Why are Mexico and Japan's Economic Zones Special?

On 29 September, President Enrique Peñthe Nieto formally launched an effort he had first announced in November 2014 to create, for the first time within Mexico, three special economic zones (SEZs) in the country’s weakest states. The next day, Peña Nieto listed in Congress the draft from the law that will set the guidelines and conditions for the creation as well as operation of these zones.

The task was presented as a big push to alleviate the historic backwardness associated with Mexico’s south. The aim, although, is to offer foreign companies a secure, business-friendly environment via a preferential fiscal and customs regime. The SEZs will also offer some extra advantages like soft loans through Mexican development banks and tight security measures to guarantee the guideline of law. As somewhere else, it is taken for granted that SEZs may lure multinational firms in order to deploy operation in these areas and so generate well-paid jobs, boost innovation and exports, and enhance Mexico´s competitiveness in worldwide markets.

In mid-2013, Prime Minister Shinz Abe proposed the development of so-called national strategic special zones (NSSZs) in Japan’s largest metropolitan areas. In December of that 12 months, the Diet approved his suggestion and passed the corresponding legislation. In March 2014, just months before Peña Nieto’s statement, six of Japan’s largest urban areas, including Tokyo as well as Kansai, were designated as NSSZs.

Although comparable zones have been established before in Japan — Structural Reform Special Zones in 2003 and Comprehensive Special Zones in 2011 — Abe’s are the closest to the fundamental SEZ model. NSSZs offer foreign investors a favourable institutional setting where corporate tax rates are reduce and government regulations are substantially looser than somewhere else in Japan, especially concerning labour and employment. The explanation was that NSSZs would revitalise the sluggish Japanese economy and improve its competitiveness within global markets by bringing in foreign capitals that will produce employment and propel innovation.

Why have these two countries on opposite sides of the Pacific undertaken such similar, similarly unprecedented initiatives at this time? The reason why have they chosen to accept a policy formula that has been used extensively in many countries for more than three decades?

SEZs were very effective in attracting foreign capitals and large manufacturing operations to The far east, generating employment, innovation as well as growth in the process. Similar results have been produced in other countries. Currently, three out of four countries have at least one SEZ and some 4,300 are in procedure in the world. Yet their overall record is not so bright.

The Economist recently reported that SEZs create distortions, require large opportunities in infrastructure and imply forgone tax revenues, so many fall short. Witness the fact that ‘Africa is actually littered with white elephants [and] India has hundreds [of SEZs] that didn’t get going’.

Likewise, a World Bank research documented that SEZs may appeal to foreign investments and create work in the short term but fail to achieve this when the initial favourable problems wane. The study also found that SEZs could generate exports and work but fail to extend advantages outside their enclaves, and, which foreign companies take advantage of regulations and other benefits without generating much employment or export revenues.

Why, then, have Peñthe Nieto and Abe opted for a policy option with such a questionable record?

Part of the answer is that each leaders viewed SEZs as a promising strategy to attain crucial objectives of their administrations and deal with other short-term priorities. The other part is that both Peña Nieto and Abe are fully committed to drive for the establishment of the Trans-Pacific Relationship (TPP) given the potentially juicy benefits this accord can open for them. Both countries used the TPP as part of their rationale for the creation of SEZs.

In effect, Peña Nieto is betting that SEZs will help materialise the architectural reforms he has pursued because his main policy task to stimulate the practically stagnant Mexican economy. Establishing SEZs is, then, a top priority for his government even though the project will require a public investment package that covers US$6.7 billion — plus forgone taxes revenues — and that it is a near replica of the failed Puebla-Panamá Plan launched by Vicente Fox in 2001.

The fact is that SEZs usually are meant to attract foreign capital in order to tap into the investment opportunities the actual TPP and other regional arrangements, like the Pacific Alliance, can bring about. An associated goal is to create the problems for China to invest in big projects in Mexico. This comes after major projects like the Mexico City–Querétaro bullet train and also the construction of a large trading centre called Dragon Mart near Cancúd, in which Chinese companies were the leading partners, were scrapped in the last two years.

Similarly, Abe’s NSSZs initiative lies at the core of his economic strategy to revive the sluggish Japanese economy by implementing a set of structural reforms, the third policy arrow of his Asia Revitalisation Strategy revised in June 2014. His aim is to promote private investment to end deflation through breaking through the ‘bedrock’ of Japan’utes tight regulatory system in the main cities. It is overlooked that NSSZs will attract ‘investment from throughout the world’ and thus strengthen Japan’s position as an international business hub.

Given their mixed record around the world, the question continues to be to whether SEZs will be able to perform the wonders that both countries, and especially Mexico, expect.

Will SEZs really help Mexico and Japan? is republished with permission from East Asian countries Forum