What will Canada’s new government and new focus mean for the country’s trade and exports, asks Eleanor Wragg.
With sluggish domestic demand, plummeting commodities and historically low energy prices, there’s little in the way of good news for the Canadian economy, which has just seen its growth projections slashed by the IMF to 1%, down from 2.2% previously. Exports to neighbour and main trading partner the US have slumped – October data shows a 2.8% drop versus September, and a fall of almost 4% versus the same period last year – and the continued freefall of key exports such as oil, coal and metals has hurt both Canada’s producers and its currency.
But amid the doom and gloom, could a new narrative be emerging? A lower Canadian dollar, currently at 11-year lows against the US dollar, has made once-shuttered exporting sectors profitable once more. Meanwhile, thanks to a change in focus by the new Trudeau government from basic materials to innovative tech-based industries and a slow but steady diversification into new markets, the tide of trade might just be shifting for Canada.
“When you look at the numbers for trade in Canada this year, they’re not very dramatic at all. Our overall figure for the year, including accommodation of volume shipments and price fluctuations, is flat,” says Peter Hall, vice-president and chief economist of Export Development Canada (EDC). He blames foul weather in the United States during the first quarter, which caused inventory fluctuations, as well as a West Coast port strike in the US, which hobbled activity in the first half of the year. The third quarter, however, seemed to paint a different picture, with EDC figures showing trade was up at an inflation-adjusted annualised rate of 9.4%. “The fundamentals have been strong for anything outside of the energy and base metals industries,” explains Hall. “The mining and the oil and gas industries are really in a tailspin at the moment, and they have been thrust into a two-year period of reconciliation. But flip over to the other industries and it is almost bonanza time for them.”
Thanks to a lower Canadian dollar, or “loonie” – buying just 73 US cents most recently, down from parity in 2013 – margins for auto exporters have grown. Add to this the phenomenal demand in the US, which is currently at 10-year highs after sales rose at an annualised pace of 18.24 million in October, the Canadian car industry looks set for growth. Indeed, Ford, Fiat Chrysler, Honda and Toyota have all either extended the life of existing facilities in Canada or begun to expand them. It’s not just original equipment manufacturers, either. Parts maker Linamar recently announced a US$500mn investment in a plant in Ontario, which will create 1,200 jobs “developing and producing components for the next generation of fuel-efficient cars”, according to the company.
“In the last year and a half, there has been a renaissance in the auto industry,” says Hall. He is also optimistic about the machinery and equipment sector, as capacity pressures in the United States create opportunities for Canadian firms to step in, while renewed investments in both the assembly of aircraft and in the significant parts industry mean good news for the aerospace sector, too.
“We are seeing a rebalancing – both in terms of the exporting industries and from the strong domestic growth we’ve seen over the last number of years – to it now being the external trade sector of the Canadian economy that is posting growth,” says Hall.
A trade hub for the Americas?
In the years following NAFTA, Canadian businesses and politicians alike have voiced concerns about the southward drift of investment by manufacturers to the southern United States and Latin America. “With the Trans-Pacific Partnership potentially changing the domestic content rules, there is increased concern, particularly among smaller producers, that there will be much more vulnerability than there already is inside of the NAFTA agreement,” Hall adds.
But there is increasing evidence of a trend among Latin American exporters, keen to tap into the vast US market, who are looking to Canada for help to grow their business. When Guillaume Légaré, the National Bank of Canada’s director for South America, arrived in Brazil five years ago, the NBC was supporting flows from Canada to Brazil, assisting Canadian clients looking to invest or establish a local presence in the country. “This will still be important, but I think now we will see much more interest in the flow from Brazil to Canada and the US,” he says. One such example is Biolab Farmacêutica, a 100% Brazilian-owned company that ranks among the largest in the healthcare market in its home country. It recently announced the opening of an R&D centre in the Greater Toronto area. While the initial investment of approximately C$8mn in equipment, facilities and technical staff won’t move the dial by itself, it may be the first of many, Légaré believes. This can’t come too soon: according to Credit Suisse’s calculations, there was a net outflow of C$73bn last year for mergers and acquisitions, both completed and announced, as Canadian companies scrambled to invest abroad due to plummeting margins in the country’s energy sector.
But for Latin American firms, Canada is a safe bet, with its stability and predictability a key attraction. Indeed, Forbes and Bloomberg both rank Canada as the best country in the G20 for business, while the Economist Intelligence Unit (EIU) places Canada top among the G7 to do business over the five-year period 2014-2018. The country’s banks were recently ranked the world’s soundest by the World Economic Forum for the eighth year in a row – beating America’s banking system, which ranked 39th out of 140 countries. Perhaps most obviously, with ever-tighter lead times for supply chains, Canada makes sense as its major manufacturing centres are close to the giant consumer market of the US.
“There are several Brazilian companies looking to internationalise, and many want to start exporting to the US market. These companies are looking for new ways to grow and they probably have the US in mind, but when they hear about what Canada has to offer, as well as its specialised workforce, it becomes a very interesting proposition,” says Légaré. Naturally, new flows mean new financing, and the NBC believes that the growth of open-account business with North America could be a “significant trend” in international trade from Brazil.
New sectors, new markets
“For a number of years now, there have been discussions both around our dependence on the US and how to deal with what are often referred to as structural issues in the Canadian export space, which include a lack of diversification both at market level and at product level,” says Silvia Brudar, vice-president of product management and business planning, trade services and financial institutions at Scotiabank. “This problem has been recognised for decades and we have been learning, I think as a nation, how to do a better job of making use of our knowledge, natural resources and educated workforce internationally and at the same time leveraging our uniquely strong banking system and currently low Canadian dollar.”
Now, the commodities slump is forcing Canada’s provinces to take action. New Brunswick, which was expected to experience a 15% overall drop in energy exports by the end of last year, has managed to reduce the overall impact thanks to the unprecedented strength of its fisheries sector, like Nova Scotia, whose energy exports were forecast to tumble by a whopping 69% in 2015, but which will only see an overall decline in total exports of 4%. “Seafood exports have been strong as a result of higher prices, a lower dollar and strong demand, particularly from Asia,” says EDC’s Hall, who says the two provinces as well as Prince Edward Island are all seeing double-digit growth in agri-food exports this year. And it’s not just the Atlantic seaboard that is doing well. Landlocked Saskatchewan’s agri-food exports, which roughly equal the value of its energy exports, are set to rise 10% in 2015, while fertiliser exports will increase by 38%. In Manitoba, shipments of pharmaceutical products will provide the greatest positive contribution to exports.
According to EDC calculations, Canada’s share of trade with non-OECD countries has grown from 5% of the entire book to 12% over the last decade. “That’s a sea-change; that’s a very big structural shift,” says Hall. “It has kicked off something and given Canadian exporters a very big appetite for the high-growth and admittedly higher-risk trade with the emerging markets.”
“We are seeing a diversification towards Asia, towards the developed world, but not as fast as one would hope,” adds Scotiabank’s Brudar. “There are pockets where success has been higher. One bright spot is alternate energy solutions. Canada has a clean energy advantage.” She adds that she believes that there are “tremendous” opportunities in this space.
Questions remain as to whether capacity exists in the financial sector to support this changing trade landscape. Financing around the world is entering into a period of tighter constraint. With the Fed rolling back quantitative easing and raising interest rates, and with the financial sector undergoing regulatory tightening, there’s likely to be less access to capital in the coming years compared with most growth cycles. “We see a suggestion of a financing constraint,” says the EDC’s Hall. But that’s not the only worry for Canada. Like many global economies, Canada has been in an excess capacity situation in terms of overall industrial production over the last number of years, because of weak demand. “That has lulled the entire world, including Canada, into a sense that not much investment is needed, so in effect we have been under-investing. Financing constraints may be there, but our own investment constraints might be our worst enemy as well,” points out Hall.
Add to that the worrying statistic that the proportion of the Canadian population aged 15 to 54, which represents the bulk of its workforce, will be going into secular decline between 2016 and 2021, and there may well be labour shortages on the horizon for Canada – a concern if the country is going to hold its own against potential competitors for manufacturing investment.
“Given that there is a wave of investment coming, I worry that we do not have the labour capacity to actually sustain this over a longer period of time,” says Hall. For now, job losses in the energy and mining sector may free up enough skilled labour to prop up the manufacturing sector, but EDC is counselling businesses to explore a number of different strategies to enable them to cope with the potential lack of human resources.
More also needs to be done for Canada’s smaller exporters, as Scotiabank’s Brudar points out. The majority of Canada’s small businesses export to the US for the simple fact that it is easy. “It’s more difficult to take risks in a foreign market where you don’t understand what you are dealing with, so that is where our gap lies. We need to raise the comfort level for our SMEs, making it easier for them to access foreign markets. This is a major focus for banks,” she says.
The new Trudeau government, which vowed to “re-energise co-operation on reducing impediments to trade and commerce” before election, aims to push the economy toward knowledge and innovation. Examples include water purification, wind turbines, solar panels, and electric vehicles. “In alternative energy, British Columbia and Québec have massive hydropower potential, and Alberta has solar potential, so for banks it is a case of looking at all of that power across the country and figuring out how we can help these companies succeed in the export space,” says Brudar.
A cursory glance at Alberta, the so-called “Texas of the North”, is enough to appreciate that all is not well for Canada. With 185,000 oil job lay-offs forecast by Q2 this year, the province, which accounted for 87% of Canada’s new net jobs until recently, is a striking representation of the pain the country’s commodity exporters are feeling. But with double-digit growth in fertilisers, aerospace, consumer goods, automotive, advanced technology and industrial machinery, the pace of trade in non-commodity sectors is picking up. Altogether, exports are forecast to increase by 8% this year, although it remains to be seen if there will be capacity – both in terms of skills and finance – to sustain this shift in the balance.