OTTAWA, June 26, 2012 - The reasons for the ups and downs in the fortunes of Canada's manufacturing sector are much more complicated than proponents of the Dutch Disease argument would have us believe, according to a new report released today by the Macdonald-Laurier Institute.
Brian Lee Crowley, Managing Director, and Jason Clemens, Research Director for the Macdonald-Laurier Institute, point out in, Inconvenient Truths: What US and Asian Manufacturing Tell us About Canadian Manufacturing and the Dollar, that similar falls and rises in manufacturing employment, for instance, have also occurred in several nearby US states with comparable manufacturing sectors. Yet these same states did not have to wrestle with a rising dollar. This shows that there is a tenuous relationship, at best, between the health of the manufacturing sector and the currency.
Ontario's decline in manufacturing employment began in 2005, with the number of jobs in the sector falling by a little more than one-quarter. Nearby U.S. states like Michigan, Ohio, and Indiana, experienced a fall in manufacturing employment of between a third and a half starting a little earlier in 2000 through to 2009. In other words, Ontario's decline was actually less than that experienced by the US states even though the Canadian dollar was appreciating during part of this period.
According to Crowley and Clemens, while there is a relationship between changes in the value of the currency and the performance of the manufacturing sector, there is no compelling reason to conclude that the rise in the Canadian dollar is the sole, or even main, explanation for the decline in manufacturing employment in Ontario prior to the recent recession. Moreover, post-recession (i.e. between 2009 and 2011), manufacturing employment in Ontario rose by 4,400 at the same time that the currency appreciated by 15 per cent.
Looking beyond job numbers, a second measure of manufacturing health the authors look at is called value-added output, or the value that manufacturers add in the process of producing their products. Again, in a like-with-like comparison with the US states, Ontario's track record generally tracked Michigan and Ohio and to a lesser extent Indiana, another reason to doubt the importance of the value of the currency on the health of the manufacturing sector.
This is not to say that there has not been an overall decline over recent decades in manufacturing employment on either side of the Canada-US border. The key point to remember, however, is that this long-term trend has persisted throughout shifts in the value of both the US and Canadian dollar. The authors point to Asia's rise as a manufacturing power as an important cause of this decline, as many manufacturing jobs shift to low-cost economies in places such as Indonesia, China and South Korea.
In other words, the explanation for what ails Ontario's manufacturing sector is much more complicated than the Dutch Disease theory's focus on exchange rates implies. The changes that Ontario's manufacturing sector has been experiencing, according to the authors, are part of a larger set of changes affecting the global manufacturing sector, changes driven far more by different levels of productivity than by shifting currency values.
To compete within this environment, the authors conclude, Ontario manufacturers must become more productive. Recent improvements in the position of Ontario manufacturing post-recession, despite a rising loonie, indicate that Canadian industry is fully capable of responding to this challenge.
The term "Dutch Disease" comes from the experience of the Netherlands following the discovery of oil and gas in the North Sea in the 1970s. Their currency, the guilder, supposedly rose in response, making the country's other exports, like manufactured products, less price competitive in international markets. The existence of "Dutch Disease" is by no means universally accepted by economists. Federal NDP leader Thomas Mulcair recently relied on the concept, however, when he alleged resource development in Alberta had created conditions similar to the Netherlands', devastating Canada's traditional manufacturing sector. Moreover, Ontario Premier Dalton McGuinty also warned that natural resource extraction in Western Canada is hurting Ontario's manufacturing sector. Institutes such as the Pembina Institute in Alberta and the Paris-based OECD have also recently suggested that Dutch Disease, or some variant, is plaguing Canada.