The Dutch disease and Canada

June 6, 2012     
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Thomas Mulcair, the new leader of the NDP in Canada, has taken a lot of flak recently for suggesting that Canada is suffering from the “Dutch” disease. In its simplest form, Mulcair argued that increasing oil sands production in Alberta has contributed to propelling the value of the Canadian dollar upwards relative to the US dollar, and as a result has negatively impacted the competitiveness of the manufacturing sector in the country.

While I am not a fan of the oil sands, my advice to Mr. Mulcair is that he should revisit his position and get his facts right.

First of all, the Canadian dollar has acted like a petro-currency for the past 12 years. Since 2000 there has been a significant positive correlation between the value of the Canadian dollar relative to the US dollar and crude oil prices. When crude oil prices have risen, so too has the value of the Canadian dollar. As for cause and effect, it is clear that the value of the Canadian dollar does not drive oil prices.

This correlation also should destroy the myth that a strong Canadian dollar during the past five years is indicative of investor confidence in the stability of the Canadian economy, the strength of the financial regulatory system, and the fiscal prudence of the Canadian Government. When crude oil prices rise, indeed, when commodity prices rise, investors move into Canada to acquire resource assets. Canada is viewed externally as a resource economy, and investor sentiment, and with this, the value of the Canadian dollar move in line with commodity prices.

Higher oil prices have attracted increasing investment in the oil sands, but it has been the higher oil prices that have driven the value of the Canadian dollar.

Second, the belief that the sharp appreciation of the Canadian dollar since 2002 has destroyed the competitiveness of the manufacturing sector displays economic knowledge that does not extend beyond a typical Economics 101 course. (Unfortunately, what we teach in Econ 101 is not that much different from what we teach in very advanced graduate courses in economic theory - economists do not understand competition either.)

There is more to competitiveness than costs. Creativity, ingenuity and the willingness to take risks are much more critical. The manufacturing sector in Canada has been in decline because of a major gap in the creative talents and the desire to take risks among our business leaders in this sector.

Outside of the resource sector, and to a lesser degree real estate and Quebec Inc., risk taking is a lost art in Canada. And most large and mid-sized Canadian manufacturing companies are run by bureaucrats content with their market positions and receptive to the demands of their boards to lay low and avoid risks. The appreciation of the Canadian dollar cannot explain the disappearance of a Canadian presence in the steel industry.

If the Dutch suffered from a similar problem - the absence of entrepreneurship and innovation - than Canada does indeed suffer from the Dutch disease. But I suspect that we suffered from this disease long before the Dutch did.

It is easy to blame the oil sands for the weak performance of the manufacturing sector. But the blame should be placed directly at the feet of Canadian business and the business schools that supposedly train these people.

The opinions expressed in this blog are personal and do not reflect the views of either Global Brief or the Glendon School of Public and International Affairs.

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