Mexico’s president-elect, Claudia Sheinbaum, will be inaugurated on October 1, taking power just as the campaign in the United States presidential election reaches fever pitch. In 2020, Donald Trump made building “The Wall” to keep out illegal immigrants the focus of his campaign. This time, Mexico is in the spotlight for its deepening economic relationship with America’s new enemy number one: China.

U.S. politicians say Mexico risks becoming a “backdoor” for Chinese exports to circumvent import tariffs, especially for cars and auto parts. In March, Trump warned of an impending “bloodbath” for the American auto industry. President Joe Biden has responded with tough rhetoric of its own, and is quietly pressuring Mexico to scrutinize or even block Chinese investments.

In reality, there is little chance of Mexico becoming a conduit for cut-price Chinese cars to flood the U.S. market. Chinese investment is growing but limited; there are no big Chinese car factories in Mexico, and exports from Chinese-invested factories are small. Even if Chinese carmakers do make moves into Mexico, stringent controls under the United States-Mexico-Canada Agreement and Section 301 duties will prevent them from exporting vehicles stuffed with cheap imported parts. 

Chinese investment will continue to grow in Mexico, but only if the Mexican government can withstand political pressure from Washington, which wants to snuff out Chinese influence over its border. Quite unwittingly, Mexico now finds itself at the heart of the U.S.-China strategic rivalry.

A CHINESE WAVE IN MEXICO

Chinese manufacturing investment has been growing in Mexico for a decade, accelerating after Trump imposed Section 301 tariffs on Chinese exports in 2018. Since the Covid pandemic, when “nearshoring” efforts went into overdrive, more Chinese manufacturers have followed the “Chinese plus” model. U.S. end-clients are often the driving force behind factory relocations, with the likes of Tesla and Caterpillar requiring their Chinese suppliers to move within the USMCA zone, which enables tariff-free exports to the U.S. and Canada. By 2023, Chinese companies had occupied 9.3 million square feet of Mexican industrial park space, up from 1.3 million square feet in 2019, according to development firm Finsa.

Officially, the U.S. remains committed to maintaining an “open investment climate,” but the government is putting pressure on both federal and local governments in Mexico to restrict Chinese investment. 

Many Chinese manufacturers have set up in the desert scrub on the outskirts of Monterrey, just a few hours’ drive south of the Texas border. Ringed by rugged mountains and crisscrossed by freeways, the capital of Nuevo Leon state is home to 175 industrial parks and economically integrated with the U.S.. Before the pandemic, Nuevo Leon received an average of two Chinese investments per year, but that leapt up to 22 per year in 2020-23, according to the Invest Monterrey development agency. Several of Tesla’s Chinese suppliers have opened factories, trucking their goods to Tesla’s gigafactory in Austin. One of the border crossings even has a dedicated lane for Tesla deliveries.

FACTORIES IN THE DESERT

The largest concentration of Chinese manufacturers is at Hofusan Industrial Park, about two hours south of the main border crossing at Laredo, which has overtaken Long Beach to become the U.S.’s largest port. 

When I first visited in March 2022, around 20 Chinese firms were in operation or setting up. That has grown to more than 30 firms, mainly producing auto parts, home appliances, furniture, machinery and electronics. The biggest tenant — the Qingdao-based white-goods and electronics maker Hisense — started production last year. Hong Kong furniture maker Man Wah employs several thousand workers, filling a gap left by the departure of Shanghai-listed KUKA Home, which is moving to a larger factory nearby.

A notable new investor is CFMoto, a Hangzhou firm that makes all-terrain vehicles. It opened its factory near the city’s international airport in 2023, just 15 months after beginning construction on an undeveloped plot of sand. It has a capacity for 50,000 vehicles a year, all of which will be exported to the U.S.. “We had no choice but to move here,” explains manager Kent Chen. “We have to pay 27.5 percent on our exports from China, whereas here we pay 2.5 percent. We are trying to shift as much production to Mexico as possible.”

Yet while Monterrey’s growing cluster of Chinese firms has received plenty of media attention, especially in the U.S., the reports have often exaggerated the impact and scope of Chinese investment across the country. 

Chinese and Hong Kong firms invested $7 billion in Mexico in 2020-23, a fraction of the $57 billion plowed in by U.S. firms, according to research from the National Autonomous University of Mexico (UNAM). The stock of Chinese investment in 2000-23 was $22 billion — tiny compared with the mammoth $315 billion of American investment.

IT’S THE POLITICS, STUPID

Political opposition to Chinese manufacturing investment in Mexico began to mount in November last year, when five members of Congress delivered a letter to U.S. Trade Representative Katherine Tai expressing concern that China was “preparing to flood the United States and global markets with automobiles, particularly electric vehicles.” 

Yet the preoccupation with unfair competition from Chinese auto exports looks disproportionate, given the USMCA’s strict rules of origin for passenger vehicles. The regional content requirement for all auto exporters is a hefty 75 percent, with further tough requirements for steel, aluminium and labor content. If exporters do not meet them, they must still pay the U.S.’s 2.5 percent most-favored nation tariff on passenger vehicles. Some automakers find it cheaper to pay the 2.5 percent MFN tariffs than to meet the extensive requirements. 

This is probably not an option, however, for Chinese automakers. Passenger vehicles originating in China are subject to a 25 percent tariff under Section 301 duties. If vehicles made by Chinese manufacturers in Mexico cannot meet the local content requirements under USMCA, they are likely to be treated by U.S. customs as “products of China.” That means they must pay a total tariff of 27.5 percent, including the 2.5 percent MFN rate — the same as they would pay exporting direct from China. In other words, USMCA and Section 301 rules already prevent Chinese carmakers from cheaply assembling and exporting vehicles with lots of imported parts.

The very limited value of Chinese auto exports from Mexico suggests that the current controls are broadly effective. Chinese firms accounted for approximately 4 percent of the domestic auto parts sector and just 1 percent of auto parts exports in 2023, according to the Mexican Association of the Automotive Industry. China’s share of vehicle production is smaller still: JAC is the only Chinese automaker with an assembly plant in Mexico, and it does not export to the U.S.. Chinese car brands had an 11 percent market share in Mexico last year, but they were almost all imported. Popular brands like MG, Geely and Chery do not yet have plants there.

UNCLE SAM’S BIG SQUEEZE

As the U.S. election gets closer, however, the politics are what count. In December, the U.S. and Mexico announced their intention to set up a bilateral working group to screen foreign investments “to guard against foreign investments that pose national security risks.” Officially, the U.S. remains committed to maintaining an “open investment climate,” but the government is putting pressure on both federal and local governments in Mexico to restrict Chinese investment. 

The Mexican government is responding to the pressure. In April, it extended import tariffs of 5-50 percent on 544 items, including steel, aluminium, textiles, plastic products and chemicals. It said this will combat unfair competition from countries with which Mexico does not have free-trade agreements, including China. The tariffs will also raise costs for Chinese-invested manufacturers. Few observers believe Mexico would have taken these measures without a firm nudge from the U.S.. Separately, it was reported that Mexico had stopped offering investment incentives to Chinese EV producers — again, allegedly in response to pressure from the U.S..

That pressure will ramp up when USMCA comes up for revision in 2026, especially if Trump is in power. The U.S. will strike a hard bargain, with Trump already threatening to hike local-content requirements. Other exemptions under Section 301 are likely to be closed, too. Trump could even move to scrap USMCA, which is meant to run until 2036.

CAUGHT IN THE CROSSFIRE

There are strong reasons to believe that the Chinese investment wave will not collapse altogether. Evan Zhang, the general manager of CFMoto Mexico, says that Chinese suppliers will keep relocating because their survival depends on it. Their end-clients’ risk controls require new production to be set up outside China — and Mexico is the only affordable base for the U.S. market. “Yes, there is a risk,” he says, “But it is a bigger risk not to come. These companies will lose everything if they don’t.” 

The alternative — being stuck in China, facing even larger export tariffs and a slowing domestic market — is worse. “All the Chinese bosses I know here say the same thing: we all thank Trump for his tariffs! He forced us to go global and to grow.” 

As the U.S.’s second-biggest export market, Mexico has some trade leverage of its own. But if it is forced to pick a side, Mexico will have to pick its imperious neighbor.

But if Chinese manufacturers do attempt to use Mexico as a stepping stone to the U.S., it is unclear how they will be treated. Legally, Chinese-invested enterprises have the same rights as other foreign-invested companies within the USMCA zone. So Chinese carmakers that meet all the local-content requirements would in theory be subject to the same U.S. import rules as American, European or Japanese carmakers. Mexico would fight on Chinese carmakers’ behalf if they were singled out but had a sound legal case, say auto officials in Mexico City. 

In practice, the U.S. can use national security justifications to trump its obligations under USMCA. EVs are especially vulnerable; an investigation of “connected vehicles” is already underway. The biggest threat is that a Trump-led government retaliates against Chinese investment with a blanket tariff on all Mexican exports to the U.S..

Mexico is uniquely well-positioned to benefit from nearshoring, but its deep dependence on the U.S. leaves it exposed. As the U.S.’s second-biggest export market, Mexico has some trade leverage of its own. But if it is forced to pick a side, Mexico will have to pick its imperious neighbor.

This article is an edited version of a recent research report published by Gavekal.

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