Canada Must Up the Ante

Canada Must Up the Ante
(The Financial Post – Jacqueline Thorpe)

It's not about who's the biggest trading partner with who, or whether you run a trade surplus or a deficit. It's about how you play the economic hand you are dealt as the great globalization game continues apace.

Trade figures released yesterday made it official: Canada is facing a dramatic shift in its trading relationship with the rest of the world. Whether it can capitalize on this shift will very much determine the country's prosperity in the years ahead.

Not only did China topple Canada from the top spot as the United States' biggest source of imports in 2007 but Canada's trade surplus with the rest of the world shrank to its lowest level in nine years.

Data showed the United States imported US$321.5-billion worth of goods from China last year, compared with US$313.1-billion from Canada. The surplus dropped to $2.35-billion from $3.4-billion. It was the first year on annual basis that Canada has been in the No. 2 position since 1991, when Japan held the top spot.

After years bragging at the G7 about its twin fiscal and current account surpluses, one of those struts is likely to disappear next year.

As David Wolf, Canadian economist at Merrill Lynch pointed out on Tuesday, Canada is heading for a current account deficit of $36-billion in 2009 – a potential record – as its balance on trade, services, travel and income gravitates into the minus column.

It has been a long time coming – about six years and US40¢ worth – as the loonie's surge toward parity and a growing and fiercely competitive China forced the change.

It has been wrenching for many sectors. The auto industry reported its biggest deficit in nearly three decades and Canadian Auto Workers economist Jim Stanford said yesterday, "We have squandered what was once a great international trade success story."

The forest-products sector is limping and small manufacturers pumping out steel springs and aluminum coils in the industrial corridors of Quebec and Ontario have been devastated by the double whammy.

But trade deficits don't mean much for mature advanced economies in a world where trade is increasingly interconnected and parts are shipped here, there and shipped back again to Canada or the United States as finished products.

In a recent report, the Conference Board of Canada cited a study which found only US$3 of the value of a US$300 Apple iPod "Made in China" is actually added in China. Half the value – mostly the intellectual content of the design – is made in the United States, and the rest in such Asian countries as South Korea or Taiwan that make the components.

"Just because something is shipped from China doesn't mean it's made in China," said Glen Hodgson, chief economist at the Conference Board.

Stephen Poloz, chief economist at Export Development Canada, has long noted that about one-half to one-third of the U.S. current account deficit comes from U.S. multinationals operating abroad – it is intra-company.

The only way forward is for Canada to both source more of those processes from China and create more intellectual content and sophisticated machinery and equipment at home.

"We have to get in the game as investors," Mr. Hodgson said. "We have to open more market access to Canadian exporters of all types. We're still triflers. We're selling raw materials and doing the occasional investment."

A strong loonie was supposed to boost purchases of machinery and equipment that would allow the Canadian economy to become more competitive, but the evidence of this has been middling at best.

Indeed, the growth of imports of machinery and equipment has actually been slowing in volume terms since 2003-04. They posted a 14.4% increase that year and only 6.3% last year. In nominal terms, Canada's imports of M&E have not yet surpassed 2000, though, of course, we do get more bang for our buck.

The result has been mediocre productivity growth. In manufacturing it has been about 1% a year this decade, according to a recent report by Toronto-Dominion Bank, compared with 3% to 4% for the United States.

Having ridden the commodity boom to great effect, now is the time for Canada to graduate and become a real participant in the global economy.