*** EXPORT SPECIAL *** Exporting to the US: Still room for growth?

Canada has ridden the coat-tails of U.S. economic growth for much of the past decade, and exporters have enjoyed the ride. Is this a sustainable strategy or has the U.S. market become saturated for Canadian exporters?

Glen Hodgson, Vice-President and Deputy Chief Economist with the influential Export Development Canada believes that the most dynamic export relationship that Canada needs to foster and grow over the next decade is with the United States.

"That may surprise you, given that we already send 87 per cent of our goods exports to the U.S. market. However, the Free Trade Agreement (FTA) with the United States, later expanded to the North American Free Trade Agreement (NAFTA), created a new foundation for investment, efficiency and sales between Canada and the United States," he reasons.

Pointing out that the purpose of free trade, achieved via multilateral, regional or bilateral trade agreements, is to generate more efficient and dynamic economic activity across as wide a base as possible, he says the reduction or elimination of tariffs and other trade barriers is allowing firms to reach more consumers; achieve greater scale economies; access cheaper inputs; and rationalize their activities by finding the lowest-cost production alternatives.

"All of these improvements should result in higher potential economic growth for all economies in the trade zone and thereby increase their national prosperity," he says. "The FTA and NAFTA have produced as expected. Canada and the U.S. have enjoyed a boom decade, based in part on an acceleration in bilateral trade growth rates. Canada’s economy has become much more open to the benefits of international trade and exports as a share of Canadian GDP increased from 26 per cent in 1990 to 40 per cent in 2000."

But can Canadian exports to U.S. keep growing? Absolutely, Hodgson says.

"While it might be tempting to believe that we will soon reach some sort of "natural limit" of trade openness in terms of exports-to-GDP, there is no such limit," he says. . He points out, there are other economies in Asia and Europe that export far more of their GDP than Canada. Singapore, Hong Kong and Malaysia, for example, have significantly higher exports-to-GDP ratios than Canada, now exceeding 100 per cent in all three cases. This phenomenon is not limited to emerging economies in South-east Asia. Belgium and the Netherlands, two mid-sized and highly developed European economies, also have exports-to-GDP ratios that are far higher than Canada’s.

How is this possible? Part of the explanation , according to Hodgson, is entrepot trade, or the trans-shipment of goods through a port in Singapore, Hong Kong or the Netherlands to another country. Entrepot trade itself creates national wealth (via port and other services) and exists because the countries in question have open trading regimes. But the significant increase in exports-to-GDP between 1990 and 2000 for such countries cannot be explained solely by increased port traffic volumes.

"The more fundamental reason for high and rising export-to-GDP ratios is the changing nature of trade," Hodgson says.." Where trade once involved the sale and purchase of raw materials, whole capital goods, or semi-finished or finished end products, trade today is increasingly based on adding value to an international production chain. Exports are therefore ever more dependent on imports as production inputs. Based on a rising level of imported inputs, plus domestic activity, a new "link" of national value-added is brought to the international production chain, and a more finished product or service is then exported."

He says the evolution in international production chains is clear for Canada, driven by our regional trade agreements. The average Canadian content of our goods exports fell from 71.5 per cent in 1988, the year prior to the FTA, to 64 per cent in 1997, as imports were increasingly used in the production of exports.

Foreign direct investment (FDI) will be an added driver in the future Canada-U.S. trade relationship, he says. Sparked by the FTA and NAFTA, the 1990s saw a quantum leap in the level of FDI between Canada and the United States, from less than C$5 billion per annum in 1990 to about C$40 billion per annum by 2000 in each direction. This leap represents the drive by enterprises to find more efficient forms of production to take full advantage of the larger common market. Canada-U.S. FDI will grow further, and expanded two-way trade will follow.

"When these forces are taken together, it is clear that there is no "natural" upper limit to Canadian exports to the U.S.," Hodgson claims. "We therefore should not be surprised if Canada’s exports-to-GDP ratio exceeds 60 per cent in a decade, or if exports to the U.S. reach 92 or 93 per cent of our total exports."