Central America Nearshoring

Introduction

The Northern Triangle of Central America (NTCA) — composed of El Salvador, Guatemala, and Honduras — holds promise as a potential nearshoring hub for U.S. companies with facilities far abroad. With a predominantly youthful population, close proximity to the United States, and emerging sectors such as textiles, agribusiness, manufacturing, and business process outsourcing (BPO), these countries have the potential to achieve higher levels of development similar to Costa Rica or Panama if they can attract significant domestic and foreign direct investment (FDI) and develop their workforces.

Investing in human capital — that is, people’s knowledge, skills, and qualifications — and attracting companies into the region are long-term strategies worth pursuing. Since 2019, over 2 million people, particularly youth, have emigrated from the NTCA in search of opportunities elsewhere, mainly in the United States. Attracting new companies and investing in workforce development initiatives could help stabilize the region by providing people with jobs, income, and future opportunities for training and career growth. The U.S. government and the private sector have signaled commitment to increasing investment in the region through the Partnership for Central America and the White House’s Call to Action in the NTCA. Workforce development is not an easy or quick fix and must be a long-term interest for U.S. companies and development agencies as they engage in the region.

The Untapped Potential of Economic Sectors in the NTCA

There are many economic development opportunities that would help NTCA countries increase formal employment and promote cross-sectoral linkages, thus creating compounding economic growth in the region. Among the most promising sectors with high growth potential are agribusiness, textiles, and manufacturing (e.g., in auto parts and electric components), as well as services such as BPO and tourism.

• Business Process Outsourcing: BPO refers to services such as accounting, information technology (IT), call centers, payment platforms, and others that larger companies can outsource. About 48,000 Guatemalans, 80 percent of whom are bilingual, are employed by the customer service outsourcing and other BPO services. El Salvador hosts more than 70 call centers and BPO operations, employing 26,000 people, while Honduras has 47 call centers that employ more than 17,000 people. According to a report by the International Finance Corporation titled Digital Entrepreneurship and Innovation in Central America, BPO and financial services firms tend to be the first adopters of technology, including cloud computing, real-time market information tools, cybersecurity technologies, and e-commerce platforms. The report also showed that technology-using firms tend to grow the fastest. To capitalize on these sectors, workers need to be equipped with specific skills, including language competencies, digital literacy, and other “soft” skills such as customer service and good communication.

• Textiles: The textile and garment sector generates 270,000 direct and indirect jobs in El Salvador, 180,000 in Guatemala, and 105,000 in Honduras. Companies such as Fruit of the Loom, SanMar, Elcatex, Parkdale Mills, and Crowley have established operations in the NTCA and have taken advantage of incentives from the Dominican Republic-Central America Free Trade Agreement (CAFTA-DR) with the United States, which took effect in 2006. For example, yarn used to produce garments is covered under CAFTA-DR, and the cotton used is of U.S. origin. President and CEO of the National Council of Textile Organizations, Kim Glas, announced in February 2023 that apparel imports, many containing U.S. textile inputs, had increased 24 percent in the past year. Moreover, the Covid-19 pandemic provided additional incentive for U.S. companies to nearshore U.S. textile trade with China to NTCA countries.

• Agribusiness: A quarter of the population in the Northern Triangle works in the agricultural sector. Honduras has a variety of microclimates that allow for a diversification of production, and nearly 70 percent of Guatemala’s territory is used for agricultural purposes. All countries in the region enjoy duty-free access for the entry of fresh fruits and vegetables to different markets due to various free trade agreements, including DR-CAFTA. Smallholder farmers in the Northern Triangle account for about 50 percent of agriculture exports, including commodities such as coffee, sugar, bananas, and other tropical fruits. Although there is a lot of potential within this sector, these countries still rely on products with little value added.

• Manufacturing: In 1965, Mexico’s maquiladora policy was adopted by the Northern Triangle countries. The policy, which enables producers and investors “tax-free importation of raw materials and intermediate inputs which they process and/or assemble and then reexport, again tax-free, to the United States,” paved the way for more FDI in the region and regional trade agreements such as NAFTA and CAFTA-DR. According to 2022 survey data from the International Labour Organization (ILO), manufacturing, as defined by the International Standard Industrial Classification, accounts for 13.7 percent of total employment in both Guatemala and Honduras and 14.5 percent in El Salvador.

Companies in these sectors need to continue to hire qualified workers that possess a variety of skills. For example, to conduct BPO services, employees need to master languages, in this case both English and Spanish, and need to know how to use information and communications technology (ICT) equipment. Similarly, to be able to operate specific machinery and technology, workers need to possess technical skills and different levels of digital literacy. To conduct more sophisticated engineering projects or work in advanced technical trades, workers need training in science, technology, engineering, and medicine (STEM) fields.

Many of these skills, competencies, and knowledge can be imparted at schools, universities, and training institutions, while others can be learned with practice, working on the job. However, proxy studies suggest that citizens from these countries are not likely to be proficient in English and would benefit from higher levels of education achievement.

Companies that operate in these countries find it hard to hire and retain qualified workers. While the chronic underdevelopment of human capital is preventing many economic sectors from growing, this challenge is not insurmountable. Development institutions, the U.S. government, private companies, and governments in the Northen Triangle have the aligned interest of wanting to see a thriving, self-sufficient market-based economy simultaneously fueled by and contributing to a highly skilled workforce.

Labor Market Challenges in the NTCA

Weak human capital is a barrier for firms operating in the region. According to the World Bank’s Human Capital Index, which examines a combination of education, health, and employment metrics to assess human capital levels in a country, all three NTCA countries score slightly below the 56 percent average for Latin America and the Caribbean. Guatemala’s Human Capital Index score is 0.46, which means that the average child born in 2020 is estimated to be 46 percent as productive when they grow up compared to if the child enjoyed a complete education and full healthcare. Honduras and El Salvador score 48 percent and 55 percent, respectively.

Moreover, results from the 2016 World Bank Enterprise Survey show that private firms in Honduras recognize human capital as a significant hurdle. In particular, small and medium-sized enterprises (SMEs) face challenges such as lack of entrepreneurship training and skill development programs, burdensome labor regulations, and financial illiteracy. In Guatemala, SMEs perceive that they are unable to attract talent because they cannot compete with the pay scales of larger companies. At the same time, companies that offer quality technical training often find that individuals have such low levels of primary education that the technical education is too advanced for their mastery of the material. A worker’s inability to absorb technical training due to a low-quality or nonexistent education stifles many career prospects. The private sector is unable to further train workers for in-demand jobs if there is a failure to achieve basic educational standards.

Both access to education and the quality of schooling are major challenges in the NTCA. According to the Organization for Economic Cooperation and Development’s (OECD) Programme for International Student Assessment (PISA) for 2022, students in Guatemala and El Salvador achieved mean mathematics scores of 344 and 343, respectively, well below the OECD average of 472. The 2022 PISA assessment for reading and math shows that El Salvador and Guatemala rank at the bottom of the list. In countries with such low performance, many students drop out and find informal jobs. For example, much of Guatemala’s youth and adolescent populations do not reach high school, with 45.8 percent of secondary education students (typically considered ages 12–17) not enrolled in or attending school. A high dropout rate for high school suggests that education is perceived to have little utility for gaining future employment. In NTCA countries, early school dropout rates are, on average, 22 percent higher than in the rest of the Latin American and Caribbean region.

To complicate matters, students who do not complete high school are more likely to find low-quality employment. Reinforcing this trend is a high correlation between educational attainment and employment in the formal sector. In Guatemala and Honduras, studies have found that workers who only reach lower secondary education are more likely to get jobs in the informal economy than workers with greater levels of education. Furthermore, unemployment and underemployment are common among younger age groups, and many young people remain idle, meaning they are not searching for education, training, or employment.

Beyond human capital deficiencies, the region’s business environment scores very poorly and has not been able to attract significant FDI. Stringent labor market laws are a disservice for both workers and companies trying to recruit talent. Labor markets in all three NTCA countries are characterized by high levels of informality, a feature that can be attributed in part to overbearing labor regulations. For example, in Honduras, there is strong evidence to suggest that economic actors in the county bypass the constraints of the regulatory environment by maintaining few full-time employees, hiring a higher proportion of temporary workers, or avoiding formalization entirely. Data from the 2016 World Bank Enterprise Survey show that 72.5 percent of Honduran firms compete directly against unregistered or informal firms.

Current labor laws preventing flexibility in the workplace needlessly add opportunity costs for workers, especially for young professionals and women. “Ordinary” working hours add rigidity to the labor market, as they limit the amount of work that must be completed during a certain window of the day. For example, in Honduras, standard working hours cannot exceed 44 hours per week and must be completed between 5:00 a.m. and 7:00 p.m. This creates scheduling challenges for students that may need to attend classes during the day, or for parents wanting to work while their children are in school during the day and after they go to bed at night. Night work, a separate classification of labor, is performed between 7:00 p.m. and 5:00 a.m. and cannot exceed 36 hours per week. Guatemala has the same maximum of 44 hours per week for daytime workers but classifies a daytime worker using a smaller window of work occurring between 6:00 a.m. and 6:00 p.m. Such outdated labor laws remove the flexibility enjoyed by remote workers elsewhere.

Moreover, working on a part-time basis or seasonally is not always allowed in the region. Guatemala did not ratify the ILO’s Part-Time Work Convention until 2017, only to have its constitutional court later suspend the framework. The Honduran congress created the National Hourly Employment Program in 2010, which allowed hourly contracts, but the program has since been met with resistance by labor unions, the Honduran Association of Labor Lawyers (AALH), and political opposition. Currently, only indefinite-term contracts, fixed-term contracts, and project contracts are permissible in Honduras and Guatemala. In an attempt to protect workers, these regulations are eliminating options for workers that would make education, skilling, and training outside of work more feasible.

Improving Education and Easing Labor Market Barriers

These challenges should not deter action or investment. The U.S. government and the private sector have an opportunity to work together to eliminate impediments and energize the labor market. There are three areas that require policy intervention to improve labor market outcomes in the region: (1) improving the business environment, including worker flexibility, (2) enhancing the quality of work and addressing informality, and (3) supporting educational institutions and workforce development initiatives.

1. Improve the business environment.

   Rather than pursuing piecemeal reforms for particular sectors, countries in the region should take a less prescriptive approach by prioritizing legislative reforms that would benefit any sector of the economy. The World Justice Program’s 2023 Rule of Law Index, which includes 142 countries, ranks El Salvador 108th, Guatemala 111th, and Honduras Above regulatory reforms for specific sectors, NTCA countries should prioritize building better business environments.

   The private sector demands predictable government regulation to allow for more flexible hiring. Hourly wages and other business-friendly adjustments to labor law in the region would allow the workforce to expand in high seasons or work during peak hours only. Requiring all employees to be salaried restrains employers and employees from achieving the most mutually beneficial transactions. Not only would these measures entice prospective companies to invest in the region, but they would also help existing companies and workforce programs scale in size and impact.

2. Improve working conditions and address informality.

   Second, there is also a need to improve the quality of the jobs and working conditions in the region. Studies show that people employed in the formal economy earn 19 percent more than those in the informal sector. In addition to job-matching programs and workforce training, private sector leaders can support formalization in their own supply chains, and governments in the region can lower administrative costs and help informal business navigate requirements for formalization. Likewise, local governments can incentivize corporate social responsibility through tax exemptions and other benefits.

   Increased digitization is an opportunity to promote formalization, delivery of services, and transparency in the enforcement of contracts. Digitization would help small informal businesses, including in the agricultural sector, to register and conduct operations beyond immediate markets through e-commerce. In addition to expanding market size, digitizing informal businesses can also improve access to credit and risk assessments. This is an important pillar of U.S. vice president Kamala Harris’s Call to Action to remove barriers to private sector investment in the Northern Triangle. El Salvador, Guatemala, and Honduras ranked 107th, 114th, and 180th, respectively, out of 193 countries in the United Nation’s 2022 E-Government Development Index, an assessment of country-level digital government landscapes. Moreover, the digitization of customs processes would save time and costs, encouraging further investment. Converting bureaucratic processes such as land and business registration to paperless interfaces would also help in the fight against corruption.

3. Support educational institutions and workforce development initiatives.

   Finally, better education and workforce development efforts should be a high priority. Not all of these programs have to be led by large multinational companies. Supporting local businesses with a high potential to create employment is another avenue to enable private sector growth and job creation. Moreover, development agencies that have a significant footprint in the region, including the U.S. Agency for International Development (USAID) and the Inter-American Development Bank, can be force multipliers for companies and governments in the region by absorbing some risk and providing capital. The United States has recognized the strategic significance and economic potential of the region and intends to support efforts to make technical training programs more relevant to employers’ needs. Training programs, boot camps, and other workforce initiatives have been implemented in the region to redeem the situation and provide better opportunities for workers. These initiatives can be replicated and scaled in other sectors (see Box 1 for a list of some of these initiatives).

   Collaboration among government entities and the private sector has led to the design and implementation of low-cost, high-reward training programs, helping to guarantee job formalization. For example, Advance, funded by USAID, is a workforce development program in Guatemala and Honduras (as well as the Dominican Republic and Jamaica) that brings together stakeholders from the educational and private sectors to identify priority economic sectors and strengthen technical education to meet labor market needs.

   Technical and vocational education and training (TVET) programs overseen by employers can also help guarantee that workers are equipped with the right sets of skills required to succeed in their field. Companies can provide technical expertise in curriculum development so that students are motivated to complete school knowing they will have the tools to succeed in the labor market. In addition, technology is shaping the labor market and redefining what skills are in demand. Ensuring TVET programs remain relevant amid technological changes requires continual curriculum development.

   However, those who would benefit from programs may not be aware of the opportunity. Local governments and schools should coordinate with those offering workforce development programs to advertise the availability of existing programs, whether through social service professionals or social media campaigns. Low enrollment in existing quality workforce development offerings is a missed opportunity for all parties. Raising awareness of current initiatives could spur further investment and boost enrollment.

   In addition, investing in bilingual education can reap significant benefits to build the region’s human capital. In Honduras, bilingual education used to be offered only in private institutions, but the Honduran government has recognized the value of bilingual education and is pushing for the country to be more attractive for bilingual companies. The Honduran minister of education is committed to opening bilingual teaching training centers in pursuit of his vision to have Honduras be a bilingual nation by 2032. A World Bank study found that bilingual students in Guatemala had higher attendance rates, lower dropout rates, and received higher scores on all subject matters. The incentives for school systems to equip students with language skills are clear.

Promising Workforce Models

Domestic private sector leaders have partnered with higher education institutions to ensure that training is equipping students with the skills and knowledge needed to excel in the workplace. Below are several examples of promising models:

• Textiles: No formal textile training exists in the region despite industry demand for tens of thousands of workers. Think HUGE, a job creation business council for the region, has partnered with Universidad Tecnológica Centroamericana (UNITEC) in Honduras and the Wilson College of Textiles at North Carolina State University to establish an educational network for the textile industry. The agreement outlines plans for developing professional training courses, certificate programs, degrees, and funding for scholarships, fellowships, and internships.

• Electric Components: Yazaki North America announced a pilot-project factory in Guatemala in January 2022, becoming Guatemala’s first automotive parts manufacturer. The company also already operates in El Salvador. Yazaki chose to expand nearshoring efforts after experiencing supply chain difficulties during the Covid-19 pandemic. Another reason Guatemala was attractive for Yazaki was the commitment of El Instituto Técnico de Capacitación y Productividad (INTECAP), a leading Guatemalan organization with the mission of promoting employability and technical development, to create training programs specifically for Yazaki. Dozens of Guatemalan workers have already completed courses on topics ranging from industrial Ethernet and Profibus networks to mechanical and electrical measurements. Yazaki collaborated with USAID and the Guatemalan Ministry of Economy in making the investment.

• Value Chains: The Inter-American Development Bank (IDB) approved a project in 2021 aimed at strengthening regional value chains in the Northern Triangle. It aims to foster talent development in the three countries by providing finishing school programs to equip workers with English and IT certifications. These skills will be highly valuable for success in the BPO sector, as well as the enhancement of regional and global integration in value chains.

  Moreover, Alterna, in partnership with USAID, supports small and growing businesses by providing business and technical services. As of March 2024, 85 businesses had completed Alterna’s cultivation processes to improve business-market intelligence, gain strategic-financial knowledge, hone digital and soft skills, and access value chain connections and financing opportunities.

• Software: The Kodigo Academy for Creative Technology and the IDB Laboratory, the innovation laboratory of the IDB, invested $1.5 million into launching a software training program. The program aims to train 1,500 people by offering courses in various branches of the growing digital sector. In an era where many existing jobs are under threat of being replaced by artificial intelligence and automation, it is important to develop skills that will remain relevant as technology advances.

Conclusion

U.S. companies looking to outsource production closer to home are usually turning to Canada and Mexico as their first choices for relocation. They should also consider NTCA countries as potential nearshoring locations. U.S. companies hesitating to invest or expand in the region due to workforce challenges can be a part of the solution, working in tandem with development organizations and international supporters to reduce security risks, energy costs, infrastructure insufficiencies, and corruption.

One of the prerequisites to invest or expand operations in the NTCA is a skilled workforce. Governments, private actors, and donors must work in coordination to reduce barriers for investment while creating and expanding workforce development initiatives. A comprehensive approach is necessary, one that combines the private sector’s expertise and the international community’s access to finance with the public sector’s ability to build inviting regulatory environments and infrastructure. The U.S. government, other international partners, and multilateral development banks should champion the needed policy changes and use their funding of workforce development programs to get commitment from governments in the NTCA to pursue pro-business reforms. By supporting the stated ambitions of all Northern Triangle governments through the Americas Partnership for Economic Prosperity, the U.S. government is investing in increasing the availability of meaningful economic opportunities for citizens in the NTCA. Building a shared vision and investing in proven programs can help the region stem the outflow of people, further stabilize, and unlock its full economic potential.

Daniel F. Runde is a senior vice president, William A. Schreyer Chair, and director of the Project on Prosperity and Development at the Center for Strategic and International Studies (CSIS) in Washington, D.C.

Romina Bandura is a senior fellow with the Project on Prosperity and Development at CSIS.

Austin Hardman is a research assistant with the Project on Prosperity and Development at CSIS.