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F E D E R A L R E S E R V E B A N K O F D A L L A S

SouthwestEconomy

In Th i s I s sue

Oil and Gas Rises Againin a Diversied Texas

Trade Conference ExploresU.S.–Mexico ‘CommonBonds’

On the Record:PISA Results Shed New Light on U.S.Education Debate

Spotlight: Does Low-IncomeHousing Tax Credit HurtNearby Schools?

FiRSt quARtER 2011

In Th i s I s sue

Texas Economy toRide Higher

in the Saddle in 2011



President’sPerspective

Education quality is

determined not solely by

the number of dollars

we spend, but by how wespend them.

As the 2011 regional outlook in this issueof Southwest Economy demonstrates, there is

much room for Texas brag when we talk aboutour economy. Job expansion is expected topick up further this year, led by exports andmanufacturing, particularly high-tech. A recentreport on states’ competitiveness by the Bea-con Hill Institute gave Texas high marks forattributes such as a low overall tax burden, ex-ports per capita and foreign direct investment.

But the study also placed Texas near thebottom in most human capital measures. Itranked dead last in the percent of the popu-lation age 25 and older that graduated fromhigh school, 37th in percent of population en-

rolled in degree-granting institutions, 35th inacademic research and development and 41stin science and engineering degrees awarded.

We can’t be happy that we are laggingbehind in education, particularly at the high

school and university levels. In the Knowledge Age, the mind is the capital plantof the modern economy. We admire those who work with their muscles in pullingprosperity from the soil on our farms and ranches, or from deep beneath the earthin our oil and gas sector. We rightly applaud those who help Texas produce almost10 percent of the nation’s manufactured goods. But the world of today and tomor-row is driven by digits, not widgets.

Our economy will continue to move up the value-added ladder and stay ahead of the competitionnot just other states, but also China and other emerg-

ing powersonly if we nurture and harness Texas brains and attract the “best andbrightest” from around the world.

The Legislature faces an enormous task. Our state’s two-year shortfall, whichaccording to Dallas Fed calculations totals roughly $20 billion, must be resolved ina way that maintains Texas’ stature as a beacon of entrepreneurialism and capitalisthope in today’s knowledge-based economy. We can’t shortchange education. For-tunately, as Professor Lori Taylor points out in this issue’s “On the Record” interview,education quality is determined not solely by the number of dollars we spend, butby how we spend them.

Legislators confronting our budgetary squeeze must remember this simple,unalterable, indisputable, critical fact: We have done well so far; our economy ismighty. But to stay ahead and compete in tomorrow’s global marketplace, Texasmust better educate its population.

Richard W. Fisher President and CEO

Federal Reserve Bank of Dallas


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Texas Economy to RideHigher in the Saddle in 2011By Keith R. Phillips and Emily Kerr

Strength in the high-techand energy sectors was

an important source of

Texas’ economic might

relative to other parts of

the country in 2010.

The Texas economy grew moderately in 2010, outperforming most other states.Jobs increased by 209,000, a growth rate of about 2 percentnear the state’s averagepace since 1980. Strength in the high-techand energy sectors was an important sourceof Texas’ economic might relative to otherparts of the country. The state also sufferedless from housing price declines.

Leading indicators, generally positive atthe end of 2010, suggest an improving out-look in 2011 as consumers and businessesregain condence in the economy. The Dal-las Fed forecasting model projects Texas jobgrowth of 2.5 percent to 3.5 percent this year.

Job Growth Strong in TexasThe number of U.S. jobs expanded

0.7 percent in 2010; Texas experiencedtriple that rate. Texas was among three

states where employment grew more than1.5 percent (Chart 1). In general, energy-producing states performed better than otherareas. Natural resources and mining spurredemployment gains in North Dakota, SouthDakota and Minnesota, for example. Eightstates experienced an employment drop-off in 2010, with Nevada recording the larg-est decrease. Weakness there is largely tiedto the struggling housing market, as pricescontinued falling in 2010. Nevada had thenation’s highest foreclosure rate.

Looking across Texas industries, em-ployment data in 2010 showed that supportactivities for mining as well as metals andmachinery manufacturingpartly tied to theenergy industrywere among the fastestexpanding sectors last year. Professional andbusiness services, accounting for roughly 12percent of total Texas employment, added

Chart 12010 Texas Job Growth Better Than Most States

Less than zero

0 to 0.5

0.5 to 1

1 to 1.5

More than 1.5

Percent change

NOTE: Shown are the December 2010 year-over-year percent changes for employees on nonfarm payrolls, by state.

SOURCE: Bureau of Labor Statistics.


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more than 59,000 jobs last year, a 4.8 percentannual growth rate. Health-care services,which held up through the state’s recessionand account for about 12 percent of Texasemployment, expanded 4 percent.

Business-Cycle Index Shows ExpansionWhile job growth is a key economic

performance measure, the Texas Business-

Cycle Index (TXBCI) provides a broader viewof the state’s economic health. The TXBCI,which combines movements in employment,the unemployment rate and state real grossdomestic product (GDP), hit a bottom in No-vember 2009 and grew at an annual pace of 2.2 percent through December 2010.

We dene periods of negative change inthe TXBCI as recessions in Texas. TheTXBCI’s average annual growth rate duringnonrecession years was roughly 5 percentprior to the most recent Texas downturn.

Employment and output growth will needto continue to accelerate for the TXBCI toreach its historical expansion pace. The indexincreased at a healthy rate early in 2010 asthe housing market picked up because of the homebuyer tax credit and a rebound inmanufacturing, particularly high tech (Chart

2 ). TXBCI growth slowed during the summer,but the most recent data point shows an up-tick at year-end.

Early-year strength and the midyearslowing are somewhat exaggerated by thehiring and release of temporary census

workers.1

However, other indicators and an-ecdotal evidence conrm that activity slowedover the summer and picked up slightly nearyear-end. Elimination of the most recenthomebuyer tax credit and its impact on newhome construction contributed to weakness.

Builders of low- to moderate-pricedhomes, who are among contacts for the Dal-las Fed’s Beige Book economic report, noteda signicant sales drop in May and June.Existing-home sales continued declining intothe summer and began stabilizing in the fall.The value of single-family construction con-

tracts and the number of permits issued tobuild single-family homes increased mildly after bottoming in early 2009, but fell againbeginning around April 2010 when the taxcredit expired. Home construction affectsa number of jobs directly and indirectly through service industries such as real estateand home nance and through manufactur-ing such as production of building materials.

The Dallas Fed’s Texas ManufacturingOutlook Survey, which gauges the overallhealth of factory activity, also indicated a

slow patch over the summer, followed by a pickup toward year-end (Chart 3).2 Theproduction index, the survey’s key measureof manufacturing in Texas, appears to trackthe state economy quite well.3 Movementswithin the manufacturing sector are highly correlated with the general economy, andthe production index closely mirrored turn-ing points in the business cycle during the

most recent Texas recession. After reachinghigh levels in the spring, the index fell sub-stantially in June and remained at relatively low levels into early fall. Respondents’comments suggested the weakness largely came from outside the state in the form of nancial market uncertainty and declin-ing federal government stimulus money, aswell as from slumping construction activity,

Chart 2Texas Business-Cycle Index Suggests Moderate Expansion in 2010Percent (month/month annual rate, seasonally adjusted)

–8

–6

–4

–2

0

2

4

6

8

20102008200620042002200019981996199419921990

NOTES: The index is an aggregate measure of t he state’s current economic activity. Shaded areas represent Texas recessions.

SOURCE: Federal Reserve Bank of Dallas.

Chart 3Texas Manufacturing Strengthens at Year-End 2010Index (three-month moving average)

–50

–40

–30

–20

–10

0

10

20

30

40

20102009200820072006

Production

New orders

Employment

Texas Manufacturing Outlook Survey

NOTE: Shaded area represents Texas recession.



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related to the end of the homebuyer taxcredit. The survey indicated that manufac-turing growth picked up again in Novemberand December.

Key Factors in Texas’ Relative StrengthDespite the summer slowdown, Texas’

growth in 2010 exceeded most other states’performance. High tech plays a signicantrole in the state’s economy, and a recentMilken Institute study concluded that Texas

has three of the top 25 U.S. high-tech cen-tersDallas, Austin and Houston.4 Whilehigh-tech manufacturers were hit hard inthe rst half of 2009, the sector has grownrapidly since then. For example, U.S. com-puter and peripheral equipment outputdeclined year-over-year by more than 34percent in May 2009, but by last May it wasup about 17 percent.

Although regional high-tech measuresare scarce, Dallas Fed Beige Book contacts

reported that Texas high-tech manufactur-ing output grew at a rapid pace in the rsthalf of 2010 as customers rebuilt invento-ries from very low levels. This productiongrowth subsided over the summer, withthe sector expanding at a slower but stillhealthy pace. Jobs in Austinthe Texasmetropolitan area with the largest share of its economy tied to high techgrew about

2.2 percent last year, making Austin one of the nation’s fastest-growing regions.

The value of computer and electronicsexports, which come under the high-techumbrella and account for 20 percent of totaTexas exports, expanded 11.0 percent in2010. Other fast-growing export industriesduring this period were oil and gas (up121.5 percent), mining (up 112.3 percent)and petroleum and coal products (up 50.6percent). These sectors collectively makeup one-fth of total Texas exports and re-

ect the importance of the energy sector tothe state’s recovery.Energy was vital to growth in the Texas

economy last year. Oil prices were generally high and stable, uctuating between $75 and$80 per barrel (Chart 4 ). The share of rigsdrilling for oil relative to natural gas increasedas natural gas prices generally fell. AlthoughTexas rig count data are not broken downby oil and gas deployment, the overall num-ber of U.S. oil rigs rose 13.6 percent in thefourth quarter, while the number of U.S. gasrigs slipped 3.8 percent. Early last year, some

Dallas Fed Beige Book respondents wereconcerned about natural gas drilling fallingoff in the second half of 2010 due to declin-ing prices, but in July they noted that activ-ity remained surprisingly steady. By the fall,however, contacts began seeing a slowdownin gas-directed drilling, although increases inland-based oil drilling offset those declines.Overall, the rig count for Texas increased 59percent last year and mining employmentgained 10 percent.

Relatively stable Texas home prices in2010 also helped the state economy outpace

the nation, where declines continued (Chart 5 ). During the national housing boom, arelatively ample supply of undeveloped landaround Texas metro areas and few develop-ment regulations allowed additional housingstock without increasing home prices. Absentbig price gains, Texas housing markets wereless vulnerable to lax lending standards thatexisted in other areas of the country. In mar-kets such as Florida and California, risky lend-ing practices grew; in Texas, unconventionalloans were not as prevalent.

Chart 4High and Steady Oil Prices Boost Texas’ Energy SectorNominal price Rig count

Natural gas price

0

20

40

60

80

100

120

140

160

20102009200820072006200520042003200220012000

Oil price

Texas rig count

200

300

400

500

600

700

800

900

1,000

NOTES: Oil price is dollars per barrel. Natural gas price is dollars per million Btu, multiplied by 10.

SOURCES: Wall Street Journal ; Henry Hub; Baker Hughes.

Chart 5Texas House Prices a Stabilizing ForceHouse price index, 2000:Q1 = 100

California

Florida

U.S.

100

120

140

160

180

200

220

240

260

20102009200820072006200520042003200220012000

Texas

Nevada

SOURCE: Federal Housing Finance Agency.



The home foreclosure rate in Texas roselast year, but only to about 60 percent of thenational average. While foreclosures in thestate remain elevated and will continue tosuppress building activity well into the year,the magnitude of the problem is less than inmany other parts of the country.

Many consumers took on added debtamid the national home-price escalation from

2003 to 2006. While Texas consumers’ obli-gations increased during the period, a lesssignicant home-price rise helped keep debtlevels from rising as rapidly as elsewhere.Texas continued to have a lower ratio of personal debt to personal income than thenational averagelargely reecting Texashouseholds’ lower concentration of mortgagedebt (Chart 6 ). Less leverage means thatTexas consumers on average will use notas much of their income to pay down debtand may be in better nancial shape. Still,debt burdens are high relative to where they were at the start of the decade and likely willcontinue restraining expenditures. Consumerspending, while not robust, picked up some-what last year. In particular, the three-monthmoving average of real, seasonally adjustedretail sales in Texas increased 5.8 percentin the rst 11 months of 2010 but remainedabout 4.1 percent below the peak reached inNovember 2008.

Leading Indicators Suggest ImprovementOn the heels of modest growth at the

close of last year, several Texas leadingindicators suggest continued improvementgoing into 2011. One such measure is theTexas Leading Index, which uses eight key measures to forecast future economic activ-ity (Chart 7 ).5 With the exception of aver-age weekly hoursan average of weekly hours worked by manufacturing industry production workersall of the componentsof the Texas Leading Index were either ator increased during the three months endedin December.

The Texas Value of the Dollar uses

weights based on Texas’ export trade vol-umes with various countries. Declines inthis measure, representing positive contri-butions to the Leading Index, should pro-vide stimulus for Texas exports by makinggoods produced in Texas less expensive toforeign buyers.

The increase in stock prices of Texas-based companies is a reection of earningsgrowth and a positive outlook for businesses.New unemployment claims lings, a lead-ing indicator of both job growth and future

changes in the unemployment rate, have alsofallen, signaling labor market improvement.Recent changes in energy indicators havegenerally been positive, and help-wantednewspaper advertising volumes have heldsteady.

Other leading indicators have also in-creased. Because rms often hire temporary employees before they add permanent work-ersand terminate those interim personnel

rst when the economy weakensemploy-ment agency jobs are a good leading indica-tor of overall hiring. Jobs in this sector grewat a 15.7 percent rate in 2010. Beige Bookrespondents in the stafng services industry recently reported an increase in direct hires,or positions offered on a permanent basis, agood sign that businesses are becoming morecondent that demand will be sustained.

The Texas Manufacturing OutlookSurvey also suggests continued expansion.With the production index and the neworders index ending the year with positive

readings, Texas can hope to see sustainedgrowth in manufacturing output in comingmonths. The survey’s labor market indica-tors picked up toward the end of 2010, andin December, 98 percent of manufacturingrms expected employment to increase orremain unchanged over the next six months.Manufacturers’ expectations for production,new orders and capacity utilization contin-ued improving, as these six-month-aheadindexes rose to their highest levels sinceJanuary 2010.

Factors Restraining GrowthTwo factors likely to restrain Texas

economic growth this year are persistentweakness in construction and the statebudget shortfall’s downward pressure onpublic spending. Building activity in Texashit a bottom in 2009 and increased slightly last year. Overall construction is likely toincrease only modestly in 2011, remainingat subdued levels. On the residential side,

Dallas Fed Beige Book contacts still reportsluggish sales and weak homebuilding andretain a cautious outlook. Foreclosures andhigh inventories will continue depressingbuilding activity. Commercial constructionremains weak and won’t likely improvemuch this year. For instance, the DallasFed’s aggregate metro-adjusted ofce va-cancy rate in Texas was 18.3 percent inthe third quarter. In the past, new ofceconstruction did not grow signicantly untilthat rate fell below 16 percent. This is un-likely to happen in 2011. Retail construction

will probably remain weak since much newactivity tends to follow the growth of newhomebuilding.

The state budget shortfall poses anotherestraint to economic growth. Due in part toincreased Medicaid and other social welfareexpenditures, less-than-expected businesstax revenue and the expiration of stimulusfunding, Texas faces a shortfall estimated atmore than 10 percent of the state’s budgetfor the 2012–13 biennium.6 To close the gaplawmakers may need to cut spending or

Chart 6Texas Households Less Burdened With Debt Than U.S.

Ratio, personal debt per capita/personal income per capita

U.S.

Texas

.6

.7

.8

.9

1

1.1

1.2

1.3

1.4

201020082006200420022000

Other

3%

Student loan5%

Credit card 6%

Auto loan 6%

Home equity

revolving 6%

Mortgage

74%

Other5%

Student loan 6%

Credit card 8%

Auto loan 12%

Home equityrevolving 1%

Mortgage68%

Texas

U.S.

SOURCES: Bureau of Economic Analysis; Census Bureau; Federal Reseve Bank of New York Consumer Credit Panel.



raise taxes or both, which in turn will slowdemand growth in the recovering economy.Additionally, the state could decide to tap itsrainy day fund to meet some of its obliga-tions.

Looking Ahead at 2011In 2011, many of the same factors that

inuenced Texas’ growth last year will con-tinue playing a role in the state’s rebound.

Exports and manufacturing, particularly high-tech, should continue moderate growth,slower than in early 2010 but faster than inthe second half of last year. Consumer spend-ing should increase at a slightly quicker paceas consumers grow more positive about therecovery’s sustainability and face lower debt-to-income levels. Energy will likely continueto be a positive, while construction will addonly slightly to growth, and state and local

government could become a negative force.The pace of job expansion is expected

to pick up in 2011 (Chart 8 ). This forecast isbased on data adjusted to exclude temporary census workers. Overall, movements in theTexas Leading Index suggest that 261,000 to374,000 jobs will be added. This would causeemployment growth to surpass the 30-yearaverage Texas rate of roughly 2 percent. Ac-

cording to the forecast, Texas will surpass itsprerecession employment peak sometimearound December. This pace of growth isconsistent with the Texas unemployment ratefalling to about 7 percent by the end of 2011,from 8.3 percent in December. Even with theexpected decline, Texas will likely concludethe year with unemployment well above thestate’s average rate since 1990 of 6 percent.

Phillips is a senior research economist and advisor

at the San Antonio Branch of the Federal Reserve

Bank of Dallas and Kerr is an assistant economist

in the Research Department of the Federal Reserve

Bank of Dallas.

Notes1 Using a deviation from a linear trend in federal civilian workers,

we estimate that the number of temporary census workers in

Texas averaged 7,761 from July 2009 to September 2010. The

largest numbers of workers occurred from March 2010 to July

2010, and the peak level was 39,130 jobs in May 2010.2 The Texas Manufacturing Outlook Survey can be found online a

www.dallasfed.org/data/outlook.3 See “Texas Manufacturing Survey Offers Advance Look at State

and National Economies,” by Franklin D. Berger, Federal ReserveBank of Dallas Southwest Economy , Third Quarter, 2010.4 “North America’s High-Tech Economy: The Geography of

Knowledge-Based Industries,” by Ross C. DeVol, Kevin Klowden

Armen Bedroussian and Benjamin Yeo, Milken Institute, June

2009, www.milkeninstitute.org/nahightech/nahightech.taf.5 A description of the Texas Leading Index and its components

can be found online at www.dallasfed.org/data/basics/denitions

html#leading.6 See “Poor State Finances Deepen Recessionary Hole,” by Jason

Saving, Federal Reserve Bank of Dallas Southwest Economy ,

Fourth Quarter, 2010.

Chart 8Texas Jobs Forecasted to Increase 2.5 to 3.5 Percent in 2011Millions of jobs Index

Texas employment and employmentforecast (with 80 percent confidence band)

Texas Leading Index

9

9.5

10

10.5

11

11.5

2012201120102009200820072006200520042003200220012000

100

105

110

115

120

125

130

SOURCES: Federal Reserve Bank of Dallas; Haver Analytics.

Chart 7Leading Indicators Giving Positive Signals for Growth for 2011

–.5 0 .5 1 1.5 2 2.5 3

Average weekly hours

Help-Wanted Index

Texas Stock Index

New unemployment claims

Well permits

Real oil price

U.S. Leading Index

Texas Value of the Dollar

Net change in Texas Leading Index

Three-month percent change (October–December)

NOTE: The index is a composite of eight leading indicators that can predict movements in the state economy.




OnTheRecord

SouthwestEconomy FEDERAL RESERVE BANK OF DALLAS • FiR St quARtER 20118

PISA Results Shed New Light on U.S. Education Debate

A C o n v e r s a t i o n w i t h L o r i Ta y l o r

Lori Taylor, associate professor at Texas A&M University’s Bush School of Government

and Public Service, is an expert on the costs of education. She reviews test results fromthe Program for International Student Assessment, known as PISA, administered through

the Organization for Economic Cooperation and Development (OECD). The exam is given

every three years to 15-year-olds in nations across the globemost recently in 2009 to

students in 65 countries. Results were released late last year.

Q. What nations stand out with respect tostudent scores? Any surprises?

A. Many countries in Asia performed particu-

larly well on the PISA exams.1

Children fromChina, Korea, Japan and Singapore did sig-nicantly better than the average for OECDcountries in all three assessment areasread-ing, math and science.

This was the rst time that studentsfrom mainland China were included in PISA,and only students from Shanghai, Macaoand Hong Kong were tested. Therefore, Chi-na’s results may not reect the country asa whole. Nevertheless, the level of perfor-mance was impressive.

Of course, Asian countries were not the

only ones to perform well on the PISA ex-ams. Students from Finland, Canada, NewZealand, Australia, Belgium and the Nether-lands also did better than the OECD averageacross the board. At the other end of thespectrum, seven OECD countries (Mexico,Chile, Turkey, Israel, Luxembourg, Spain andItaly) and many of the non-OECD countriesperformed signicantly below the OECD av-erage in all three subject areas.

Q. In what areas do U.S. students outperform?Underperform?

A. Students from the U.S. performed at orslightly above the OECD average in reading,at the OECD average in science and signi-cantly below the OECD average in mathe-matics. Among the 34 OECD countries, theU.S. ranked 14th in reading, 17th in scienceand 23rd in mathematics.

The U.S. fell particularly short in theshare of students achieving the highestlevel of math performance. Only 2 percentof U.S. students reached the top rung. By

comparison, more than 4 percent of studentsin Canada, Finland, Korea and eight otherOECD countries attained that levelas did11 percent of the Hong Kong students and27 percent of the Shanghai pupils.

Even average performance on PISA is inmany ways disappointing. According to theOECD, “Level 2 on the PISA reading scale can

be considered a baseline level of prociency,at which students begin to demonstrate thereading competencies that will enable themto participate effectively and productively in life.”2 In 2009, 18 percent of U.S. 15-year-olds failed to reach that level of prociency.While 18 percent below the baseline in read-ing is close to average for OECD countries,it cannot be acceptable if we hope to have afunctioning, literate society.

The U.S. performance in reading andmathematics was essentially unchanged

from earlier comparisons of internationaperformance, but science was signicantly

improved. It was largely due to gains at thelow end of the performance scale. The shareof U.S. students achieving only the loweslevels of prociency in science stood at 18.1percent in 2009, an improvement from 24.4percent in 2006. The share of U.S. studentachieving only the lowest levels of prociency in mathematics also fell slightlyto 23.4percent in 2009 from 25.7 percent in 2003but the difference is not statistically reliableEven after the improvements, however, weremain no better than the OECD average inscience.

Q. Can cross-country differences tell us anythingabout why U.S. students do poorly in math?

A. There seem to be three interesting patterns that help differentiate high-performingcountries from low-performing ones. Firstcountries that spend their education resourceon high-quality teachers tend to perform better than countries that spend their educationresources on lower pupil–teacher ratios. Second, gaps in performance between economi

cally advantaged and disadvantaged studentstend to be smaller in countries that use standards-based external examinations. Finallyearly childhood education seems to matterSchool systems with a larger share of studentswho attended prekindergarten classes seemto have higher levels of student performanceamong 15-year-olds.

Q. Do rich countries always have higher-performing students? Is education funding themain explanatory variable?

A. There isn’t much of a relationship betweeneducation funding and student performanceon PISA. U.S. mediocrity is clearly not attributable to a lack of resources devoted to education. Only Luxembourg spends more per pupil on schools than the U.S.

There is a little more evidence thahow schools spend the money matters. Fothe same amount of money, a country canchoose to have higher teacher salaries andlarger class sizes or lower teacher salarieand smaller class sizes. The PISA results sug



“Countries that spend their education resources on higher

teacher salaries tend to perform better than countries that

spend their education resources on lower pupil–teacher ratios.”

ably both. Quite likely, we may not be as aggressive as other

countries at targeting addi-tional resources to low-incomeschools and kids.

Q. What is the most importanttakeaway for U.S. policymakersfrom the PISA results? Are thereinternational or regional differences from whichwe can learn?

A. The education system in the U.S. is bro-ken. We spend more than nearly every othercountry on K–12 education, and our perfor-

mance is mediocre at best. We have to makeeducation reform a policy priority and rethinkalmost everything about how we go about ac-complishing our educational goals.

We especially need to do a better jobof integrating educational research into thedesign and implementation of educationpolicy. For example, there are dozens of studies telling us that high-quality teachersare the cornerstone of high-quality schools.However, those studies also tell us that theteacher characteristics that largely determine

a teacher’s payyears of experience and ad-vanced degreesare not good indicators of teacher quality. There are lots of outstand-ing teachers with only a few years of ex-perienceand too many ineffective teacherswith more than 20 years of experience. It isa waste of scarce resources to base teacherpay on things that don’t translate into class-room effectiveness. We need to get away from the rigid salary schedules found inmany U.S. school districts and do a betterjob of rewarding teaching excellence ratherthan teaching endurance.

We also need to do a better job of hold-ing onto our best teachers. The Bureau of Labor Statistics estimates that over 60,000teachers were laid off during 2009. One of the minor tragedies of the budget crises trig-gering many of those terminations is thatseniority rules in states such as California,Ohio, New York, New Jersey and Pennsyl-vania prevented school districts from takingquality into consideration when decidingwho to let go. Last hired were rst red, nomatter how effective they were in the class-

room. Texas is one of the few states whereclassroom performance has been the deciding factor in layoff decisions. More statesneed to follow Texas’ lead on this issue.

Policymakers should also become a little

more exible in their approach to class-sizeregulations. States and countries that focuson maintaining small class sizes nd it difcult to staff all those classrooms with highquality teachers. The PISA results indicatethat countries that emphasize teacher qualityover teacher quantity (by paying higher salaries and accepting larger class sizes) tend tooutperform other countries.

The PISA results also suggest that standardized tests can have a positive impact onschool systems. In particular, PISA researchers found that gaps in student performance

between economically advantaged and disadvantaged students tend to be smaller incountries that use standards-based externaexaminations. Such examinations are an important part of the No Child Left Behind Actwhich is up for reauthorization. The Obamaadministration has proposed a number ochanges to the law that should strengthenitbut pointedly has not backed away fromthe basic premise that students should betested regularly and that school districtsshould be required to publish the results. Infact, the Obama administration has stronglyencouraged states to adopt more rigorouand consistent educational standards and tohold school districts accountable for meetingthose standards. I think that approach haconsiderable potential.

Notes1 See www.oecd.org/edu/pisa/2009.2 See, www.pisa.oecd.org/dataoecd/32/50/46623978.pdf, p. 29.3 See note 2, p. 34.

gest that countries that spend their educationresources on higher teacher salaries tend

to perform better than countries that spendtheir education resources on lower pupil–teacher ratios. The U.S. is a low salary/low-class-size country.

Q. How does socioeconomic status play intostudents’ results? How about immigrant status?

A. The U.S.’s mediocre performance is alsonot attributable to a high fraction of immi-grant students. Although students from animmigrant background generally performedless well on PISA exams, excluding immi-grants raises the average U.S. reading scoreonly slightly (to 506 from 500). On the otherhand, the higher fraction of economically dis-advantaged students helps explain the results.Across countries, differences in the students’socioeconomic status can account for 14 per-cent of the difference in reading performance.However, poverty is not destiny. As the PISAscores illustrate, it is not uncommon for stu-dents from the poorest 25 percent of a coun-try’s population to exceed expectations andplace among the top 25 percent of students

(after accounting for socioeconomic back-ground). The PISA report calls such students“resilient.” In the U.S., 28 percent of the eco-nomically disadvantaged students are consid-ered resilient; in Korea, Shanghai and HongKong, economically disadvantaged studentsare roughly twice as likely to be consideredresilient.

“Socio-economic disadvantage trans-lates more directly into poor educational per-formance in the United States than is the casein many other countries,” according to thePISA report.3 In general, PISA results suggest

that economically disadvantaged studentswho attend schools where most of theirpeers are also economically disadvantagedtend to perform poorly, while economically disadvantaged students who attend schoolswhere most of their peers are economically advantaged tend to perform better. It isn’tclear whether these performance differencesarise because schools with few economical-ly disadvantaged students tend to have lotsof resources or because having advantagedpeers affects student performance; it’s prob-



Oil and Gas Rises Againin a Diversied TexasBy Mine K. Yücel and Jackson Thies

The industry is still

contributing positively to

Texas output and employment,

though in a less-pronounced

way than during the prior

oil boom 30 years ago.

The oil and gas industry has been a driverof the Texas economy for the past 40years. Its contribution declined with theoil-led recession of 1986 and appeared toslip further in the 1990s as the high-techindustry boomed. But oil and natural gasprices have risen since 1999, reaching re-cord highs in 2008. This resurgence hasboosted energy activity and factored into

the recent economic recovery in Texas,afrming the industry’s long-held promi-nence in the state (Chart 1).

An econometric model developed by the Federal Reserve Bank of Dallas docu-ments the state’s evolving energy fortunessince the late 1990s. It shows that theindustry is still contributing positively toTexas output and employment, though in aless-pronounced way than during the prioroil boom 30 years ago.

Oil and Gas in Texas

Texas is the country’s largest producer

of oil and gas. Though production of bothpeaked in 1972, the state still accounts for20 percent of oil and 33 percent of naturalgas extraction in the United States. Of thestate’s 254 counties, 223 are active in oiland gas production. More than 200,000people work in exploration, production andoil services statewide.

Additionally, a substantial portion of

Texas manufacturing is in rening and pet-rochemicals, which use oil and gas as inputsBoth industries are capital intensive, makingtheir share of overall employment relatively small. Rening and petrochemical employ-ment has declined since the late 1960s froma little more than 2 percent to around 0.5percent. These industries accounted forless than 2 percent of Texas gross domes-tic product (GDP) on average in the 1970sto 1990s, rising only recently in the mid-2000s. Extraction is sensitive to energy pricechanges, while rening and petrochemicals

seem less responsive. The expanding globaleconomy has been an important driver of the growth in rening and petrochemicalsoutput (Chart 2 ).

How do changing oil and gas pricesaffect the Texas economy?

Increasing energy prices boost employ-ment and output in oil and gas extraction-related industries. Moreover, demand growsfor products and services the oil and gasindustry uses. An increase in oil and gasproduction anywhere benets the state andits energy sector, which provides oileld

machinery and energy services to the restof the world. Severance tax payments on oiand gas extraction benet the state; salestaxes ow to local governments and royaltypayments to individuals.

However, higher oil prices are a nega-tive for the downstream rening industry because they mean higher input costs.Texas petrochemical plants use natural gasinstead of oil, making gas prices of primary importance. Because the rest of the worlduses mostly oil as a petrochemical input,

Chart 1Texas Employment Cycle and Oil PricesThousands of jobs 2010 dollars/barrel, monthly average

Employment cycle Real oil price

0

20

40

60

80

100

120

140

’07’02’97’92’87’82’77’72

–600

–400

–200

0

200

400

600

800

NOTE: The employment cycle is calculated by subtracting a time trend from total nonfarm employment.

SOURCES: Bureau of Labor Statistics; Wall Street Journal ; Texas Workforce Commission; calculations and adjustments by the FederalReserve Bank of Dallas.



the differential between oil and gas pricesmakes Texas plants extremely competitivewhen gas is cheaper per unit of energy.

Higher energy prices have been a netbenet for the Texas economy, with gainsin the upstream extraction-related industriesmore than offsetting losses downstream.

The Boom and BustAs the price of oil rose in the 1970s to

$30 per barrel from $3.35, oil’s economicimpact increased.1 At the height of theboom in 1981, oil and gas extraction em-ployment accounted for 5 percent of totalnonfarm employment in Texas, and outputamounted to 18 percent of total Texas GDP(Chart 3). Oil and gas severance tax rev-enues made up almost one-fth of state taxrevenues in 1981 (Chart 4 ).2

As oil prices started to decline from a

Higher energy prices

have been a net benet

for the Texas economy,

with gains in the upstream

extraction-related industries

more than offsetting losses

downstream.

Chart 2Rening and Petrochemicals Output Share RisesShare of Texas output (percent) 2010 dollars/barrel, annual average

Petrochemical share ofTexas output

Real oil price

’09’07’05’03’01’99’97’95’93’91’89’87’85’83’81’79’77’75’73’71’69’67’65’63

NAICSconversion

0

.5

1

1.5

2

2.5

3

3.5

4

4.5

5

Natural gas

0

10

20

30

40

50

60

70

80

90

100

110

NOTES: NAICS, the North American Industry Classication System (NAICS), was adopted in 1997 to replace the Standard Industrial Classica-tion system (SIC). NAICS and SIC industry classications do not align perfectly, causing a slight shift in data at the conversion in 1997. Gas pricemultiplied by 10.

SOURCES: Bureau of Economic Analysis; Energy Information Administration; calculations and adjustments by the Federal Reserve Bank of Dallas.

Chart 3Oil and Gas Output Share Reects Energy PricesOutput (percent) 2010 dollars/barrel, annual average

Oil and gas shareof Texas output

Real oil price

’09’07’05’03’01’99’97’95’93’91’89’87’85’83’81’79’77’75’73’71’69’67’65’63

0

2

4

6

8

10

12

14

16

18

20NAICS

conversion

0

10

20

30

40

50

60

70

80

90

100

110

NOTE: NAICS, the North American Industry Classication System (NAICS), was adopted in 1997 to replace the Standard Industrial Classicationsystem (SIC). NAICS and SIC industry classications do not align perfectly, causing a slight shift in data at the conversion in 1997.

SOURCES: Bureau of Economic Analysis; Energy Information Administration; calculations and adjustments by the Federal Reserve Bank of Dallas.



then-record high of $37 per barrel in 1981,the share of oil and gas extraction in em-ployment and output tumbled, as did oiland gas-related taxes. Oil prices collapsedto $11 in 1986, and Texas fell into a deeprecession. In 1986 and 1987, almost 300,000people left the state. From 1981 to April1987, when job losses eased, oil and gasindustry employment had shrunk by morethan half, or 212,100 jobs. The rig count,

almost 1,500 at the height of the boom,plunged 83 percent to 255.

Economic DiversicationFollowing the 1986 recession, the Tex-

as economy diversied away from oil andgas, and energy’s share of employment andoutput declined. From 1987 until the onsetof the 2001 recession, the mining industry (mainly oil and gas) grew only 18 percent,while total Texas output jumped more than113 percent. The collapse of oil prices,again to $11, in late 1998 following the

Asian debt crisis further pushed the energy industry downhill. Oil and gas’ share of output reached its lowest level, 4.1 percent,in 1999. The sector’s employment share alsoreached its nadir, 1.4 percent and 125,000jobs, in 1999.

Reversal of FortuneOver the past decade, the energy in-

dustry has modestly reemerged. Stronggrowth in emerging economies, especially in Asia, produced robust energy demand

and put upward pressure on oil prices. Theprice of West Texas Intermediate (WTI)crude rose to a record $136 in July 2008.After hitting a low of $2 per million Brit-ish thermal units (MMBtu) in 1998, naturalgas prices followed oil, reaching $12.64 perMMBtu in September 2008. Earlier this year,WTI hovered near $90 and spot natural gasprices were around $4.50.

Texas oil and gas activity rose as prices

climbed. As seen in Chart 3, Texas’ shareof output attributable to energy activity in-creased along with oil prices. By 2008, oiland gas extraction had reached 11.4 percentof total Texas output. The Texas rig countalso climbed, attaining a high of 946 in Sep-tember 2008, a 26-year peak. Oil and gasextraction employment rose to a 2.1 percentshare of total employment in 2008.

In contrast to the energy sector’s hey-day, natural gas rather than oil drove in-dustry activity in Texas in the mid-2000s.Production of natural gas from shale, start-

ing in the Barnett Shale west of Fort Worth,has been a major driver in the sector in the2000s. The increase in activity was a boonto state and local economies. Severancetaxes from natural gas reached $2.7 billionin 2008almost twice the tax revenue gen-erated by oil production and a record higheven after adjusting for ination.

Examining Energy Price ShocksTo analyze the changing impact of oil

and gas prices on the Texas economy over

Chart 4Oil and Gas Tax Revenue Share Peaks in Texas During 1980s BoomTotal tax revenue (percent)

0

2

4

6

8

10

12

20082005200219991996199319901987198419811978

Crude oil

Natural gas

SOURCES: Bureau of Labor Statistics; Texas Comptroller of Public Accounts; calculations and adjustments by the Federal Reserve Bank ofDallas.

Over the past decade,

the energy industry has

reemerged. Strong growth in

global economies, especially in

Asia, produced robust energy

demand and put upward

pressure on oil prices.



NoteWorthyQUOTABLE: “Encouraging signs are present in manufacturing and

services, with a marked pickup in temp employment and initial signs that

direct hiring is on the upswing.”

Jason Saving, Senior Research Economist and Adviso

HIGHER EDUCATION: Texans Return to Classroom as Employment Lags

MEICAN POPULATION: Decennial Census Reveals Surprising Growth

It’s not unusual for people to go back to school whenthe economy falters and jobs are hard to nd. Texas payroll

employment fell 2.8 percent in 2009and public higher-education enrollment soared in the state.

Community colleges posted a year-over-year increaseof 12.2 percent, compared with 3.4 percent average growthsince 1994, and four-year university enrollment expanded4.5 percent, above the 1.9 percent historic rate.

The last recession generated a similar spike, beginningin 2001 and peaking in 2002, when community collegessaw an increase of about half their recent gain and four-yearschools matched their current performance. As employmentsagged in 2008, enrollment jumped again. When jobs began

to reappear last year, preliminary data suggest, commu-nity college enrollment growth remained high, but slowed.

Four-year university enrollment continued unabated.Greater pursuit of higher education in times of lower

employment stands to benet the Texas economy in yearsto come, though an enrollment increase doesn’t necessar-ily translate into a greater proportion of degrees granted.

According to 2008 data from the Integrated Postsec-ondary Education Data System, 21.7 percent of students inTexas two-year colleges receive an associate’s degree with-in three years, while 49 percent of the state’s four-year uni-versity students earn a bachelor’s degree within six years.

Adam Swadley

Mexico’s resident population increased 15.2 percent to112.3 million in 2010, up from 97.5 million 10 years earlier,the nation’s census shows.

Surprisingly, Mexico’s head count was 3.9 million high-er than previously estimated. Reasons cited by the Mexicanstatistical agency Instituto Nacional de Estadística y Geo-grafía (INEGI) include decreased emigration in the second

half of decademost likely due to the U.S. recessionand ahigher-than-expected fertility rate.

U.S. construction, a destination industry for many mi-grant workers, suffered during the recession. Constructionemployment is 27 percent below its 2006 peak. In addition,the fertility rate came in at 2.2 children per woman. Theprojected rate was 2.04, authorities said.

INEGI released the rst results from its decennial cen-sus late last year. The data showed that women are in themajority in the country at 57.5 million, compared with 54.8million men.

In terms of population size, Mexico is the 11th-largestnation in the world. It ranks third in the Western Hemi-sphere, trailing the United States (308.7 million) and Brazil

(190.7 million).The four Mexican states bordering TexasChihuahua

Coahuila, Nuevo Leon and Tamaulipasrepresent 12.5percent of the nation’s population. Mexico is predomi-nantly urban, with 76.9 percent of the population livingin cities.

Jesus Cañas

NEW TEANS: Other States Provide One-Third of Arrivals After 2005

Texas’ population stands at 25.1 million, a gain of 4.3million, or 20.6 percent, in the past 10 years, according to the2010 census. In terms of people, Texas had the most growthof any state, and by percentage, it ranked fth, trailing Ne-vada, Arizona, Utah and Idaho.

In the rst half of the decade, international migration ac-counted for a larger portion of Texas’ growth than domesticmovement. In the latter half, the reverse was true. Net migra-tion from other states (including Hurricane Katrina arrivals)made up roughly one-third of the growth and international in-ows about one-fth. Net births were responsible for the rest.

People are relocating from other states, in part, becauseof Texas’ economic strength and ability to attract businesses.

Site Selection magazine’s business climate rankings haveplaced Texas near the top over the past decade; the statewas third in 2010. CNBC picked Texas as the top state forbusiness in 2010, while Forbes named Texas the seventh-best state for business and careers.

In 2010, the Milken Institute’s rankings of best U.S. met-ros by job creation and economic growth placed ve Texascities in the top 10 among large metros. Military-dominatedKilleen–Temple–Fort Hood (No. 1) and El Paso were on thelist, as were Austin–Round Rock, McAllen–Edinburg–Missionand Houston–Sugar Land–Baytown. College Station–Bryanand Tyler were among the 10 best small metros.

Yingda Bi



SpotLig ht

FEDERAL RESERVE BANK OF DALLAS • FiRSt q uARtER 2011 SouthwestEconomy15

The largest federal program designed to

increase the rental housing supply for poorworking families helps them nd livingspace in decent neighborhoods with goodschools. It also encounters frequent neigh-borhood opposition.

The low-income housing tax credit(LIHTC) program, created under the TaxReform Act of 1986, subsidizes developerswho construct market-quality, multifamily units or renovate older structures for rent tolow-income tenants at below-market rates.

Homeowners in more-afuent areasoften resist the housing in their neighbor-hoods, citing concerns that new residents willood public schools and crowd classrooms,negatively inuencing existing students andcompeting for limited educational resources.There are also worries that adding more low-income pupils to struggling schools in poorareas may overburden educators and facili-ties, ill-serving students even while helpingreduce the nancial burden on parents.

Texas allocated approximately $750 mil-lion in tax credits to developers from 1989 tomid-2009, creating almost 200,000 affordable

housing units, 90 percent of them reserved

for low-income residents. Suburban counties,

though lacking large low-income populations,attract LIHTC investors drawn to a greater sup-ply of vacant land than in central cities.1

Approximately 9 percent of Texas el-ementary schools have nearby LIHTC prop-erties, each averaging 324 units. Year-to-yearchanges in the accountability ratings of pub-lic elementary schools closest to the low-in-come housing may help indicate whether theconstruction adversely affects neighborhoodschools.2

Chart 1 illustrates that ratings remainedunchanged over a one-year period for mostschools. Some of the schools moved up ordown one level, but very few moved two ormore levels. Most of the schools that improvedone level were initially rated academically ac-ceptable. In contrast, those that fell one levelwere mainly recognized. Among schools rat-ed exemplary, approximately one-fourth fellone level the next year.

Adding LIHTC units appears to positively,not negatively, inuence a school’s account-ability rating in the year the projects open, ouranalysis found. However, that effect is tempo-

rary, largely disappearing after a year. Schools

with nearby LIHTC units were classied by

income and share of minorities in nearby census blocks. The estimates suggest that the positive inuence is largely driven by the housing units constructed in higher-income censuareas, while the negative, offsetting data comefrom LIHTC census block groups with greateminority or lower-income populations. Theprogram’s inuence on schools also dependson whether the project is new construction orehabilitation. New buildings seem to contribute to improvement of academic performanceat the nearest elementary schools.

To be sure, the results involve relativelyfew children from the new homes in elemen-tary schools each year. Therefore, the makeupof residents in the new housing units doesn’necessarily alter the demographics of Texasschools. However, the results appear consistent with previous studies indicating that suchprojects don’t necessarily adversely affect receiving neighborhoods. In fact, they seemto suggest that more-motivated low-incomefamilies seek subsidized rental units in mixedincome neighborhoods offering better schoolsfor their well-performing kids. This may dispe

some homeowner concerns in higher-incomeneighborhoods hosting the projects. Howeverthe possibly negative inuence of the units inlower-income or higher-minority areas justiethe worries that the multifamily units in neighborhoods densely populated with low-incomeresidents may limit educational opportunities.

–Wenhua Di and James C. Murdoch

Notes1 For a more-detailed discussion of the LIHTC projects in Texas,

see “Low-Income Housing Tax Credits in Texas: Achievements

and Challenges,” by Roy Lopez and Wenhua Di, Federal Reserve

Bank of Dallas Banking and Community Perspectives , Issue 2,

2009.2 For more details on the methodology and data, see “The

Impact of LIHTC Program on Local Schools,” by Wenhua Di and

James C. Murdoch, Federal Reserve Bank of Dallas, Research

Department Working Paper no. 1006, 2010.

Does Low-Income Housing Tax Credit Hurt Nearby Schools?

Educational Opportunity

Chart 1Some Schools Improve After Low-Income Tax-Credit Housing Opens

Number of schools

–3 –2 –1 0 1 2 3

0

2,000

4,000

6,000

8,000

10,000

12,000

Exemplary

Recognized

Acceptable

Unacceptable

Rating level change

NOTE: Compiled from a pooled sample of 19,433 Texas public elementary schools near new low-income housing tax credit projects, 2004-09.

SOURCE: Texas Education Agency Academic Excellence Indicator System.



Trade Conference Explores

U.S.–Mexico ‘Common Bonds’By Jesus Cañas, Roberto Coronado and Robert W. Gilmer

U.S.–Mexico manufacturing has under-

gone a transformation over the past 10years following two U.S. recessions, thrust-ing Mexico’s maquiladora plants into a newage. In his presentation “Maquiladoras:Do We Still Benet from Them?” FederalReserve Bank of Dallas associate economistJesus Cañas compared the effects of the2007–09 recession and recovery with the2001–02 cycle, when the U.S. entered a mildrecession accompanied by a steep decline inindustrial production that quickly spilled into

Mexico.In the earlier period, two events ex-acerbated cyclical challenges confrontingmaquiladoras and contributed to industrialrestructuring in Mexico. The Sept. 11 terror-ist attacks bolstered security requirementsand dramatically slowed border crossings.Additionally, China entered the World TradeOrganization (WTO) in December 2001, gain-ing access to North American Free TradeAgreement markets at tariff rates low enoughto end Mexico’s low-wage advantage.

By contrast, Cañas said, the 2007–09

recession was tied primarily to the businesscycle, with less industrial restructuring andlabor market displacement through trade.

The structural shift to higher-end manu-facturing and higher-skilled jobs that occurredin the 2001–02 cycle led to a better outcomefor Mexico and its maquiladoras in the mostrecent recessionand bodes well for U.S.–Mexico manufacturing in the years to come.

The Maquiladora RedenedIn 2001–02, Mexico lost 280,500 ma-

quiladora jobs, many in the lowest-wageindustries, such as toys, leather, textiles andapparel. But it became apparent that Mexi-co’s role in North American production wasbased on more than just low wages, Cañassaid. Its proximity to the U.S. matteredforbulky items such as appliances and televi-sions, as well as for just-in-time inventory needs. Mexico, with a skilled and experi-enced workforce and intellectual property protections, found its place manufacturinghigher-value-added goods such as medical

instruments.To evaluate the cycle, it was necessary

to wait until the recovery to sort cyclicallosses from longer-lasting structural dam-age.2 By 2006, maquiladoras had recoveredfewer than two-thirds of the jobs lost duringthe downturn, and there was no expecta-tion that the lowest-wage positions wouldreturn. Yet based on production levels andreal compensation per worker, the maqui-ladora industry reached its peak in 2005,retaining its most productive and best-com-pensated positions.

The focus has been on maquiladoraemployment because structural displace-ment of jobs through trade is an importantlabor market issue and the industry hasbeen regarded as a jobs program. As Mex-ico shifts its competitive focus, however,the maquiladora story is increasingly aboutmore-skilled jobs and higher compensation,not just the number of jobs.

A comparison of employment and realcompensation shows that the latest cyclerepresents a serious cyclical event, without

The El Paso Branch of the Federal Reserve Bank of Dallas held a daylong conference,

“U.S.–Mexico Manufacturing: Common Bonds,” in November 2010 to assess the future

of U.S.–Mexico trade in manufactured goods following the global recession. Speakers

reviewed the prospects for bilateral trade and Mexico’s maquiladora plants, which typically

take inputs from the U.S. and assemble them into products for export back to the U.S.

A summary of conference highlights follows.1

As Mexico shifts its

competitive focus, the

maquiladora story is

increasingly about more-

skilled jobs and higher

compensation, not just the

number of jobs.



structural losses, Cañas said.3 The maqui-ladora industry as a whole experienced ajobs decline of 17.4 percent by July 2009,deeper than the previous recession. Totalcompensation fell as hard and fast as em-ployment, suggesting that this time therewas no bias toward the loss of uncompeti-tive low-wage jobs (Chart 1).

Employment has returned much faster

during this recovery, Cañas said. About two-thirds of the maquiladora job losses wererestored by late 2010, compared with virtu-ally no job recovery in U.S. manufacturing.

Examining IntegrationDaniel Chiquiar, Banco de México’s

director of economic measurement, broughtanother point of view to Mexico’s restruc-turing of manufacturing after 2001, focus-ing on exports to the U.S. He noted in hispresentation that the strong historical cycli-cal correlation between U.S. and Mexican

manufacturing continued after China’s entry into the WTO, and that after 2005, Mexico’sshare of exports to the U.S. grew again.Some reorientation of Mexican manufactur-ing took place in a short period.

Chiquiar examined specic industriesin Mexico to determine if they gained orlost competitive advantage after 2001 andwhether they became more or less inte-grated into U.S. manufacturing. Integrationrefers to maquiladora-style intra-industry trade, with Mexico importing inputs and

exporting nal goods.For Mexico, sectors that gain in com-

petitiveness are more integrated into theU.S., suggesting that maquiladora-styleproduction sharing has been at the heartof Mexico’s restructuring. Further, he foundthat improved competitiveness in an indus-try was often tied to rising skill levels. Astrade between the two countries evolved

post-2001, U.S. rms shifted their least-skilled jobs to Mexico, effectively raising theskill level of both Mexican and U.S. manu-facturing. The primary driver of improvedcompetitiveness in Mexico appears to beincreased skill levels, with no consistentrole for a shift of physical capital, such asplants and equipment.

Carlos Bello, director general of theMexican Federation of the Aerospace In-dustry, said his sector provides an exampleof how Mexico climbed the ladder in termsof manufacturing skills. No other industry

imposes more exacting requirements for cer-tication and quality production.

Mexico had 41 manufacturing plants,nine maintenance and repair operations and20 design and engineering companies, gen-erating a combined $3.1 billion in revenue in2008, the industry’s peak year. About $13 bil-lion has been invested in aerospace by for-eign and national sources. About 5 percentof suppliers to major aircraft manufacturerssuch as Boeing, Airbus, Bombardier and Em-braer are Mexican companies.

For Mexico, sectors that

gain in competitiveness are

more integrated into the U.S.,

suggesting that maquiladora-

style production sharing

has been at the heart of

Mexico’s restructuring.

Chart 1Maquiladora Jobs, Wages Rebound from Recession(Real wages, seasonally adjusted)Index, July 2007 = 100

Total wages

Employment

70

75

80

85

90

95

100

105

110

115

120

2010200920082007

SOURCES: Instituto Nacional de Estadística y Geografía; Federal Reserve Bank of Dallas.


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Auto Parts and AssemblyGeorge Magliano, director of North

American automotive research at GlobalInsight, and several other experts discussedthe changing landscape of North Americanauto production. Auto parts and assembly isa large and important example of Mexico’smaquiladora trade. Mexico now vies withCanada to be the second-largest auto pro-ducer in North America (Chart 2 ).

Mexico passed Canada in 2009 to be-come the largest exporter of auto parts tothe U.S., with a 30 percent share of U.S. im-

ports (Chart 3). China has made inroads as

a parts supplier to the U.S. in recent years,largely at the expense of Canada.

Magliano presented his analysis of theauto industry in the context of recession,recovery and longer-term growth. He saida slow U.S. recovery will carry over to theauto market in a number of ways. A weakjob environment, lack of creditworthinessand a poor housing market could keepsales below prerecession levels until 2015.Relative to population or employment, 2015sales will remain much lower than before

Mexico passed Canada in

2009 to become the largest

exporter of auto parts to the

U.S., with a 30 percent share of

U.S. imports. China has made

inroads as a parts supplier to

the U.S. in recent years, largely

at the expense of Canada.

Chart 2

Mexico Gains Ground in North American Light Vehicle Production

U.S.

83%

Canada

14%

Mexico

3%

1985

U.S.

66%

Canada

17%

Mexico

17%

2009

SOURCE: Thomas H. Klier, Federal Reserve Bank of Chicago, with data from Ward’s Automotive Group. .

Chart 3

Mexico Becomes Largest Source Country of U.S. Motor Vehicle PartsPercent

0

5

10

15

20

25

30

35

Rest of World Germany

China

Japan

CanadaMexico

20092008200720062005200420032002200120001999199819971996

SOURCE: Thomas H. Klier, Federal Reserve Bank of Chicago, with data from International Trade Commission.


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the downturn, with no recovery expectedin these ratios. Magliano said, however, thatthe postrecession, restructured auto indus-try is protableand that will only improveas sales volumes return.

North American production hassnapped back quickly from the depths of the recession. Ralph Watkins, InternationalTrade Commission senior internationaltrade analyst, tracked the most important

sectors in the turnaround in U.S.–Mexicotrade and found intra-industry trade inautos at the forefront. High on the list of fast-growing U.S. exports to Mexico in 2010were engines, auto parts, cars, trucks andengine parts. Fast-growing Mexican importsfrom the U.S. included those items, alongwith seat parts and truck-tractors.

Over the long run, Magliano said,North American vehicle production willreturn to about 16 million units, the levelbefore the recession began. He reiterated

that Mexico already has been a big winnerin the North American auto market, andMexican plants will continue adding capac-ity as it’s shut down in the U.S. and Canada.The 2 million light vehicles currently pro-duced in Mexico should surge to 3.3 millionunits by 2015. Ford, GM and Chrysler haveshifted premium production to Mexico,manufacturing large and expensive, high-valued-added vehicles such as bigger pick-

up trucks and SUVs.Thomas Klier, a senior economist at

the Federal Reserve Bank of Chicago, putMexico’s niche in the North American automarket into perspective. In his address onU.S.–Mexico auto linkages, he said thatMexico is not well-integrated into the U.S.–Canada Auto Alley, a region centered in De-troit and stretching from the Great Lakes toTennessee and Mississippi. But Mexico hasa cost advantage; it offers the lowest wagesin North America. Klier said this advantage

can be found in such labor-intensive activi-ties as casting, machining and painting.

These auto-related skills are morethan a notch above the low-wage assembly and sewing skills associated with the early maquiladoras. However, Thomas Kurfess,a professor at Clemson University’s Inter-national Center for Automotive Research,emphasized that the auto industry is in-

creasingly driven by system integration, ledby advanced electronics. He pointed to thecritical role of research and development,noting that little of it occurs in Mexico.Some design and development takes placeat the component levelmany suppli-ers moved into Mexican industrial parksbecause of just-in-time inventory require-mentsbut nothing original is happeningin engineering for assembly operations.

Exploiting Its Advantages

Mexico lost many of its low-wage,low-skill jobs in the apparel and textile in-dustry following the 2001–02 recession. Inthe early 2000s, low-wage competition inAsia, Central America and the Caribbean ledto structural job losses in low-value-addedsectors of Mexican manufacturing. New av-enues for growth arose later in the decade,however, as U.S. and foreign car companiesincreasingly sought cost savings by turningto Mexican parts suppliers and assembly plants. Mexico’s proximity to the U.S., its ex-perienced manufacturing workforce and its

lower cost structure led to a growing role inNorth American auto parts production andauto assembly and contributed signicantly to the global competitiveness of the NorthAmerican auto industry.

Cañas is an associate economist at the Federal

Reserve Bank of Dallas, and Coronado is an econ

omist in the Bank’s El Paso Branch. Gilmer is vice

president in charge of the El Paso Branch.

Notes1 See the conference agenda at www.dallasfed.org/news/

research/2010/10commonbonds.cfm.2 “Maquiladora Recovery: Lessons for the Future,” by Jesus

Cañas, Roberto Coronado, Robert W. Gilmer,Southwest

Economy , no. 2, 2007.3 Mexico revised its coverage of export-oriented plants for data

collection purposes in 2007 to include maquiladoras, plus

domestic plants that enjoy similar tax and customs benets.

Thus, the data coverage in the 2007–09 chart is broader

than prior gures, which were strictly for the foreign-owned

maquiladoras. See “Mexican Reform Clouds View of Key

Industry,” by Jesus Cañas and Robert W. Gilmer,Southwest

Economy , no. 3, 2007.

Other Trade TopicsConference speakers addressed other issues related to U.S.–Mexico trade. Those presenters included

Andrew Selee, director of the Mexico Institute at the Woodrow Wilson International Center for Scholars;

vice president and senior policy advisor Evan Koenig, vice president and senior economist Mark Wynne

and economist Roberto Coronado, all of the Dallas Fed; and Vanda Felbab-Brown, a fellow at the Brook-

ings Institution.

• Selee suggested four strategic initiatives to advance the needs of the U.S.–Mexico border: timely

and efcient movement of goods across the border; expansion of the North American Development

Bank into new and creative projects; border educational partnerships to train binational leaders; and

the pursuit of green energy and health care opportunities unique to the region.1

• Koenig forecast a continued moderate pace of recovery in the U.S. but “a long slog” before the na-

tion returns to the levels of employment and income indicated by the trend before the nancial crisis.

• Wynne said initial fears of deglobalizationa reversal of global integrationresulting from the

2007–08 collapse in world trade are unwarranted. In retrospect, most of the decline is accounted

for by the severity of the crisis and the highly cyclical durable-goods sector’s share of world trade.

• Coronado discussed how maquiladora growth affects jobs in El Paso and other border cities. For

the border as a whole, the impact of the maquiladora is reduced from levels of 20 years ago, but

it remains a particularly strong inuence in Texas border cities. The impact no longer extends to

manufacturing on the U.S. side of the border but is more evident in services such as transportation,

real estate, and wholesale and retail trade, he said.

• Felbab-Brown brought into perspective the current drug-related violence in northern Mexico. So

far, the large industrial plants of northern Mexico have not been targets of this criminal activity,

although plant management has been placed at risk of extortion and kidnapping and employees live

in fear. The violence continues as a signicant threat to economic and social progress throughout

northern Mexico.

NOTE:1 See “Strategic Guidelines for the Competitive and Sustainable Development of the U.S.–Mexico Transborder Region,”

presentation by El Colegio de la Frontera Norte and the Woodrow Wilson International Center for Scholars, Border Governors

Conference, September 2009.



PRSRT STDU.S. POSTAGE

PAIDDALLAS, TEXAS

PERMIT NO. 151

Federal Reserve Bank of Dallas

P.O. Box 655906

Dallas, TX 75265-5906

2010 ANNU

AL REPORT

FEDERAL RES

ERVE BANK O

F DALLAS

From Brawn to Br

ains

How Immigration Works f

or America

From Brawn to BrainsHow Immigration Works for America

Read the essay at www dallasfed org

SouthwestEconomy is pub

quarterly by the Federal Reserve Bank of Dalla

views expressed are those of the authors and s

not be attributed to the Federal Reserve Bank o

las or the Federal Reserve System.

Articles may be reprinted on the conditio

the source is credited and a copy is provided

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Dallas.

Southwest Economy is available free of c

by writing the Public Affairs Department, F

Reserve Bank of Dallas, P.O. Box 655906, D

TX 75265-5906; by fax at 214-922-5268; or b

phone at 214-922-5254. This publication is av

on the Dallas Fed website, www.dallasfed.org.

Executive Vice President and Director of Rese

Harvey Rosenblum

Director of Research Publications

Mine Yücel

Executive Editor

Pia Orrenius

Editor

Michael Weiss

Associate Editors

Jennier Aferbach

Kathy Thacker

Graphic Designers

Samantha Coplen

Ellah Piña

In the global economic competition

for talented workers, the UnitedStates risks falling behind if

immigration laws are not

reformed and employment-

based immigration is not

expanded, according to the

Federal Reserve Bank of Dallas’

2010 Annual Report essay.

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