Recently added threat of tariffs on auto imports is another risk factor

By Glen Hodgson, Senior Fellow, Conference Board of Canada

In normal circumstances, these should be boom times for Canadian exports. The U.S. economy is expected to pick up steam in 2018. Bolstered by higher government spending and tax cuts, as well as solid gains in household consumption and investment, U.S. growth should approach 3 per cent.

As Canada’s largest trading partner by far, a rise in U.S. economic activity is generally good news for Canada’s trade sector. Canada’s relatively low dollar is also a positive factor for exports.

But these are not normal times. The Trump administration’s unpredictable policy agenda is creating havoc in many areas; for Canada, trade policy is at the top of the list. Protectionist actions by our southern neighbour on a number of key goods, and uncertainty about the outcome of the North American free-trade agreement renegotiations, are acting as drags on Canada’s exports to the United States in the near term.

But U.S. actions are not the only hindrances. Due to years of limited growth in private-sector investment, Canadian exporters are near capacity and therefore constrained in meeting rising U.S. demand.

Overall, the Conference Board of Canada projects that Canadian exports to the United States will grow only marginally in 2018, below 1 per cent.

Over the medium term, the renegotiation of NAFTA will remain the central factor shaping future economic relations between the two countries, thereby steering Canada’s trade and overall economic performance. Yet, economic conditions in other parts of the world are increasingly shaping Canada’s export profile.

Trade with other leading trading partners, notably China and the European Union, is taking on growing prominence. About a quarter of Canada’s merchandise exports, and 45 per cent of services exports, are now destined for non-U.S. markets.

Exports to China and the EU are projected to steadily expand in the coming years, and the Conference Board forecasts exports to these countries to grow much faster than those destined for the United States.

China is now Canada’s second-largest trading partner for goods, and the fastest-growing export market. The steady rise of the Chinese middle class will translate into solid demand growth for Canadian agricultural products, manufactured food products and beverages.

The Chinese food market will continue to expand thanks to urbanization and rising income levels across Chinese society. Services exports to China should also grow at a steady pace, as China continues its transition to a services-based economy. However, growth of Canadian merchandise exports to China is expected to decelerate, due to slower growth or outright declines in demand for commodities.

In the EU, the coming into force of the Comprehensive Economic and Trade Agreement in September, 2017, combined with a rise in overall economic growth in the EU, also bode well for Canada’s trade sector. Exports to the EU should pick up pace and be part of a slow, but steady diversification away from the dominant U.S. market.

The United Kingdom and Japan are also important Canadian trading partners, but economic growth is expected to remain subdued in both markets this year and next.

Uncertainty stemming from Brexit means that U.K. consumption and business investment growth will be weak until an agreement is finalized. Canadian merchandise exports to the U.K. will likely grow at a moderate pace in the coming years, while the Conference Board projects services exports to contract in the near term. Japan is facing structurally weak growth, although the exclusion of the United States from the Comprehensive and Progressive Agreement for Trans Pacific Partnership may give a competitive advantage to Canadian exports in specific sectors like food products.

Global growth is currently robust, which should be good for trade, but risks abound. Free trade advocates are increasingly confronted by the forces of protectionism. The U.S. announcement of tariffs on steel and aluminum imports will certainly hurt trade in those sectors, and could fuel a trade war and hurt global economic activity.

The recently added threat of tariffs on auto imports is another risk factor. The long-term impact of a U.K. exit from the EU is still uncertain, and will depend on the details of the deal that is reached. Geopolitical risks, especially on the Korean peninsula and in the Middle East, could alter prospects in oil and other market segments.

Many conditions are in place for solid Canadian export growth, but the challenge for firms and governments is to navigate the turbulence through long-term thinking, and being prepared to venture beyond North America.