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General Motors assembly workers and supporters protest GM’s announcement to close its Oshawa assembly plant.REBECCA COOK/Reuters
Robert Asselin is senior vice-president of policy at the Business Council of Canada and a former adviser to two prime ministers.
As we approach the release of the federal budget, Canada is facing three converging and powerful challenges that require a coherent economic and fiscal strategy from the government.
The first challenge is the return of a political economy on a global scale. From the United States to Europe and Asia, countries are confronted with the challenges of national security and climate change with global competition over technological innovation and investment. By now, everyone has heard of the U.S. Inflation Reduction Act. Few should doubt the threat it poses to Canada’s economic competitiveness.
The second is the sustainability of the government’s current fiscal plan. Fast-rising debt-servicing costs, higher inflation for longer and diminishing fiscal firepower as a result of having doubled our federal debt during the COVID-19 crisis will all challenge the federal government’s inclination to ignore the real consequences of unconstrained spending.
The third challenge – largely a consequence of the first two – is the imperative of long-term growth. Without sustained economic growth, both our current account and federal budget deficits will continue to deteriorate, leading to an inevitable decline in Canadians’ living standards.
There are two main drivers of long-term economic growth. One of them is population growth. The government has taken action on this. Increasing high-skilled immigration is to be applauded, but an aggressive immigration policy will only work if we boost the other driver, productivity, thereby raising wages and living standards. The policy trap here is to confuse raising nominal GDP with GDP per capita, the latter being far more important for our living standards.
Increased productivity – output per worker – is the most important driver of economic growth. Recent experience suggests this is very hard to do. We need to pursue measures that will raise productivity in all sectors. In addition, and this is politically more challenging, we need to focus on expanding the sectors that hold the most promise for raising Canada’s productivity.
A country’s industrial composition matters a great deal. Certain sectors generate significantly higher output per employee and can increase productivity at a faster rate. Advanced industries are key to this goal. These sectors combine significant R&D investment and a highly qualified work force.
Sectors that invest heavily in technology and innovation tend to be more productive than others. A country with an advanced manufacturing base using artificial intelligence, robotics, genomic medicine and advanced computation will yield significant productivity gains. This is where the new frontiers of economic competitiveness are being drawn. The political economy of semiconductors fabrication is not the same as the one for manufacturing shoes or T-shirts. One is being developed hastily, the other not so much.
Canada has a significant structural current account deficit in advanced industries, signalling a weakening of our economic competitiveness. It indicates we are not able to generate sufficient income from high-value exports to pay for our imports of advanced goods.
Canada can compete in advanced industries. We should be proud of our Canadian global champions in aerospace, agrifood, energy and automotive, all advanced industries. The problem is we don’t have enough of them.
British cabinet minister Michael Gove stated in a recent speech: “Rather than being an entrepôt, a bazaar and a duty-free exchange, a strong economy must also make, manufacture, create, innovate and shape.” He was referring to the British economy, but this applies just as much to Canada.
This is where modern industrial policy comes into play. It is a high-stakes game because politicians will often use industrial policy to justify all kinds of government interventions that have proven to be ineffective. As former U.S. Treasury secretary Larry Summers observed: “I like industrial policy advisers how I like generals. The best generals are the ones who hate war the most but are willing to fight when needed. What I worry about is the people who do industrial policy love doing industrial policy.”
Targeted policy design and execution are paramount. We need to mobilize our human capital, create a modern science and technology architecture capable of converting intellectual capital into expanding our advanced industries and high-tech manufacturing, build proper transmission channels of public R&D to industry and create a regulatory and tax environment conducive to capital formation. In the current circumstance, the worst policy decision would be to take the easy road of spreading subsidies across sectors and all regions of the country.
Getting to the right policy outcomes is more important than political expediency. Addressing these challenges will require policy work that will go well beyond one budget.
Two weeks of negotiations between the federal and provincial governments and Stellantis have failed to produce a new deal for the NextStar EV battery plant in Windsor, Ont. Ian Lee, an associate professor at Carleton University’s Sprott School of Business, says the economic might of the U.S., coupled with the incentives offered in recent legislation, make it extremely challenging for Canada to compete.
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World entering period of scarcity, meaning Canada won’t be able to spend its way to prosperity
The unexpected pick up in Canadian inflation last month — even if it turns out to be a blip — is a fresh reminder that Prime Minister Justin Trudeau’s government is facing a more perilous economic policy landscape going forward, with difficult trade-offs on the horizon.
The natural economic instinct of this government has been generous budget spending and open international migration.
Yet, Trudeau doesn’t need to look much further than Statistics Canada’s inflation numbers or last week’s call from the G7 for global “de-risking” to see how things are changing.
With the world entering a period of scarcity — from more expensive money to supply constraints — the rationale to juice the nation’s economy is weakening.
The housing crisis is a manifestation of that, as are broader price pressures and the Bank of Canada’s historically aggressive run of interest rate hikes.
Trudeau came to power in 2015 on an anti-austerity platform to reverse his Conservative predecessor’s sluggish growth record which, as the Liberals were quick to remind Canadians at the time, was the weakest since R.B. Bennet was prime minister in the 1930s.
The economics were sound at the time, even if the growth dividend didn’t pay off.
Canada’s economy was demand deficient early in Trudeau’s mandate as commodity prices slumped, while the extra spending helped ease financial stability risks by taking some pressure off the Bank of Canada to stoke growth.
Higher international migration drove gains in labour income and provided support to a housing market that was still largely within reach of affordability. Inflation wasn’t a worry. In fact, the concern for policymakers was it may not have been high enough.
New social programs, meanwhile, allowed the government to make significant strides on equality and redistribution — particularly with respect to lowering poverty.
The Trudeau administration’s weighty policy objectives were synergetic to the economic environment. Policies were rowing more or less in the same direction.
The current post-pandemic environment, though, is no longer as accommodating.
While many policymakers and economists still buy into a moderately optimistic outlook, with continued growth and inflation brought into check, less favourable outcomes are increasingly plausible.
There is a real possibility that inflation and interest rates will remain well above pre-pandemic levels, growth becomes more anemic, budget dynamics worsen and the climate transition proves costly.
Instead of working in concert, the government’s three core economic policy objectives — growth, equity and price stability — could become increasingly in conflict.
For example, increasing immigration is a long-term positive for an economy threatened by aging demographics. And more social spending is typically associated with less inequality.
But higher borrowing costs stoked by large increases in population and government spending will impact disproportionately lower income Canadians and young families, potentially creating divisions and threatening new sorts of inequality.
Add energy transition to the mix and national security issues and the landscape becomes a minefield.
The policy arena will be more ambiguous and the government pulled in multiple directions. Policy paralysis, wasted effort and poor allocation of resources are real risks.
There are certain fundamentals and policy guardrails, however, that can help the government navigate this challenge.
First, policymakers should prioritize growing GDP on a per capita basis and increasing productivity over expanding the overall aggregate economy. Both are important, but the former is where true prosperity lies and where Canada is failing. Masking underlying weakness with gains in national income is just a recipe for stagnant wages. Enhanced productivity also helps dampen inflationary pressures.
Second, toolkits and policy precision matter.
For example, supply side solutions are critical to productivity, but policymakers also need to be cognizant of short-term impacts in an inflationary world. Focusing more on economic migration and temporarily slowing the pace of new entrants to allow housing supply to catch up appears a reasonable solution to the current housing crisis.
Another example is industrial policy, which needs to become more sophisticated. Advanced economies will compete in advanced industries, where there is a concentration of R&D and skilled workers. Quick fixes through corporate subsidies, however, are not the answer. Canada needs a modern science and technology architecture that translates ideas into economic outputs, higher wages and better living standards.
The third guardrail is the most Canadian: be reasonable and pragmatic.
This seems obvious but we should not take this principle for granted, particularly as we rush (rightly) to meet ambitious climate targets. Canada remains a resource economy. The sector pays a lot of bills, keeps our currency stable and government finances flush with cash.
It’s also where any global power we may have as a nation lies. That makes an orderly climate transition paramount.
Theo Argitis is managing partner at Compass Rose Group. Robert Asselin is senior vice-president, policy at the Business Council of Canada.
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