Canadian Prime Minister Jean Chretien rushed to become the first foreign leader to meet with newly elected President George W. Bush when he assumed office; Canada's foreign affairs minister, John Manley, was the first foreign minister to meet with newly appointed Secretary of State Colin L. Powell. The visits underscored the critical importance that the US holds for Canada as its largest trading partner, a relationship worth $1.3 billion a day in trade across the border.
Canada's economy is growing steadily stronger and business conditions are more favorable than they have been in years. But Canada's dependency on the US, which consumes almost 86 percent of total Canadian exports, means that Canada's newfound economic success could come to an abrupt halt as the US economy slows. Two factors-ongoing Canadian government reforms and growth in Canada's Internet economy-could soften the blow to Canada as the US economy sinks.
The Canadian economy grew steadily through the final quarter of 2000, despite the contraction in US demand. Productivity rose 2.1 percent from third quarter 1999 to third quarter 2000, the best annual performance since 1997. Annual wage increases averaged 3 percent for the same period, leaving unit labor costs up by about 1 percent for the year. Unemployment stands at 6.8 percent, its lowest level in years (see Figure 1); inflation is rising, but at controllable rates. As Canada moved into the first quarter of 2001, the impact of the slowdown in the US registered in aggregate data, but most major indicators held steady. According to the Conference Board of Canada, overall Canadian economic growth was damaged by the slowdown in the US during winter 2001, but a recession is not in the cards. (See Figure 2.)
"At a time when the US economy is slowing and exporters are hurting, the federal government appears to be riding to the rescue," says Paul Darby, director of the Conference Board's economic forecasting group. "Recent changes in taxation, combined with the spillover from the 2000 budget, have created cuts in personal income tax, boosting household spending power in Canada." The January 1, 2001 cut in income taxes by the federal and some provincial governments boosted incomes across most groups.
The Conference Board predicts that real consumer spending will weaken this year, a result of the impact of high interest rates on large-ticket, consumer durable items and slow employment growth in the first quarter. (See Figure 3.) Tax cuts, however, will increase disposable income by almost a full percentage point. Darby predicts that Canada will post average annual real GDP growth of 2.9 percent for 2001, following 5 percent growth in 2000.
The French-based Coface Group, in a somewhat more optimistic forecast, predicts that Canadian GDP will grow 3.4 percent in 2001, with unemployment dropping slightly to 6.7 percent. Growing Canadian consumer and business confidence, Coface predicts, will soften the impact of a slowing US economy. Growth still centers on the telecommunications and computer industries, offsetting declines in the auto sector and weakness in the natural resources sector outside energy. Soaring energy demand has spurred new oil drilling and supported strong oil sales, which account for most of Canada's trade surplus. Power producers in western Canada may collect huge profits from selling excess electric power to strapped companies in California.
Growth within Canada may be offset, however, by rapid declines in exports to the US. Canada depends heavily on the US as the prime market for its exported goods, and this dependency has increased in recent years. In 1995, the US consumed 77.5 percent of all Canadian exports. By 1999, it accounted for 85.8 percent. Canada runs a large positive trade balance with the US, but a negative trade balance with all other trading partners. (See Figure 4.) If Canadian exports to the US decline, Canada's overall balance of trade will slip into deficit territory. …