Since 2001, there have been significant changes in. Walking the Silk Road: Understanding Canada s Changing Trade Patterns. Briefing December 2012

Transcription

1 Briefing December 2012 Walking the Silk Road: Understanding Canada s Changing Trade Patterns At a Glance Canada s trading patterns have been fundamentally altered over the past decade. The Canadian U.S. trade relationship is waning in importance, while emerging markets, particularly China, are becoming increasingly important. Our trade strengths are shifting away from some manufactured products toward professional services and products related to our natural resource wealth. This is not just the result of the strong dollar; the growing role of emerging markets and shrinking trade barriers are key drivers. Introduction Since 2001, there have been significant changes in global flows of trade and investment. In some ways, Canada has been part of these changes. For example, over the last decade, the stock of inbound foreign direct investment in Canada has risen by 78 per cent, while the stock of outbound investment has risen by 71 per cent. 1 Imports into Canada have also risen they are 33 per cent higher today than they were in Growth in imports and investment has outpaced our economic growth over this period, indicating that, in some ways, we are becoming more deeply integrated into global supply chains. 1 Derived from CANSIM table Derived from CANSIM table Trade, Investment Policy and International Cooperation

2 2 Walking the Silk Road December 2012 The major exception to this trend is our export performance. The value of our exports in 2011 was only 11 per cent above what it was in What is more, this increase is entirely due to the effects of rising prices. On a price-adjusted basis, Canadian exports have changed little over the past decade. This is not just a result of the recession. The 2000s were a lost decade for Canadian exports of both goods and services, as essentially no growth in volumes occurred even though the volume of global trade in goods expanded by 68 per cent during this period. 3 The weakness in Canadian exports over the past decade is often blamed on the strengthening of the Canadian dollar. However, the story is much more nuanced. Since the turn of the century, there has been a fundamental shift in whom we are trading with and what we are trading. The strong dollar is part of this story, but so too are a myriad of other factors, such as a general reduction in trade barriers and the growing role of emerging markets in the global economy. This report examines how these driving forces and others have caused Canada s trade patterns to shift. In particular, emerging markets have profoundly shaped Canada s trade position on the international stage. Their presence is apparent in a variety of ways. For example, the share of Canadian imports sourced from emerging markets has expanded considerably in recent years, as Canadian businesses are buying more finished products and intermediate inputs from these countries. Emerging markets have influenced Canada s export performance over the past decade, as well. We have lost export market share to emerging markets in a wide variety of products, including Canadian stalwarts like wood and paper products. This has been particularly true in the key U.S. market. The loss of market share has certainly been accelerated by the rise in the value of the Canadian dollar, but it is very likely that it would have occurred even if the value of the dollar had remained constant. 4 3 World Trade Organization, International Trade Statistics 2011, Table A1. 4 Macdonald, Not Dutch Disease, It s China Syndrome. The general dearth of growth in Canadian exports to the U.S. has coincided with a period of expansion in Canadian exports to the rest of the world. For virtually every Canadian industry, the U.S. market has become less important relative to other countries over the past decade. Developed markets such as the European Union and Japan have accounted for some of this change, but again the key driver of change is emerging markets. The stronger economic growth in these regions in general and their growing appetite for Canadian resources in particular are driving this change. Canada s Trading Patterns are Shifting A Shift in Trading Partners Canadian trade has been traditionally geared toward the U.S., but that relationship is gradually shifting. Canadian trade with the U.S. has changed little in recent years, while trade with many other countries has been growing. As a result, the value of Canada s bilateral trade with the U.S. is essentially the same today as it was in (See Chart 1.) In comparison, our trade with the rest of the world has risen by over 80 per cent. Chart 1 Canada s Two-Gear Trade Model: The U.S. and the Rest (value of Canadian bilateral trade, indexed; 2001 = 100) U.S. Non-U.S Sources: Industry Canada; Statistics Canada; The Conference Board of Canada. The U.S. remains Canada s largest trading partner, with $1.8 billion in goods and services crossing the border each day, and it will remain so for the foreseeable future, given the sizes and proximity of the two countries. However, the importance of the U.S. to Canada has

3 The Conference Board of Canada 3 Chart 2 China Has Become an Important Source of Canadian Imports (percentage share of Canadian merchandise imports) Chart 3 Developing Countries Are Accounting for a Growing Share of Global Trade (percentage) U.S. Mexico Germany China Japan Others Non-OECD share of GDP Non-OECD share of trade Sources: World Bank; The Conference Board of Canada. Sources: Industry Canada; The Conference Board of Canada. been trending downward. For example, in 2001, the U.S. accounted for 87 per cent of Canadian merchandise exports; by 2011, that share had fallen to 74 per cent. 5 Conversely, every other country among Canada s 10 largest export markets has seen its share of Canadian exports rise. The U.K. and China, in particular, have experienced significant increases. This is partly due to relative price changes Canadian exports to non-u.s. markets are more heavily weighted toward commodities, which have experienced above-average price growth but the volume of Canada s exports to many countries has changed as well. In the case of imports, the decline in the importance of the U.S. is even more pronounced. In 2011, only half of Canada s merchandise imports came from the U.S., compared with 64 per cent in (See Chart 2.) Japan and the U.K. have also seen their share of Canadian imports decline over this period. The single biggest factor in this change is China. The value of Chinese imports into Canada more than tripled over this period, such that China is now Canada s second-largest source of imports, accounting for 11 per cent of the total. A key reason for the growing presence of China and other emerging markets in global trade is that they are accounting for an increasing share of the global economy. The share of global GDP found in non-oecd countries has risen from 19 per cent in 2001 to 34 per cent in (See Chart 3.) This astounding shift in a short period of time was caused by the combination of robust economic growth in a number of emerging markets and very weak growth in large developed economies, such as the European Union, Japan, and the United States. It has been accompanied by a similar shift in global trade patterns. Non-OECD countries share of global trade increased from 27 per cent to 41 per cent over the same period. The shift in emerging markets share of global GDP and trade accelerated after the financial crisis and subsequent global recession of , which hit the U.S. and many European countries particularly hard. In our analysis, we limit the distortions caused by the global recession in two ways. First, we examine how trade shares rather than levels have changed over time. Second, we compare the results for the bookend years of 2001 and By 2011, global trade had largely recovered from the effects of the recession. 5 Based on Industry Canada s Online Trade Database. Note that all trade share figures are reported in terms of value.

4 4 Walking the Silk Road December 2012 The reduction of trade barriers around the world has also contributed to this shift in trade patterns. Canada is now party to 10 free trade agreements and is in discussions to become part of nearly 20 more. 6 More broadly, tariffs and other barriers to trade have been reduced. For example, according to World Bank estimates, the average tariff for manufactured products has been gradually falling, from 9.4 per cent in 2001 to 6.06 per cent in As a result, Canadian businesses have experienced an increase in market access overseas, and they are competing with more foreign businesses in their domestic and export markets. Exchange rates play only a minor role in determining Canada s trade volumes with most of our major trading partners. Chart 4 There Is Little Correlation Between Currency Movements and Trade Flows (percentage change, 2001 to 2011) U.S. Eurozone U.K. China Japan Mexico South Korea Brazil India Australia Exports to Canada Imports from Canada Currency vs. C$ Sources: Industry Canada; Bank of Canada; The Conference Board of Canada. Finally, the rise in the value of the Canadian dollar versus the U.S. dollar since the exchange rate bottomed in 2002 has contributed to the shift in our trade relationships. However, it is important to not overstate the influence of the dollar. The Canadian dollar has also risen in value versus a variety of other currencies, such as the euro, the British pound, the Chinese yuan, and the Mexican peso. In some cases, the rise has been even larger than the one that occurred versus the U.S. dollar. Yet, in each case, the amount of bilateral trade between each of these jurisdictions and Canada has risen. (See Chart 4.) A recent Conference Board report found that the exchange rate played only a minor role in determining trade volumes with most of our major trading partners. 8 As well, all trading industries face the effects of the strong Canadian dollar on their international competitiveness, yet their export performance has varied widely over the past decade. As we will discuss later, the strong value of the dollar does not explain why Canada s shares of U.S. imports of products such as chemicals and refined petroleum products have not changed significantly, while 6 Foreign Affairs and International Trade Canada, Negotiations and Agreements. 7 World Bank, Tariff Rate, Applied, Simple Mean, Manufactured Products (%). 8 Beckman, What Might Canada s Future Exports Look Like? those for products such as wood, paper, and furniture have changed greatly. Nor does it explain why U.S. exporters have lost market share in Canada. A Shift in Product Mix Part of the reason for the shift in Canada s trading partners is a change in what we are trading. The mix of products that we trade can vary widely across countries. As a result, as our trade profile changes with time, so too does our trade relationship with some countries. These changes in product mix are driven by a variety of industry-specific factors, such as global supply and demand conditions for particular products, gradual changes in countries trade strengths, and the importance of transportation costs to particular products. The change in the mix of what we trade is most obvious when it comes to exports. We have shown how Canada s trade performance with the U.S. differs greatly from our trade performance with the rest of the world. The mix of products we trade with these two regions is also very different. For example, in 2011, one-fifth of our exports by value to the U.S. were oil and gas products, whereas these products accounted for only 0.4 per cent of our exports to the rest of the world. (See Table 1.) In contrast, Canada s single largest export to non-u.s. countries was non-petroleum mineral products, accounting for 19 per cent of exports; these products comprised

5 The Conference Board of Canada 5 just 2.8 per cent of our exports to the U.S. Thus, the much stronger economic growth in non-u.s. markets has generally favoured growth in exports of Canadian products that the U.S. is less likely to buy from us. The dramatic changes in the relative prices of different goods and services over the past decade have also contributed to the shift in the values of Canada s exports. For example, since 2001, Statistics Canada s index of raw material prices has risen by 74 per cent, while its price index for manufactured goods has risen by only 15 per cent. 9 Obviously, even if export volumes had not changed over this period, these price rises would have driven significant changes in the proportions of exports by value. Table 1 Canada s Exports to the U.S. and to the Rest of the World Differ (percentage share of Canada s total exports, by region, 2011) U.S. Rest of world Oil and natural gas 20.9 Mining (except oil and gas) 19.4 Transportation equipment 17.4 Commercial services 12.4 Commercial services 7.8 Crops 9.1 Chemicals 6.5 Tourism 6.9 Manufactured primary metals 6.3 Manufactured primary metals 6.8 Petroleum and coal products 5.5 Transportation equipment 6.1 Machinery 4.4 Machinery 5.7 Food products 4.0 Food products 5.4 Paper products 3.3 Chemicals 5.2 Computer and electronic products 3.0 Transportation 5.1 Sources: Industry Canada; Statistics Canada; The Conference Board of Canada. Strong economic growth in emerging markets has directly influenced Canada s trade flows. It is also important to note the influence of emerging markets on commodity prices. A variety of factors including supply constraints and shocks, the growing use of agricultural commodities for biofuels, and the weak U.S. dollar (in which many commodities are priced) have contributed to the general rise in commodity prices. However, strong demand growth in emerging markets has also been a major contributor. As well, there was an observable and well-documented link between the value of the Canadian dollar and commodity prices over the same period. 10 Thus, strong economic growth in emerging markets has directly influenced Canada s trade flows, as well as having a secondary effect through its impact on the value of the Canadian dollar. The combined effects of changing markets and the variation in relative prices have transformed what Canada exports. For example, in 2001, transportation equipment, paper products, computer and electronic products, plastic and rubber products, and wood products accounted for almost half of total Canadian merchandise exports by value to the world. Ten years later, 9 Derived from CANSIM tables and For example, see Maier and DePratto, The Canadian Dollar and Commodity Prices: Has the Relationship Changed Over Time? their combined share had dropped to only 26 per cent. Meanwhile, oil and gas, mining (excluding oil and gas), chemicals, manufactured primary metals, petroleum products, and food products accounted for 53 per cent of total Canadian merchandise exports in 2011, up from 29 per cent in Although differences in what we import from the U.S. and the rest of the world are less stark than those in the case of exports, they do exist. (See Table 2.) For example, oil and natural gas are Canada s third largest import from the rest of the world, accounting for nearly 10 per cent of our total imports. In the case of the U.S., the share is 2 per cent. This means that, just as with exports, relative prices and our varying import mix across countries are also contributing to the change in which countries we are trading with. Canadian Imports: Moving To a Multipolar World The sources of Canadian imports have become increasingly diverse over the past decade. This is perhaps most apparent in the fact that in 2011, the U.S. share of Canadian merchandise imports dropped below 50 per cent for the first time. In its stead, various countries have grown in importance. China has experienced the largest

6 6 Walking the Silk Road December 2012 Table 2 Canada s Imports From the U.S. and the Rest of the World Also Differ (percentage share of Canada s total imports, by region, 2011) U.S. Rest of world Transportation equipment 20.5 Computer and electronic products 13.1 Commercial services 11.2 Transportation equipment 11.8 Chemicals 9.9 Oil and natural gas 9.6 Machinery 8.4 Chemicals 6.9 Tourism 7.4 Machinery 6.6 Computer and electronic products 4.8 Commercial services 5.8 Manufactured primary metals 4.6 Transportation 5.6 Food products 4.5 Tourism 5.2 Fabricated metal products 3.4 Mining (except oil and gas) 4.1 Plastic and rubber products 3.3 Electrical equipment 3.4 Sources: Industry Canada; Statistics Canada; The Conference Board of Canada. gains in market share, but many other countries such as Mexico, Algeria, Peru, and Kazakhstan have experienced modest increases. In the case of Mexico, our highest value import is now motor vehicles, while gold is our highest value import from Peru. In the case of Algeria and Kazakhstan, crude oil accounts for most of our imports. This shift has not been the result of significant changes in just one or two industries. For most industries, the U.S. has become far less important as a source of imports for Canada. In only a handful of industries such as communications services, and oil and gas extraction has the U.S. seen its share of Canadian imports rise or remain stable. (See Chart 5.) Conversely, the U.S. market share for a wide variety of Canadian imports has declined greatly. (See Chart 6.) In many cases, emerging markets have captured market share from the U.S. in Canada. This has occurred despite the large decline in the value of the U.S. dollar, which has improved the cost competitiveness of U.S. imports. Chart 5 U.S. Market Share in Canada Has Risen in Only a Few Industries (percentage-point difference in U.S. share of Canadian imports, 2011 versus 2001) Communications Oil and gas extraction Beverage and tobacco products Food Utilities Travel Paper products Forestry and logging Insurance Leather and allied products Sources: Industry Canada; The Conference Board of Canada. In addition to the changes in the sources of Canada s imports, the ratio of imports to apparent demand has also increased for many industries over the past decade. 11 Thus, imports are often meeting a growing share of Canadian demand. Given the strengthening of the Canadian dollar over this period, which has improved the cost competitiveness of imports, that is not overly surprising. However, once again, the dollar is not the only cause. For example, there is little correlation between currency fluctuations relative to the Canadian dollar and the countries that have gained market share. As we have already highlighted, the U.S. lost market share in Canadian imports despite the fact that the U.S. dollar has fallen by 37 per cent versus the Canadian dollar over the past decade. At the same time, countries such as Switzerland and Australia, whose currencies have actually strengthened versus the Canadian dollar, have gained market share. 11 Apparent demand is calculated as production plus imports less exports.

7 The Conference Board of Canada 7 As well, changes in the degree of import penetration into the Canadian market have varied widely across industries. Some industries have seen large increases in import penetration. In others, the share of domestic demand being met by imports has declined over the past decade. (See Appendix B for more details.) What this tells us is that different countries are specializing in areas where they have competitive strengths. This specialization has, in turn, driven a transformation in global trade patterns over the past decade, and it is almost certain that this process will continue in the coming years. A closer examination of major changes in the degree of import penetration into Canada will help highlight these patterns. Chart 6 U.S. Market Share in Canada Has Fallen Precipitously in Many Industries (percentage-point difference in U.S. share of Canadian imports, 2011 versus 2001) Mining (except oil and gas) Computer and electronic products Computer and information services Textile product mills Furniture and related products Electrical equip., appliances and components Plastics and rubber products Printing and related support activities Animal production Fabricated metal products Sources: Industry Canada; The Conference Board of Canada. Specialization has driven a transformation in global trade patterns over the past decade. Import Competition Has Accelerated for Many Industries In terms of rising import competition, industries where the largest changes have occurred in recent years include mining, textiles and apparel, and travel. (See Chart 7.) The causes of these transitions have differed across industries. They include things like policy changes, the growing influence of emerging markets, the strengthening Canadian dollar, and industry-specific factors. The single largest change has occurred in the mining industry, where imports as a share of apparent demand have risen from 26 to 70 per cent over the past decade. At first blush, this may appear counterintuitive, given Canada s abundance of mineral wealth. However, this increase is largely a product of rising gold prices. Although Canada is a significant net exporter of gold, gold is also our single largest mineral import by value. Gold prices have more than quintupled, from an average of US$271 per troy ounce in 2001 to US$1,568 in 2011, which means we are spending billions more to import gold. 12 Since gold prices have risen by much more than the prices of most other types of mineral products over this period, imports are accounting for a rising share of our mineral demand by value. Chart 7 Imports Are Meeting a Greater Share of Domestic Demand in Some Industries (percentage-point difference in import share of apparent demand, 2011 versus 2001) Mining (except oil and gas) Clothing Leather products Textile product mills Primary metal manufacturing Beverage and tobacco products Travel Textile mills Petroleum and coal products Chemicals Sources: Industry Canada; Statistics Canada; The Conference Board of Canada. The situation for the other industries where import penetration has increased substantially is more interesting. For example, in the case of textiles, clothing and leather products, the change is due primarily to a combination of growing competition from emerging markets and policy changes. As recently as 1995, 52 per cent of the textile and clothing products consumed in Canada by value were made here, but that share has since fallen to 14 per cent. In the stead of domestic production, imports from emerging markets have surged, particularly those from China. (See Chart 8.) 12 World Bank, Commodity Markets.

8 8 Walking the Silk Road December 2012 Chart 8 China Now Meets Over 40 Per Cent of Canadian Demand for Textiles and Apparel (percentage share of domestic demand met, by source country) China United States Bangladesh India Vietnam Other imports Domestic Sources: Industry Canada; Statistics Canada; The Conference Board of Canada. A major factor contributing to the shift in textile and clothing trade patterns has been the dismantling of trade barriers. Until the mid-1990s, Canadian imports of textiles and clothing were shaped by a system of import tariffs and quotas that had been negotiated with major exporters. However, as a result of the Uruguay Round of negotiations among World Trade Organization (WTO) member countries, all quotas were removed and tariffs on trade in textile and clothing products were lowered between 1995 and Consequently, Canadian imports have risen dramatically. Travel spending is another area where Canada has experienced a significant change in the ratio of imports to domestic demand. In this case, an import is the money that Canadian travellers spend outside of the country. Thus, Canadians interest in foreign travel has been growing much more quickly than their interest in domestic travel. In this case, the strengthening dollar is likely a significant factor, as it has made foreign travel much cheaper relative to domestic destinations over the past decade. Chart 9 Sun Destinations Have Accounted for Most of the Growth in Outbound Canadian Travel, (Canadian outbound overnight visits, thousands) Mexico Cuba United Kingdom Dominican Republic France Italy Germany China Netherlands Spain ,000 1,500 Source: Statistics Canada, International Travel However, changing consumer tastes are also a likely explanation. Most of the growth in Canadian overseas travel outside of the U.S. over the past decade has been to sun destinations, such as Mexico, Cuba, and the Dominican Republic. (See Chart 9.) In the case of trips to the U.S., Florida, California, and Nevada remain the most popular states among Canadians in terms of nights stayed. 13 Thus, Canadians are importing an increasing number of winter vacations in warm destinations. Canada has a very limited ability to compete with these destinations, as it offers very different vacation experiences. Change in Import Penetration Has Been Minimal in Resource-Based and Protected Industries Although imports as a share of domestic demand have risen in most industries over the past decade, this trend has not been universal. In some cases, the degree of import penetration has changed little or has even fallen. These are generally industries related to our natural resources, where we have significant comparative advantages; 14 industries that provide inputs into the harvesting and processing of natural resources; or industries where significant barriers limit imports. 13 Statistics Canada, International Travel Audet and Burt, Adding Value to Trade Measures: Moving Beyond Being Hewers of Wood.

9 The Conference Board of Canada 9 The industry whose import penetration has declined the most is machinery manufacturing. (See Chart 10.) Although Canada remains heavily reliant on the import of machinery, the ratio of imports to demand has fallen from 90 per cent in 2001 to 80 per cent in Machinery manufacturing in Canada has become much more specialized over this period. One of the key areas of specialization is mining equipment, particularly equipment related to the development of the oil sands. Mining equipment now accounts for 19 per cent of machinery revenues in Canada versus 7 per cent in Thus, although Canada is importing more machinery overall, it is also producing much more mining machinery for both domestic consumption and export. This is a key reason why Canada s machinery industry is one of the few in the broad manufacturing sector whose share of domestic demand has grown over the past decade. Chart 10 Imports Are Meeting a Smaller Share of Domestic Demand in Some Industries (percentage-point difference in import share of apparent demand, 2011 versus 2001) Machinery Non-metallic mineral products Crop production Utilities Miscellaneous manufacturing Transportation equipment manufacturing Fabricated metal product manufacturing Forestry and logging Animal production Other business services Sources: Industry Canada; Statistics Canada; The Conference Board of Canada. The non-metallic minerals products industry is an example of an industry that is somewhat protected from import competition. Unlike some industries that are protected by policies, such as the import restrictions on animal products imposed by supply management systems, transportation costs pose a barrier for exporters of many nonmetallic mineral products. Products such as cement have a high weight-to-value ratio, limiting the distance over which they can be transported economically. In addition, the Prairies have accounted for a disproportionate share of the growth in demand for non-metallic mineral products over the past decade. Since this region is less accessible than other parts of Canada to major production centres in the U.S., the result has been an increase in the share of domestic demand being met by domestic production. Finally, Canada has traditional trade strengths in industries such as crop and food production, energy, forest products, and transportation equipment, and there is limited evidence of significant inroads in import penetration in these industries. Indeed, rapid economic development in emerging markets has meant that many are net importers of raw materials. Thus, rather than being a source of competition, emerging markets more often present 15 Derived from CANSIM table opportunities. One major exception is Brazil, which has become a major exporter of food, forestry products, and minerals. Canadian Exports: More than a case of Dutch Disease Exports to the United States Canadian trade with the U.S. surged in the years following the implementation of the Canada U.S. Free Trade Agreement, and its successor, NAFTA. However, it appears that the benefits of those agreements have been largely played out bilateral trade between the two countries peaked in The lack of growth in Canadian exports to the U.S. has been blamed on a myriad of factors, including the strengthening dollar, the thickening of the border post-9/11, and U.S. recessions in 2001 and But the simultaneous lack of growth in Canadian imports from the U.S. suggests another cause emerging markets. With Canadian exports to the U.S. flat or declining, but Canadian exports to other markets growing, the U.S. share of Canadian exports has fallen. At the same time, U.S. imports have continued to rise. Thus, our share of the U.S. market has steadily eroded over time. This is almost universally true across industries, with only a

10 10 Walking the Silk Road December 2012 Chart 11 Canada s Share of U.S. Imports Has Grown in a Few Industries (percentage-point difference in Canadian share of U.S. imports, 2011 versus 2001) Communications Mining (except oil and gas) Miscellaneous manufacturing Petroleum and coal products Transportation Leather and allied products Financial services Computer and information svcs. Chemicals Travel Sources: U.S. Department of Commerce; The Conference Board of Canada. handful recording an improving share of U.S. imports over time. (See Chart 11.) Appendix B provides additional detail by industry. The most resilient industries in terms of their share of U.S. imports are generally services industries. A highly educated workforce, similar cultures, and a shared language have helped Canadian firms maintain their competitive position in the U.S. market despite the stronger Canadian dollar. Also, the fact that China has traditionally not been a major exporter of products such as minerals, petroleum products, and chemicals has limited import competition in those market segments. Canada s share of U.S. imports has declined significantly over time across a range of industries. (See Chart 12.) The largest decline has occurred in the construction industry. This industry has limited tradability because it consists of skilled labourers working on distinct projects within a limited geographic region. As such, Canada s construction exports to the U.S. have never been particularly large. In fact, Canada ranks 63rd in the world in terms of construction exports, accounting for less than 0.2 per cent of the total. 16 Chart 12 Canada s Share of U.S. Imports has Fallen in Most Industries (percentage-point difference in Canadian share of U.S. imports, 2011 versus 2001) Construction Wood products Paper products Furniture Forestry and logging Printing Animal production Plastics and rubber products Fabricated metal products Textile mills Sources: U.S. Department of Commerce; The Conference Board of Canada. Unfortunately, because of data limitations, we do not know to whom Canada has lost market share in U.S. construction, but likely candidates include countries with lower labour costs; labour is a significant input into construction activity. As well, countries that specialize in construction exports, such as South Korea, Germany, and China, are likely candidates. Since construction workers and tradespeople are not covered by the NAFTA professional workers provisions, Canadian construction companies and workers do not benefit from special consideration. Thus, they are generally competing on the same terms as companies based in other countries. Canada has also lost significant market share in the U.S. in forestry products, and this may come as a surprise to some; Canada has 10 per cent of the world s forests. 17 A variety of factors, including the rise in value of the Canadian dollar, increased competition from emerging markets in particular market segments, and the collapse in residential construction in the U.S. have all contributed to the decline in Canada s share of U.S. wood products imports. Trade policies in both countries have also played a role. For example, Canadian policy generally limits exports of raw logs harvested from Crown lands, but not all countries have similar provisions. As well, the 16 Derived from the UN Services Trade Database. 17 Natural Resources Canada, Forests.

11 The Conference Board of Canada 11 softwood lumber agreement between Canada and the U.S. can place quota restrictions on softwood lumber exports from Canada to the U.S. under certain market conditions. Again, other countries do not face these restrictions. In the case of the paper products industry, a number of trends are apparent. First, Canada s loss of market share is partly due to our product mix. Newsprint accounts for an outsized share of Canada s paper exports and U.S. demand for newsprint has declined steeply due to the shift in advertising and circulation to digital formats. As such, Canada s strong focus on newsprint has meant that U.S. imports of paper products from Canada have shrunk by more than its imports from other countries. As well, Canadian paper makers have faced new competition from emerging market competitors based in warmer climates. It is telling that Canada has lost market share in the U.S. to countries such as Brazil and Indonesia, which use fast-growing eucalyptus to produce lower-cost fibre. The shift in production of many manufactured goods to emerging markets has also meant that the paper packaging is being imported from those markets, rather than being made in North America. Furniture manufacturing and printing are two other areas where Canada s loss of market share in the U.S. has been substantial. Furniture manufacturing is a labourintensive business, consisting of small production runs of many different products. This has resulted in a shift in production to countries with lower labour costs, such as China and Vietnam, particularly for lower-cost items. In the case of printing, high-volume products with long lead times, such as books, are increasingly being printed elsewhere, although time-sensitive and low-volume products are still generally published close to their final market. Again, China is the country to which Canada has ceded the most market share in the U.S. In summary, emerging markets particularly China are taking away market share from Canada in the U.S. market. (See Chart 13.) Since 2000, China s share of U.S. imports has been steadily growing, and China surpassed Canada in 2007 to become the largest source of merchandise imports into the U.S. As a result, Canadian Chart 13 China Has Captured Market Share in the U.S. From Canada (percentage share of U.S. merchandise imports) China Canada Sources: U.S. Department of Commerce; The Conference Board of Canada. businesses are increasingly seeking business in new markets. The loss of market share in the U.S. is being offset by rising trade elsewhere. Canadian Exports to the Rest of the World The massive expansion of international trade over the past 20 years owes much to the successive rounds of multilateral trade negotiations at the WTO, which lowered trade barriers and opened new markets. They allowed Canadian companies to compete in new foreign markets with a wider range of goods and services. With the U.S. economy experiencing a slow economic recovery and the eurozone ensnared in a sovereign debt crisis, Canada has engaged more deeply with other countries to counterbalance the weakness evident in both of these traditional trading partners. Indeed, most Canadian industries have become less dependent on the U.S. over the last decade. (See Chart 14.) Commodity-based industries have experienced some of the largest swings. Growth in global demand for many products such as agricultural and food products, forest products, metals, and energy has largely been driven by emerging markets in the past decade. Canada s trade in these products has followed market opportunities. For example, Canada s key exports to China include mineral products (such as nickel, coal, potash, copper, and iron ore), pulp, lumber, and canola products. Canadian exports to China of other products such as chemical products, machinery, and aerospace equipment have also grown in recent years. In fact, growth

12 12 Walking the Silk Road December 2012 Chart 14 Most Industries Have Become Less Dependent on the U.S. (percentage-point difference in the share of Canadian exports going to non-u.s. destinations, 2011 versus 2001) Construction Wood products Computer and electronic products Fishing and hunting Mining (except oil and gas) Insurance Machinery Miscellaneous manufacturing Printing Electrical equipment and components Sources: Industry Canada; UN Services Trade Database; The Conference Board of Canada. in Canadian exports to China has been sufficiently large that Canada s trade deficit with China has changed little since 2008, despite our rising levels of Chinese imports. Our exports have also shifted away from the U.S. in the computer and electronic products industry. In this case, much of the shift has been driven by a single company Research in Motion. Although the company is currently experiencing difficulties, its supply-chain structure has affected Canada s trade statistics noticeably over the past decade. It has established major assembly plants in Mexico and Hungary. Not coincidentally, much of the shift in our export share has been to those two countries. Similarly, the export shift in the insurance industry reflects the business decisions of Canada s largest insurers. Companies such as Sun Life, Manulife Financial, and Great-West Life are increasingly focusing on Asia as a source of growth. Many parts of Asia are underserved by insurance providers, and growing wealth in many countries makes Asia an attractive market. For example, Manulife Financial has operations in nine Asian countries, and 34 per cent of Manulife s core profit came from its Asian division in Sun Life has also expanded aggressively in both China and India over the past decade. 18 Reuters, Manulife Expands ASEAN Reach With Cambodia Office. In one major exception to Canada s general movement away from the U.S. market, the financial services industry has increased its focus there in recent years. The Canadian banking system is widely considered the safest in the world, ranking as the world s soundest for the past five years, according to the World Economic Forum. 19 The economic crisis significantly weakened the U.S. banking sector, with 25 U.S. banks declared insolvent in 2008, 140 in 2009, 157 in 2010, and 92 in Canadian banks have taken advantage of their relative health to increase their presence in the U.S. market. In fact, Canadian banks have made more than 100 acquisitions globally since the economic crisis. 21 Despite the strength of the Canadian dollar, our exports in a number of industries, including mineral products, medical supplies, food, chemicals, and machinery have risen over the past decade. In summary, Canadian exporters in most industries are diversifying away from the U.S. market toward emerging markets. The strength of the Canadian dollar is likely contributing to this trend. More broadly, despite the strength of Canadian dollar, our exports in a number of industries have experienced robust growth over the past decade. (See Chart 15.) Some of the export gains can be attributed to higher prices, particularly in the mining, oil and gas extraction, and petroleum products industries; however, prices are not the sole cause. For example, many services industries have experienced robust growth in exports in the past 10 years. As well, exports have increased even for a variety of manufacturing industries, such as medical supplies, food, chemicals, and machinery. In short, a strong dollar has not prevented these industries from experiencing trade success. 19 World Economic Forum, Global Competitiveness Report, 2008, 2009, 2010, 2011, and Wikipedia.org, List of Bank Failures in the United States (2008 Present). 21 Pasternak and Alexander, Canadian Banks on Hiring Spree as Global Peers Slash Jobs.

13 The Conference Board of Canada 13 Chart 15 Financial Services and Mining Are Key Sources of Canada s Export Growth (percentage change, 2001 to 2011) Financial services Mining (except oil and gas) Petroleum products Computer and information services Oil and gas extraction Communications services Other business services Crop production Insurance services Primary metal manufacturing Conclusion Sources: Industry Canada; UN Services Trade Database; The Conference Board of Canada. Canada s trade patterns have shifted markedly over the last decade. Although the U.S. remains Canada s largest trading partner for now and for the foreseeable future, Canada s ties with the U.S. have been shrinking in importance. In fact, the value of Canada s bilateral trade with the U.S. has changed little in the past 10 years, while our trade with other countries has nearly doubled. At the same time, our export strengths have shifted away from transportation equipment, forest products, and electronics toward professional services, as well as products derived from and related to our natural resources, such as minerals, oil, petrochemicals, metal products, mining machinery, and food products. Although the strength of the Canadian dollar is an easy explanation for the declining importance of many manufacturing industries, in reality, several factors are driving this trend. They include the general decline in barriers to trade, changes in the relative prices of many goods and services, and variations in the trade mix across countries. Perhaps most important has been the growing role of emerging markets in the global economy. China has become a large and growing force in international trade. As a result, North American trade patterns have realigned, as Canada, China, and the U.S. have developed a new trading equilibrium. Canada has lost market share to China in industries such as textiles and apparel, electronics, furniture, and plastics; however, we have gained an important new market for some of our key export products. In the last decade, China has solidified its position as Canada s second-largest trading partner, as both imports from and exports to China have grown steadily. China the workshop of the world has a large industrial base and a vast labour pool, whereas Canada has natural resource wealth and advanced professional services industries, such as engineering, financial services, and insurance. Both countries are playing to their strengths through trade specialization. The evolution of Canada s trade patterns over the last decade has not been without its challenges. Some industries have grown in importance, while others have struggled or declined. This transition has naturally led to a search for answers and possible policy responses. If we understand that the emergence of China not the strong dollar is the key cause, we must also understand that we in Canada have a very limited ability to change that fact. In this situation, the appropriate response is to harness this force to maximize our benefit from it. With that in mind, a number of policy implications emerge from this report. They include the following. The dollar is a red herring. Focusing on the value of the dollar as a key cause of Canada s changing trade patterns, and thus a tool to change them, is counterproductive. Many of the changes that happened in the past decade would have occurred regardless of the value of the dollar, although the dollar s strength has likely accelerated the pace of the transformation. As well, Canadian policy-makers have very limited influence on the value of the currency. Thus, managing the value of the Canadian dollar would be difficult and unlikely to produce the desired revival in some industries. Follow the money. Although the U.S. remains our largest trading partner and will continue to be so in the foreseeable future, our trading interests have diversified. Canadian businesses are increasingly focusing on other markets, including high-growth markets such as China, Brazil, and India. Thus, trade negotiations with those countries should be among Canada s top foreign trade priorities. As well, the next generation

14 14 Walking the Silk Road December 2012 of trade agreements should cover a broader spectrum of goods and services, reflecting the shift in Canada s trade strengths. Our strengths are changing. Canada is shifting away from some of its traditional export strengths in manufacturing toward professional services and industries related to our natural resource wealth. Concurrently, trade between Canada, the U.S., and China is evolving toward a new and dynamic equilibrium based on trade specialization. Therefore, policy should be focused on adaptation and promotion strategies rather than on protection. Helping businesses in challenged industries adapt to their new competitive environments will be more productive than trying to shelter them from changing market conditions. At the same time, promotional efforts should be focused on key areas of strength and new areas of growth. Canadian businesses can also draw some lessons from the changes that have occurred. They include the following. Thriving with a strong dollar is possible. To a certain extent, the strength of the Canadian dollar reflects our relative success. Rising commodity prices have improved Canada s terms of trade (the ratio of export prices to import prices), while our stable financial system and the fact that our economic growth has outperformed that of most of our peers are attracting investment. For some industries, such as financial services and insurance, the strong dollar has supported their global expansions. For others, it has challenged their cost competitiveness. However, even in this circumstance, firms may succeed by taking advantage of the lower price for imports afforded by the strong dollar to expand their use of international value chains and invest in imported equipment. Behind every threat is an opportunity. Freer trade does lead to more competition from businesses based in other countries. However, more competition ultimately forces domestic firms to increase their productivity and focus on their core competencies. In short, it spurs Canadian businesses to produce higher quality goods and services at lower costs, ultimately making them more competitive on the world stage. Canadian businesses are then better able to take advantage of the new market opportunities that present themselves through Canada s improved access to much larger foreign markets. Adaptation is key. If there is one constant in the modern economy, it is change. If businesses keep doing things the same way because that is the way they have always done them, they are likely to eventually fail. Adaptation of what we produce, how we produce it, and whom we sell it to is a key part of managing the twin challenges of increased global competition and a strong Canadian dollar. One way to adapt is to better integrate emerging markets into the supply chains of Canadian businesses. Previous Conference Board research on value-added trade highlighted how Canada has few supply chain links with countries other than the United States Armstrong and Burt, Adding Value to Trade Measures: Understanding Canada s Role in Global Value Chains. > > Tell us how we re doing rate this publication.

15 The Conference Board of Canada 15 Appendix A Bibliography Armstrong, Maxim, and Michael Burt. Adding Value to Trade Measures: Understanding Canada s Role in Global Value Chains. Ottawa: The Conference Board of Canada, Audet, Kristelle, and Michael Burt. Adding Value to Trade Measures: Moving Beyond Being Hewers of Wood. Ottawa: The Conference Board of Canada, Beckman, Kip. What Might Canada s Future Exports Look Like? Ottawa: The Conference Board of Canada, Foreign Affairs and International Trade Canada. Negotiations and Agreements. trade-agreements-accords-commerciaux/agr-acc/ index.aspx?view=d. Macdonald, Ryan. Not Dutch Disease, It s China Syndrome. Ottawa: Statistics Canada, Maier, Philipp, and Brian DePratto. The Canadian Dollar and Commodity Prices: Has the Relationship Changed Over Time? Discussion Paper Ottawa: Bank of Canada, Pasternak, B. Sean, and Doug Alexander. Canadian Banks on Hiring Spree as Global Peers Slash Jobs. The Financial Post, September 10, Reuters. Manulife Expands ASEAN Reach With Cambodia Office. June 28, article/2012/06/28/manulife-cambodiaidusl2e8hs8cr Statistics Canada. International Travel Cat. No x. Ottawa: Statistics Canada, Wikipedia.org. List of Bank Failures in the United States (2008 Present). September 21, the_united_states_%282008%e2%80%93present%29. World Bank. Commodity Markets. EXTDEC/EXTDECPROSPECTS/0,,contentMDK: ~menuPK: ~pagePK: ~ pipk: ~thesitepk:476883,00.html (accessed October 2012). Natural Resources Canada. Forests. August 5,

16 16 Walking the Silk Road December 2012 World Bank. Tariff Rate, Applied, Simple Mean, Manufactured Products (%). indicator/tm.tax.manf.sm.ar.zs. World Trade Organization. International Trade Statistics 2011, Table A1. statis_e/its2011_e/its11_appendix_e.htm. World Economic Forum. Global Competitiveness Report. World Economic Forum, 2008, 2009, 2010, 2011, and

17 The Conference Board of Canada 17 Appendix B Detailed Canadian Trade Statistics Table 1 Trends in Canadian Imports, by Industry U.S. share of Canadian imports (per cent) Ratio of imports to demand (per cent) Difference Difference Primary goods Crop production Animal production Forestry and logging Fishing and hunting Support for agriculture and forestry Oil and gas extraction Mining (except oil and gas) Utilities Manufactured goods Food Beverage and tobacco products Textile mills Textile product mills Clothing Leather and allied products Wood products Paper products Printing and related support activities Petroleum and coal products Chemicals (continued... )

18 18 Walking the Silk Road December 2012 Table 1 cont d Trends in Canadian Imports, by Industry U.S. share of Canadian imports (per cent) Ratio of imports to demand (per cent) Difference Difference Manufactured goods Plastics and rubber products Non-metallic mineral products Primary metals Fabricated metal products Machinery Computer and electronic products Electrical equipment, appliances, and components Transportation equipment Furniture and related products Miscellaneous manufacturing Services Transportation Travel Communications Construction Insurance Financial services Computer and information services Other business services Sources: Industry Canada; UN Services Trade Database; U.S. Department of Commerce; The Conference Board of Canada. Table 2 Trends in Canadian Exports, by Industry Canadian share of U.S. imports (per cent) Share of Canadian exports (percentage-point difference, 2011 versus 2001) Difference U.S. E.U. Rest of world Primary goods Crop production Animal production Forestry and logging Fishing and hunting Support for agriculture and forestry n.a. n.a Oil and gas extraction Mining (except oil and gas) Utilities n.a. n.a (continued... )

19 The Conference Board of Canada 19 Table 2 cont d Trends in Canadian Exports, by Industry Canadian share of U.S. imports (per cent) Share of Canadian exports (percentage-point difference, 2011 versus 2001) Difference U.S. E.U. Rest of world Manufactured goods Food Beverage and tobacco products Textile mills Textile product mills Clothing Leather and allied products Wood products Paper products Printing and related support activities Petroleum and coal products Chemicals Plastics and rubber products Non-metallic mineral products Primary metals Fabricated metal products Machinery Computer and electronic products Electrical equipment, appliances, and components Transportation equipment Furniture and related products Miscellaneous manufacturing Services Transportation Travel Communications Construction Insurance Financial services Computer and information services Other business services n.a. = not available Sources: Industry Canada; UN Services Trade Database; U.S. Department of Commerce; The Conference Board of Canada.

20 ABOUT THE GLOBAL COMMERCE CENTRE The Global Commerce Centre aims to help Canadian business leaders understand global shifts and their practical implications. The Centre brings together business and government leaders in an off-the-record forum to discuss successful trade and investment strategies. The Centre s independent, evidence-based reports propose effective business solutions and policies for improving Canada s trade and investment performance. 1 Champion Members Export Development Canada Foreign Affairs and International Trade Canada Lead and Partner Members Business Development Bank Canada Economic Development Canadian Commercial Corporation Industry Canada Ministère des Relations Internationales, de la Francophonie et du Commerce Extérieur Nova Scotia Ministry of Economic and Rural Development and Tourism Ontario Ministry of Economic Development and Innovation Scotiabank Sun Life Financial Inc. Western Economic Diversification Canada 1 These organizations do not necessarily endorse the research conclusions of this briefing. Walking the Silk Road: Understanding Canada s Changing Trade Patterns by Michael Burt and Lin Ai About The Conference Board of Canada We are: The foremost independent, not-for-profit, applied research organization in Canada. Objective and non-partisan. We do not lobby for specific interests. Funded exclusively through the fees we charge for services to the private and public sectors. Experts in running conferences but also at conducting, publishing, and disseminating research; helping people network; developing individual leadership skills; and building organizational capacity. Specialists in economic trends, as well as organizational performance and public policy issues. Not a government department or agency, although we are often hired to provide services for all levels of government. Independent from, but affiliated with, The Conference Board, Inc. of New York, which serves nearly 2,000 companies in 60 nations and has offices in Brussels and Hong Kong. Publication E-copy: Complimentary 255 Smyth Road, Ottawa ON K1H 8M7 Canada Tel Fax Inquiries The Conference Board, Inc. 845 Third Avenue, New York NY USA Tel Fax The Conference Board Europe Chaussée de La Hulpe 130, Box 11, B-1000 Brussels, Belgium Tel Fax The Conference Board Asia-Pacific 2802 Admiralty Centre, Tower 1, 18 Harcourt Road, Admiralty Hong Kong SAR Tel Fax The Conference Board of Canada* Published in Canada All rights reserved Agreement No *Incorporated as AERIC Inc. For more information, please contact us at the numbers listed above or contactcboc@conferenceboard.ca. This publication is available on the Internet at Forecasts and research often involve numerous assumptions and data sources, and are subject to inherent risks and uncertainties. This information is not intended as specific investment, accounting, legal, or tax advice. conferenceboard.ca