Recent economic news coming out of the United States is not exactly encouraging, and this apparent weakness has raised concerns about the prospects for sustaining the Canadian economy. There is also a certain amount of confusion about the mechanics of how a stumbling U.S. economy will affect Canada.
In particular, some need to be disabused of the belief that growth in the quantities of net exports (exports less imports) is essential for Canadian economic growth.
Net export quantities -- the numbers that show up in GDP -- have generally been counter-cyclical in the past 30 years: boosting output during recessions, and -- except for 1991-2000 -- acting as a drag on growth during expansions. Canadian expansions can be and have been driven primarily by domestic demand. This isn't to say that events in the U.S. don't affect Canada; the point is that a fall in quantities of net exports is not the mechanism by which a U.S. slowdown is transmitted to Canada. When Canadian output was falling in 2008-09, net exports provided a strong positive contribution to GDP growth as the Canadian dollar depreciated.
The current recovery and the 2002-08 expansion is driven by the income gains generated by the higher prices that Canadian exports are receiving on world markets. This extra income is a source for stronger made-in-Canada demand for Canadian goods and services. It also creates an increased demand for imports, which explains why net exports are typically weak during expansions.
The outlook for Canadian export volumes isn't our biggest problem. The more pressing concern is that a stalled U.S. recovery -- possibly combined with weaker European growth -- will spill over to the rest of the world. Another global recession would generate downward pressure on the prices of oil and other commodities. The resulting reduction in the prices Canada receives for its exports is the mechanism by which a U.S. slowdown would affect Canada. The value of our exports is more important than their volumes.
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