and foremost, this is a comparative static model. Many of the interesting questions related to NAFTA involve looking at transition periods and impacts of policies on economic growth. This model is not well suited to those tasks, hence our long-term goal is to make the model dynamic.

38. Notes for Further Research 2 • Following on the above point, the model assumes integrated, national labor markets for both high and low skilled labor. Even before making the model fully dynamic, introducing more realistic labor market frictions could allow us to address some adjustment issues with respect to our trade and migration scenarios.

39. Notes for Further Research 3 • A huge advantage of this model is that it is based on a standardized, consistent international data set, over many countries and sectors. Thus the users can “dial in” the combination of countries/regions-sectors they choose. The disadvantage is that one cannot introduce the most up-to-date data on a particular relationship, such as US-Mexico-Canada migration, from North America-specific sources.

40. Appendix 16- mineral products = 34 17-ferrous metals = 35 18-Other metals and products = 36+37 19-motor vehicles and parts = 38 20- transportation equip = 39 21-Electronic equipment = 40 22-Non-electric machinery and equipment = 41 23-other manufactures = 42 (24-29, services) 24-utilities = 43,44,45 25-Construction = 46 26-Trade and transport = 47,48,49,50 27-high-tech services (finance, insurance, real estate) = 51,52,53,54 28-Government and misc services = 55,56 29-Dwellings = 57 Our 29 sector definitions related to the 57 sector GTAP “base” data set: (1-7, primary products) 1-Irrigated ag in Mexico (Mexico’s CA) = 4+6 2-Traditional ag in Mexico (US/Canada CA)= 3+5+7 3- Animals and animal products = 9,10,11,12 4-Other Ag = 1,2,8 5-Forestry and fisheries = 13+14 6-“raw” energy = 15,16,17 7-Mining = 18 (8-23, manufactures) 8-other processed foods = 19,20,21,22,23,25 9-Sugar = 24 10-beverage and tobacco = 26 11-textiles = 27 12-garments = 28 13-leather, wood and paper products = 29,30,31 14-“refined” energy = 32 15-Chemicals, plastics, rubber = 33

41. Questions?