PARLIAMENT HILL—Call it Dutch disease if you like, but the real problem facing Canada’s economy isn’t a high dollar gutting the manufacturing sector, it’s an ongoing fall in productivity.
That’s the word from the OECD in its 2012 economic survey of Canada released Wednesday.
There are other threats to Canada’s ongoing prosperity, including burgeoning household debt and an overheated Toronto condo market that could indicate a real estate bubble.
But those problems are in the midst of being addressed and likely on the mend, while the broader issues of Canada’s falling productivity and lack of innovation are not, said said Peter Jarrett, division head for Canada in the OECD Economics Department.
Canada’s poor productivity is related in part to investment moving away from value-added sectors like manufacturing towards resources sectors like oil, he said.
“And because this is largely depleting resources, then when you expand that sector, you’re going to have to dig deeper and further and it is going to take more labour and capital to get those resources out of the ground,” he said.
Hence, productivity goes down further.
The OECD favours a carbon pricing system that would require resource companies pay the cost of externalities like air pollution, a move that could slow the sector and address what some call Canada’s affliction of Dutch disease—the economic challenge of a high dollar due to resource exports that then makes a country’s manufactured goods too expensive for export markets.
But if Canadian manufactures don’t create innovative products that attract international buyers, a high dollar hardly matters. While companies like RIM have been market leaders in the past, overall, few Canadian businesses reside at the higher end of the value chain.
That’s in part because Canadian businesses do significantly less research and development compared to countries like Korea and Japan, notes the OECD report.
Canadian businesses invest just 1 percent of GDP in R&D, while Israel tops the chart at over 3.5 percent and Korea and Japan top 2.5 percent. The U.S. also tops 2 percent, according to the OECD.
Innovation and productivity go hand in hand as countries with high innovation are typically creating products at the higher end of the value chain while making efficient use of human and financial resources.
Countries with high productivity also generate greater wealth per capita, often reflecting robust, well-developed economies.
Compared to the U.S., Canada’s productivity looks particularly poor. While our neighbour to the south has increased productivity 30 percent over the past 20 years, Canada has become less productive since 2002, notes the report.
Meanwhile, income has risen in the resource-rich west and fallen in Ontario and Quebec, where manufacturers are still adapting to high competition due to the loonie’s rise.
Downward Slide On Productivity
Canada’s downward slide on productivity has economists worried about the long-term economic impacts.
“It worries us too,” said Alexandra Bibbee, head of OECD’s Canada desk.
While resources are doing very well at the moment, it’s a volatile sector, said Bibbee, and the government must anticipate future downturns.
“We want the government to look ahead, to take a long-term view,” she said.
That includes making the adjustments necessary to spur innovation.
While Canada has a generous system of tax credits to encourage companies to invest in R&D, there appears to be little bang for the buck, in part because the system favours smaller companies disproportionately, in the OECD’s view.
Companies not investing in themselves is also a critical problem.
A 2011 expert panel’s report advised the government to use procurement to spur innovation while simplifying the tax credit system—recommendations it accepted.
Jarrett agreed procurement was a good way to encourage innovation, and a much better reason to award contracts than choosing companies because of where they are located in an attempt to spur regional economies.
But as the government pursues robust trade deals with major players, particularly the Canada-EU free trade deal that includes municipal procurement, those options narrow. Trade deals can require Canada to treat foreign competitors on equal footing with domestic firms.
The OECD report also recommended Canada scale its tax credit system back slightly and put more money into targeted grants, something the U.S. has done to good effect.
Some economists, including Harvard’s Michael Porter, have argued Canada should work to create innovation hubs—collaborative centres where a network of university researchers, venture capitalists, businesses, and government agencies work in tandem to create cutting edge products.
Such efforts are credited in part with creating international juggernauts like now-defunct Nortel.
But those initiatives are hit or miss, said Bibbee, and there are more examples of very expensive failures than success stories.
Other economists, like Jim Stanford with the Canadian Auto Workers, argue that countries such as Korea and Germany have done well in their efforts to create successful sectors and Canada should learn from that.
The report praised Canada’s navigation through the global economic downturn, a finding Finance Minister Jim Flaherty welcomed in his brief comments to reporters on Wednesday.
“I thought the comments about our economic performance were laudatory and I appreciate that from the OECD,” he said.
Flaherty did not respond to questions about other aspects of the report.
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