Illegal trade has done immense damage

Illegal trade has done immense damage to the Mexican apparel industry's image and competitiveness. A solution does not appear close.

Mexican apparel manufacturers view a government crackdown on trade of contraband apparel as an important avenue for improving their competitiveness as their margins are squeezed by more conventional competition.

Many view the fight against illegal apparel trade as a key factor in Mexico's struggle to retain market share during the next few years. "It is a huge structural problem," says Jorge Castro Velasco, general director of Durango-based jean producer Ropa Siete Leguas. "Mexico cannot stand around and wait for it to be resolved."

International companies are also concerned. Some say the issue has contributed to the dramatic slump in inward investment in recent years as foreign firms struggle against security issues as well as a general perception that much of the Mexican market is being lost to illegal traders. Foreign direct investment in the Mexican textile industry fell from $412 million in 1999 to $113 million in the first nine months of 2003.

According to the latest Mexican government study, some $9.5 billion, or 58 percent of apparel sales in the Mexican market, are attributed to unlawful sources, whose merchandise is either stolen or illegally imported, or sold through illegal channels.

While hi-jacking of trucks and ships has been a long-standing problem, progress has been made in recent years through improved highways and better company-sponsored security. Illegal imports now weigh most heavily on the minds of Mexican apparel business owners.

"There are two types of contraband," explains Rodolfo Garcia Muriel, president of denim giant Compania Industrial Parras. "[There is] contrabando bronco, which is smuggled into the country, and technical contraband, which comes through customs, but uses false documentation."

For both definitions, most of the illegal imports, both fabric and finished products, are assumed to come from Chinese companies, which, with labor costs 25 percent of those in Mexico, have the greatest incentive to look for ways to sell into the market unregulated. This has naturally aggravated hostility toward Mexico's Far Eastern rival.

Government policies may have exacerbated the problem. In a bid to protect domestic producers, the Mexican government deploys huge, 533 percent tariffs on imported apparel goods from China. But this has merely created an added incentive for Chinese dealers to sneak their products in through the back door. Even for customs-cleared products, the effect of the tariff has proven to be something akin to squeezing a balloon. Chinese products are now being illegally channeled through other countries, typically Hong Kong, so that they can incur a much-reduced duty of 35 percent.

The effect of contraband on the apparel industry has been devastating. Not only has it meant that many consumers simply choose the cheaper option when purchasing garments, but also that legitimate companies are forced to put immense, and often impractical, downward pressure on their selling prices to try to compete, thereby weakening their own financial structure. "We tried to enter the national market two years ago, but we couldn't do it; the prices were too cheap," says Jose Moguel of skirt and trouser manufacturer Ermo Industrial.

Moreover, there is an obvious fiscal burden, too. The size of the underground market reduces Mexico's tax base, making taxes on legitimate companies that much higher.

The contraband problem is of course not unique to Mexico, but it is difficult to pin down exactly why the contraband market is so large in Mexico in relation to other countries. A lack of purchasing power among Mexico's sizeable population is one explanation. Although Mexico's per capita income, at $6,200 per year, is three times that of El Salvador and five times that of Honduras, the country has become an easier target for cheap contraband as domestic prices have risen and Mexico's manufacturing sector has struggled.

But the over-riding perception is that the authorities simply are not doing enough to prevent illegal products from entering the country, or clamping down on the ones that slip into the system. "It is in the government's interests to fight contraband, as it is affecting the growth of industry here," says Jorge Luis Zamora, general director of thread producer American & Efird in Mexico.

The government has an estimated $2.7 billion in tax revenue to gain if it can re-direct production and sales through lawful channels.

The government has been making the right noises in recent years. In 2001, it announced a goal to reduce contraband activity "as a matter of national priority" by 10 percent annually for five years, which it estimated would expand domestic production by some $7 billion. But the government has shown little sign of being able to get on top of the problem since.

Many believe that much more could be done in enforcing the law. "The government needs to crack down much harder on offenders," says Salomon Presburger, head of Mexico City-based jacket manufacturer Preslow. "Despite the obviously large number of offenses, I can't name one case of a contrabandista being convicted."

Could the government try harder? Some detect a somewhat backhanded agenda. By turning a blind eye, the government allows illegal activity and sales points to mop-up much of the country's unskilled labor, thereby easing what could be a crushing social problem. "This is a deep-seated, protracted problem. A government is only in office for a few years, so has little incentive to get to grips with it," says Miguel Cal, commercial director of the Mexican branch of international thread supplier Coats.

By focusing on quality and international standards rather than price, Coats is among many foreign companies operating in Mexico that have an interest in beefing up the strength of legitimate apparel firms, says Cal.

"If the government would just reduce contraband activity by 10 percent to 15 percent, we would be given a massive lift," says Eulalio Marquez of sweater manufacturer Marfrat.

What can companies do? Many seem helpless against what they view as an intractable issue. "To a firm, the fight against contraband products is a lost fight," says Presburger. "The prices are just too cheap and the profits too great."

A few companies are using new innovations from industry suppliers to try to fight the problem. Label manufacturer Paxar, for instance, offers anti-counterfeiting solutions, similar to those used to safeguard world currencies and security documents. The use of such solutions can give both consumers and clients a way to ensure they are doing business with legitimate sources.

Whichever route government and industry take, the problem is not likely to disappear quickly. It will take a sustained effort from both parties to provide what most apparel producers want most of all - a chance to compete in their own backyard.