State Space Application to Recent Automobile Sector Triangle Trade between Japan and Latin America

The flow of foreign direct investment (FDI) has the effect of shifting trade patterns, especially those of developing countries. With FDI flow growth, vertical intra-industry trade increases as those production-fragmentation-led investments mature. This relation is readily apparent in the respective automobile sectors of Brazil and Mexico. This paper generates empirical evidence on the vertical intra-industry trade pattern between Japan-Brazil and Japan-Mexico using a state space econometric framework. Results show that Mexico is more integrated into the worldwide production chain than Brazil, where risks such as exchange rate volatility are higher. Results also show how each structure is affected by the 2008 recession and how the difference in the intensity can be regarded as further evidence of how Mexico is advancing more rapidly into the fragmentation process than Brazil is.