By Ana Isabel Martinez and Krista Hughes
MEXICO CITY/WASHINGTON (Reuters) - Grappling with tumbling auto sales and weak economic growth, Brazil wants to renew an auto quota pact with Mexico that is set to expire in March, a move that could stoke trade tensions.
A treaty between the two nations and auto manufacturers, which sets quotas on how many light vehicles Mexico and Brazil can sell each other, expires in March.
Auto trade between the two was then supposed to be fully liberalized, but Brazilian officials are now looking to extend the pact to avoid unlimited competition from Mexico.
"Our position is that Brazil must seek to renew the agreement while seeking adjustments in that agreement," Brazilian Trade Minister Armando Monteiro told Reuters in an interview.
Asked if one option might include reduced quotas, he said: "I would not rule out that possibility but I would prefer to say that something that I do not see is the chance of increasing the quotas."
A source familiar with the situation earlier told Reuters Brazil wanted to avoid a return to free trade on autos "because right now, the conditions aren't right for it".
Another source said Brazil wants a broader treaty with Mexico that would allow free trade between the two Latin American peers in areas where Brazilian goods are more competitive, citing Brazil's $1.2 billion (780 million pounds) trade deficit with Mexico in terms of cars and auto parts alone.
Brazil would look to renew the car quotas while such a broader free trade treaty was negotiated, this source said.
Mexico, which last year passed Brazil to become the biggest auto producer in Latin America, says it wants the existing pact to run its course, and to be able to freely export vehicles to Brazil from March.
Brazil this week invited a Mexican government delegation to a meeting in Brasilia between Feb. 20 and 25 for talks to revamp the treaty.
"I'm ... going to put everything on the table so that we can return to free trade," Mexico's Economy Minister Ildefonso Guajardo said on Tuesday. "To have credibility, first you have to respect your accords."
Brazil sees unrestrained Mexican exports as a big threat to its domestic auto industry. A car sold in Mexico can cost as little as half the retail price in Brazil, where high taxes, transportation bottlenecks, powerful unions and trade protections have hurt competitiveness.
Data from the International Monetary Fund shows that Brazil is the most closed major economy in the Americas. Mexico has, by contrast, signed dozens of free trade deals in the past two decades.
Brazil's economic growth ground to a halt last year and many economists believe the country will fall into recession in 2015. The country posted its first annual trade deficit in 14 years in 2014.
The auto industry, which contributes a quarter of Brazil's industrial production, has become a persistent headache for recently re-elected President Dilma Rousseff.
Targeted stimulus since 2012 gave sales a temporary boost, but the market contracted by the most in a decade last year as the government pared back the tax breaks to improve its fiscal accounts.
ARGENTINA IMPOSES RESTRICTIONS
Neighbouring Argentina, which recently bought as many as nine in 10 Brazilian cars sold overseas, also imposed severe trade restrictions after a drop in foreign reserves, dragging Brazil's auto exports 40 percent lower to about 335,000 vehicles, the lowest since 1999.
Brazil remains one of the world's five biggest auto markets, with decades-old factories run by Fiat Chrysler (N:FCAU), Volkswagen (DE:VOWG_p), General Motors (N:GM) and Ford (N:F).
The industry has struggled to improve productivity, which hit a decade-low last year as output dropped 15 percent to 3.15 million vehicles. Domestic sales fell 7 percent to 3.5 million vehicles.
Meanwhile, Mexico's auto sector has flourished in recent years, with new plants sprouting up across the country as manufacturers look to benefit from the country's proximity to the U.S. market, and because of the nation's cheap wages and myriad free trade agreements.
Boosted by strong demand in the United States and Canada, Mexico auto production rose nearly 10 percent to a record 3.22 million vehicles in 2014, while exports increased 9.1 percent to an all-time high of 2.64 million vehicles.
Car makers including BMW (DE:BMWG), Kia (KS:000270), Audi (DE:NSUG), Honda (T:7267), Nissan (T:7201) and Mazda (T:7261) have all either begun production in Mexico or announced plans to start manufacturing there.