Canada has elected its first majority government in 11 years, and one with considerable experience in governing and a prime minister who is now, after Germany’s Angela Merkel, the second-longest serving G7 leader. With the next election mandated for October 2015, this presents a unique opportunity for the government to map out, explain and implement an ambitious policy agenda to better position Canada to seize the opportunities and mitigate the challenges in a dramatically shifting world.

Just as there are opportunities, there are risks. Having weathered the global recession better than many, Canada is in a relatively strong position — our financial system is sound, our public finances are sustainable, our natural resource sectors benefit from high global prices, and our labour markets recovered faster than those in the US.

Our clear and present risk is national complacency. We have a strong dollar and weak productivity. We have strong public sector research capacity and weak private sector innovation. We have deep trade linkages with the world’s richest (although a slow-growing) market, and shallow trade relationships with the world’s most dynamic economies. We have fiscal deficits federally and provincially, and we need to articulate fiscal restraint programs to not only balance the books but improve the productivity of government. We have enormous energy resources, and an inability to convince an energy-challenged world we are a supplier of secure and sustainable energy. We have admirable national pension and health care systems, and are loath to look at reform of either in the face of inexorable demographic aging trends. Simply put, we are blessed with much, and there is much we need to do.

We are entering a new global normal. The world is changing, and the changes are structural and profound. Its economic centre of gravity is shifting toward Asia. Demographics, resources and technology are redefining competitiveness. Pervasive globalization and the Internet are connecting markets, capital, people and information to an unimaginable extent. The hangover from the Great Global Financial Crisis will be long-lasting. The ferment and upheaval in the Middle East will continue and will impact events well beyond the region.

To put the pace and scale of change in perspective, consider this: the global recovery was powered by the dynamic emerging economies, not the US or Europe; unsustainable fiscal positions are to be found in advanced countries, not the developing world and financial systems shuddered and almost shattered in a number of Western economies, not in Asia or Latin America or Russia or Africa, as was often the case in past global downturns. Indeed, the World Economic Forum rates the financial systems of India and China as sounder than those of the United States and the United Kingdom.

For 60 years the world economy, like a global economic orchestra, had a single conductor, the US, and a single musical score, the Anglo-Saxon market model. But no longer. There are now multiple conductors in addition to the US. They attempt to guide regional sections of the global orchestra. These new conductors, such as China, major oil producers in the Middle East, Brazil, India and South Africa, may at times introduce different sheet music (state capitalism, large state sectors and protectionism) and this can create harmonic disruptions. How to best direct this global orchestra is now much more complicated. It puts a premium on coordination among the conductors who have different statures, experience and even aspirations for the orchestra.

Our clear and present risk is national complacency. We have a strong dollar and weak productivity. We have strong public sector research capacity and weak private sector innovation. We have deep trade linkages with the world’s richest yet slow growing market, and shallow trade relationships with the world’s most dynamic economies.

The emergence of the G20 at the level of leaders in the crucible of global crisis in November 2008 was de facto recognition that neither a single country nor a small group of wealthy countries could conduct the global orchestra alone. And it worked: the coordinated fiscal and monetary and liquidity stimulus mobilized through the G20 staved off a global economic depression and financial sector collapse. The challenge will be to sustain this degree of international coordination now that the urgency of the crisis has ebbed and divergent economic circumstances and policy interests are reasserting themselves. Coordination is more important than ever in the changing world of pervasive globalization, where ragged conducting will have adverse global consequences. Nouriel Roubini, a famous worrier, fears an outcome where we go from the long-dominant G1 model all the way to the G20 of today and then unwittingly find ourselves in a “G-Zero world.”

Whatever the model, sustaining coordination in a world of sovereign and diverse nations will require leadership. Here, Canada has been effective in the G7, the G20, the International Monetary Fund, the World Bank and other international bodies such as the Financial Stability Board and the Basel Committee on Banking Supervision at putting forward the case for a global perspective and global obligations. In our changing and uncertain world, where power is more diffuse and governance must be more inclusive, Canada could play a prominent role in strengthening international policy coordination by dint of what our policies have achieved, the government’s experience in global forums, and both who we are and who we are not.

As important as multilateralism is for a country of Canada’s size and openness, we also need to refresh and expand Canada’s strategic bilateral relationships. While the United States is, and will remain, Canada’s main trade and investment partner, the thickening of the border since the terrorist attacks of September 11, 2001, and the myriad of different regulations impede the growth of an integrated North American market with unfortunate costs for both economies. Hence the importance of being ambitious in the objectives and deliverables for the Shared Vision for Perimeter Security and Economic Competitiveness initiative, announced jointly at the White House on February 4 by Prime Minister Harper and President Obama.

At the same time, we need to broaden and deepen our economic ties to the main dynamic emerging economies in Asia and Latin America. We should consider a quadrilateral Asian strategy based on the different advantages to Canada presented by stronger economic links with each of China, India, South Korea and Japan. Just as the FTA provided the framework for a dramatic increase in Canada-US trade, Canadian firms and investors would find formal bilateral economic arrangements with these economies would reduce uncertainty and facilitate trade. Equally, we need to encompass Brazil, the dynamo of the South American growth engine, as the anchor of our Americas strategy. We are currently “underweighted” in the major emerging economies, which have the capacity for sustained nominal growth in double digits, relative to the much more constrained growth prospects in North America and Europe.

If there is one thing that the global financial crisis and recession demonstrated, it is that relatively strong and resilient economic performance in countries like Australia, Canada, Sweden and others was, in part, due to prudent public finances.

Going forward, countries with unsustainable fiscal positions are unlikely to have sustainable competitiveness positions. The examples of Greece, Ireland and Portugal are early warnings of the risks of high debt and the constraints of debt servicing. A number of systemically important countries such as the US have large and unsustainable deficits, and unsustainable fiscal situations in smaller countries can have systemic impacts. Global fiscal uncertainty comes with consequences. Financial markets will reward countries with superior public finances, and discount those that are below average.

Canada enjoys a solid fiscal position. At the total government level, the International Monetary Fund estimates that total Canadian government net debt as a proportion of the economy, at 35 percent of GDP, is the lowest in the G7 by far, and half that of the United States. However, the total government sector consolidated deficit in Canada this year is still 4.6 percent of GDP, with sizable structural deficits in a number of provinces.

The federal government’s June 2011 budget will set out the medium-term path back to fiscal balance, hopefully including the details of the fiscal restraint measures. Restoring sustainable fiscal balance in a credible and timely fashion reduces risk premium on all Canadian debt, not just government debt, and constitutes a national insurance policy for unsettled global times.

Fiscal restraint for achieving fiscal balance is clearly important in and of itself, but it also provides an opportunity to be more ambitious and to make increasing government productivity and innovativeness part of the fiscal restructuring. A more innovative, more productive government initiative would mirror similar changes urgently needed in the private sector in Canada, and could show federal government leadership on several crucial fronts at the same time.

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Each year the World Economic Forum (WEF) publishes a much-hyped global competitiveness report of how competitive countries are, who is moving up the league tables and who is stumbling. As interesting as the overall rankings may be, much less attention is paid to how countries perform on the various assessment factors that aggregate into the composite ranking and that WEF analysts believe are crucial to achieve sustained economic growth and long-term prosperity.

According to the WEF these include the “basic requirements” of well-functioning institutions, infrastructure and basic health and education for citizens; the “efficiency enhancers” of efficient labour, capital and capital markets as well as market size; and then the “innovation drivers” of technological readiness, business sophistication and innovation. It is also interesting to note that, while Canada ranks 10th overall on the WEF global competitiveness index, it is much weaker in the key assessment factors of technological readiness, business sophistication, innovation performance and market scale.

This highlights the centrality of innovation for driving growth, productivity and competitiveness. Innovation is a country’s capacity to create new goods and services, to produce existing products in new ways and to open up or create new markets. It has the unique capacity to change the economic value proposition: to shift the cost curve, not move along it; to create new products, not compete on standardized goods; to build new markets, not fight for share in existing ones.

In our changing and uncertain world, where power is more diffuse and governance must be more inclusive, Canada could play a prominent role in strengthening international policy coordination by dint of what our policies have achieved, the government’s experience in global forums, and both who we are and who we are not.

Herein lie our conundrum and challenge. We are a sophisticated knowledge-based economy, with a highly educated workforce, a multicultural population and a strong university research sector, but we are chronic underperformers in innovation and productivity. Canada’s business sector productivity is only 75 percent that of the United States. Canadian business sector spending on research and development as a proportion of GDP ranks 15th among OECD countries: well below the OECD average, half that of the US and only one-third that of Sweden and South Korea. And today, in sharp contrast to decades past, the Canadian dollar is above parity relative to the US currency.

These productivity and innovation deficits relative to our competitors should be a real cause for worry. Paul Krugman succinctly observed: “Productivity isn’t everything, but in the long run, it is almost everything.” President Obama signalled the necessity of boosting productivity growth in his 2011 State of the Union Address: “The first step in winning the future is encouraging American innovation… We need to out-innovate, out-educate, and out-build the rest of the world.” How can Canada be less concerned when we trail the US in both innovation and productivity?

We need a national productivity and innovation strategy, one that puts the imperative of increasing private sector productivity growth and business innovation squarely front and centre in Canada, that engages government, business, universities and the financial sector to make this a joint priority, and that tackles what Dominic Barton terms the “tyranny of short-termism” in many Western economies.

A key element could be a productivity and innovation council of Canada, whose remit would be to benchmark Canadian business to best practice in innovation and productivity of, say, our top five competitors on a sector-by-sector basis. These sectoral benchmarks would be comprehensive scorecards of global best productivity practice, they would be public, and they would be something that markets, boards and managements could use to judge the long-term performance of a company. In essence, they would constitute a new element of information-driven competition in the Canadian marketplace.

Clearly, a productivity and innovation strategy has to be calibrated to the scope of the problem and the extent of its risks for our competitiveness and prosperity going forward. It has to recognize that it is difficult to reconcile in the long term above-average living standards (which Canadians enjoy today) and below-average productivity (which we also have today). It will need to address financing gaps in Canada for venture capital and financing for innovation and productivity investments from the financial services sector. It should reflect on the WEF assessment about weakness in business sophistication and how this might impact our approach to managerial training for a knowledge-based, global marketplace. It can draw cross-country learning from successful experiences in diverse countries from Sweden to Israel to the United States to Denmark to Singapore. And it will be informed by the research and recommendations from federal panels (the 2008 Competitiveness Review Panel and the 2010 Research and Development Review Expert Panel) that have examined different aspects of the problem.

Strategies often benefit from “demonstration projects” as well as from clear objectives, rigorous frameworks and effective incentives. One could consider establishing a worldclass technology and innovation centre for nonconventional hydrocarbons, equally funded by the federal government, the provinces and the industry, that would attract the best researchers in the world to employ technology and innovation to change the economics, the environmental impacts and the perception of this key Canadian resource, and to create a spinoff community of new technology-intensive firms, workers and support systems of finance, accounting and law.

Canada is aging as a society, and our growing population will have a declining proportion of Canadians working. These demographics, which are certainly not unique to Canada, will, to put it simply, impact everything. They will magnify the productivity problem we already experience. They will put an increasing premium on skilled workers. They will put further pressure on our health care system. They will place a spotlight on pension plans and retirement systems. They will impose new stresses on fiscal frameworks where provincial spending on health care already accounts for over 40 percent of all spending. They will challenge the public education system. These are not easily resolved issues. They will require intensive expert analysis and public consultation. They will take time. They will involve change. But the issues are as certain as the demographics driving them, and the sooner we start addressing them, the better chance we will have of preserving this key social infrastructure for future generations.
In this new global reality, mature economies that are willing to adjust and emerging economies that are able to continue adjusting have the capacity to

compete to win in the changing global economy. Canada is in an excellent position to prosper provided we build on our strengths, not rest on them, and tackle our weaknesses. We need to focus on how to create advantage for our country, our companies, our workers, our citizens in the new global competitiveness. We must avoid complacency.

An economic policy agenda for these changing times must take a longer-term perspective and accept risk because we are in an inherently more uncertain world, with new opportunities and new challenges. At its core, it should have four elements:

  • sustainable fiscal balance, with a focus on a more innovative, productive government sector with the capacity to invest in strategic national priorities through surpluses, not borrowing, and complemented by monetary policy geared to low and predictable inflation;
  • improved productivity and innovation performance, which are key to our competitiveness and living standards, and led by a greater private sector focus on, and investments in, productivity and innovation;
  • broadened and deepened economic ties to key dynamic emerging economies, through modern economic agreements, and renewed North American linkages by reducing frictions from security and regulatory impediments; and
  • proactively tackling the challenges posed by an aging population for health care, pensions and education, to get ahead of the demographic curve that will progressively and relentlessly impact all developed countries over the coming decade.

Photo: Shutterstock

Kevin G. Lynch
Contributing Writer Kevin G. Lynch is vice-chair, BMO Financial Group and former Clerk of the Privy Council.

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