THE CONSEQUENCES OF U.S. SECURITY AND TRADE ACTIONS FOR CANADIAN TRADE POLICY
POLICY IN THE LONG TERM:
CLOSER INTEGRATION OR TRADE DIVERSIFICATION?
The Canadian and U.S. economies have become increasingly integrated over
the past forty years, and the pace of integration has increased since the
launch of the FTA in 1989. How
much of this increased integration, in the form of greater cross-border trade
and investment flows, can be attributed to trade liberalization and how much
to other factors such as exchange rate movements?
Would this integration have occurred even without the FTA and NAFTA?
Should measures be adopted to achieve even closer formal integration
with the United States? Alternatively,
should an aggressive policy of trade diversification be pursued to lessen
Canada’s vulnerability to U.S. security and trade actions?
These are questions that, we believe, must be given serious
consideration by Canadian decision-makers.
THE DIMINISHING RETURNS
FROM TRADE LIBERALIZATION
Discussions of free trade between Canada and the US relate to the period
beginning with the launch of the Canada-U.S. Free Trade Agreement (FTA) in
1989. The FTA certainly opened up
new business opportunities and caused an industrial restructuring that exists
to this day. NAFTA’s impact on
Canada-U.S. trade has been considerably smaller, and it is safe to say that
the returns for Canada from trade liberalization have been diminishing.
Rather, the effects of NAFTA have been most widely felt on trade
between Canada and Mexico.
The North American Free Trade Agreement (NAFTA), involving Canada, the
United States and Mexico, came into effect in January 1994.
Designed to expand trade and investment between the three member
countries, the agreement took aim at both tariff and non-tariff barriers and
contained provisions on how business was to operate within the free trade
area. Since NAFTA was largely
modelled after the FTA, it did not significantly affect the trading
relationship between Canada and the United States. The tariff reduction schedule between the two countries was
unchanged – tariffs on virtually all goods of Canadian or U.S. origin
disappeared on January 1, 1998
– and most elements of the earlier bilateral agreement were absorbed into
the NAFTA. One of the few
significant exceptions to this was that NAFTA broadened the coverage of the
FTA to include virtually all aspects of cross-border trade in services.
As de Mestral pointed out to the Committee, NAFTA has worked well in
removing barriers to trade in services.
Canada has witnessed an explosion in trade with the U.S. since the
process of tariff elimination under the FTA was launched in 1989.
Exports to the U.S. grew by 250% from 1988 to 2001, while imports
increased by 153% over the same period.
Supporters of the FTA, including the federal government, have frequently
stressed that the agreement has been a resounding success for the two member
They maintain that the agreement has promoted strong economic growth,
led to increased investment and trade between Canada and the U.S. and
contributed to historically low levels of unemployment.
According to Pierre Alvarez, the FTA and the deregulation of energy
markets in the 1980s were very successful public policy initiatives and rival
the Auto Pact in terms of impact. Access
to the U.S. market has resulted in a significant increase in sales.
It would be difficult to argue that the Canada-U.S. Free Trade Agreement
has not had a positive effect on trade flows between the two countries.
Since the implementation of the FTA, Canada has seen a shift in
economic structure and orientation. The
Canadian economy has become more export-oriented and at the same time has
become more integrated into a collective North American economy.
As William Dymond (Executive Director, Centre for Trade Policy and Law)
remarked to the Committee, entire Canadian economic sectors have been
restructured on a north-south basis.
John Helliwell, certainly no big fan of the bilateral agreement, informed
the Committee that the FTA had caused north-south trade to expand twice as
much as predicted by the model that he was using. Industries that had been concerned about free trade (e.g.,
textiles and clothing, furniture, wine) ended up being big winners.
Other empirical work comparing trade growth in products liberalized by
the agreement with trade growth in goods which were already exchanged
tariff-free also supports the point that the FTA has contributed to an
expansion of the Canada-US trade relationship.
the Canada-US Trade Relationship
optimistic assessment of the FTA’s impact on trade must be tempered by the
reality that a number of factors other than the trade liberalization brought
about by the agreement have affected trade between the two countries.
Although there has been considerable growth in trade between Canada and
the U.S. since the implementation of the FTA in 1989, it would be misleading
to suggest that this growth was exclusively the outcome of the trade
liberalization brought about by the FTA (and the NAFTA that followed it).
While agreements such as the FTA undoubtedly improve the conditions for
trade by lowering tariff barriers and creating an environment of stability and
security for trade and investment, they are only one of several factors that
influence the exchange of goods and services between countries in any given
Certainly, much of the bilateral trade had already been liberalized
before the agreement was implemented. When
the FTA was signed in 1989, many products were already being traded between
Canada and the U.S. in a tariff-free environment, most notably automobiles and
parts, which were liberalized by the Auto Pact in 1965.
In addition to automobiles and auto parts, tariffs on aircraft and
related parts, pulp, paper and wood products, and crude oil, petroleum and
natural gas – some of Canada’s most significant export products – were
unaffected by the FTA. In all, it
has been estimated that a full 35% of Canada-U.S. trade was tariff-free prior
to the implementation of the FTA.
Other tariff lines were at low levels owing to successive rounds of
GATT tariff reduction.
Tim O’Neill (Executive Vice-President and Chief Economist, BMO Financial
Group) told the Committee, the FTA was the culmination of the trade
liberalization between Canada and the U.S. that had been going on over a
forty-year period. The reduction
in tariffs arising from the FTA was, in the overall scheme of things, actually
rather small. It stands to reason
that a significant part of the growth in bilateral trade since 1989 could be
attributed to the improved trading environment that had already been
established prior to the launch of the FTA.
In his brief to the Committee, Jim Stanford noted that two
“liberated” sectors alone – energy and automotive – accounted for a
full 40% of export growth under the FTA.
In neither of these sectors did the FTA enhance access to the U.S.
While the FTA improved Canada’s access to the U.S. market, two
macroeconomic factors independent of the trade agreement also affected trade
between Canada and the U.S. in the post-FTA period. They not only influenced growth in trade between the two
countries during the 1990s, but also had a significant effect on the balance
of trade. Much of the growth in
exports to the U.S. since the onset of NAFTA can be attributed to (a) weakness
in the exchange rate between the two countries, and (b) higher growth rates
experienced south of the border (higher growth in the U.S. absorbed our
first of these factors is the performance of the Canadian dollar, shown in the
above chart. After rising sharply
in the year immediately preceding the launch of the FTA in 1989 – the
dollar’s value rose to the 85 cent mark in that year – the currency
continued to appreciate relative to the US dollar, rising to almost 89 cents
1992 and 2002, however, the Canadian dollar fell steadily, which lowered the
price of Canadian export products in the U.S. market and at the same time made
U.S. goods more expensive to purchase in Canada.
This placed downward pressure on import growth in Canada while at the
same time making Canadian products more competitive in the U.S. market, which
pushed exports to higher levels.
John Helliwell informed the Committee that the U.S. strong-dollar policy
during the 1990s has been the most significant influence leading to the rise
in Canadian exports to the U.S. during that decade. The share of our exports going to the U.S. has risen from 77%
before the FTA to 87% now, the change in the exchange rate being the major
factor. O’Neill concurred,
pointing out that if one examines the change in the volume of trade in the
1990s, the big effect would have been the dramatic decline in the value of the
Canadian dollar from a near 90-cent dollar to a 65-cent dollar. Fred McMahon also argued that the devaluation of the Canadian
currency was the principal reason for the large trade surplus between Canada
and the U.S.
Adding to the effect of the Canadian dollar was the fact that following
the recession of the early 1990s, the U.S. entered one of the longest periods
of uninterrupted economic expansion in its history. A combination of factors, including productivity growth,
falling commodity prices, equity market gains and a strong U.S. dollar,
allowed the economy to expand, creating jobs, raising incomes and attracting
investment, all without triggering inflationary pressures.
As Americans’ wealth increased, so too did consumption levels,
buoying demand for Canadian goods. Since
the Canadian economy did not perform as well, Canadian demand for U.S. goods
did not grow as quickly, and as a result, Canadian exports to the U.S.
outpaced imports from that country.
As a final point, the FTA may have caused some of the existing Canadian
trade to be diverted from other destinations to the U.S. market.
Exports may have been rerouted from other countries to the U.S., and
trade between Canadian provinces may have been deflected to the United States.
As Helliwell pointed out to Committee members, some of the gains in
north-south trade have occurred at the expense of trade with the rest of the
world, and there was no gain for Canada in that development. Whereas the creation of trade yields economic benefits for
Canadians, the diversion of trade from other countries in response to
differential tariff rates may simply lead to economic inefficiencies.
The Diminishing Gains From Trade Liberalization Under the NAFTA
It is also worth noting that the gains in tariff reduction between Canada
and the United States, by far the two largest economies within NAFTA, were
realized not under NAFTA but rather under the FTA. By the time NAFTA came into force in 1994, tariffs between
Canada and the U.S. were already low or non-existent.
Thus, it should not come as a surprise that there was no NAFTA-induced
explosion in bilateral trade. Indeed,
a 1997 U.S. report on NAFTA’s economic impact revealed that total U.S. trade
with non-NAFTA countries increased by about the same percentage immediately
following the agreement’s implementation (11% rise in 1994; 14% in 1995; 5%
in 1996) as did total Canada-U.S. trade (15% in 1994; 12% in 1995; 7% in
As this same report further concluded, “Most of the international
specialization that could have been expected from trade liberalization had
already occurred when the NAFTA went into effect.”
While the agreement did stimulate some further cross-border
specialization in manufactured products, it should be properly viewed as an
incremental step forward in the process of North American economic integration
that was occurring anyway. Indeed, most of the gains to Canada from freer trade in North
America were achieved following the introduction of the Canada-U.S. Free Trade
Agreement, the NAFTA having added little since then.
If the economic returns from integration have already been largely
exploited, as the previous chapter of our report suggested, why is closer
integration being contemplated? The
Committee received a mix of views on the merits of adopting closer formal
economic ties with the Americans. This
Chapter reports on the evidence heard and assesses a number of distinct policy
proposals that have been put forward.
John Helliwell informed the Committee that the argument to get closer to
the Americans hinges on obtaining more per capita income from the
relationship. However, this will
not occur as there is simply not much left to be tapped. In addition, the subjective well-being research that he has
conducted suggests that Canada’s separateness and independence produces
greater subjective well-being. Therefore,
he predicts that there would be net costs to the adoption of policies that
would increase the intensity of the bilateral linkage. Helliwell also thought it dangerous to think that because we
have not been able to get what we want – namely to obtain easier access to
the U.S. market and to be exposed to less danger from U.S. trade remedy action
– we should go further along the integration path to get to where we want to
Theodore Cohn (Professor, Department of Political Science, Simon Fraser
University) was of the view that Canada should emphasize multilateralism in
its trade relations with the U.S. since (a) it emphasizes the rule of law and
therefore limits the ability of larger partners to seek side payments; (b) the
U.S. will only be willing to make changes in agricultural trade and contingent
trade measures (countervail, anti-dumping) in those multilateral venues; and
(c) Canada benefits from the existence of a range of plurilateral groups such
as the Quad.
Bob Keyes (Vice-President, International, Canadian Chamber of Commerce)
felt it was unrealistic to expect that any of the proposed models of
integration along this continuum (convergence and harmonization, customs
union, common market, total economic integration, dollarization, expansion of
NAFTA, a new North American governance framework, and continental political
institutions) would happen right away, as they raise political and sovereignty
issues. This was a view heard
with some frequency during our hearings.
At the same time, he thought that this extensive menu of integration
proposals was worthy of analysis and discussion.
Other witnesses thought that closer ties with the U.S. would help lower
the risk associated with U.S. security or trade actions.
Rolf Mirus, while agreeing with John Helliwell that most of the gains
from trade liberalization have already been realized, was nevertheless
concerned that the economic gains from North American integration may be at
risk if another terrorist attack occurs on U.S. soil or if the Americans
become even more inward-looking. Therefore, it was important to sit down with the Americans,
work together on common interests (e.g. security, natural resources) and move
forward along the integration path (e.g., customs union).
Thomas d’Aquino has adopted a similar approach to risk management,
while abandoning any new formal integration arrangements such as a customs
union. This approach is embodied
in the NASPI proposal already discussed in the report’s chapter on border
issues. In order to prevent the
Americans from imposing their security needs (e.g., Code Red alert at the
border), d’Aquino concluded that Canada should develop a North American
strategy that takes the national interest into account and then attempt to
sell that strategy to the U.S. He
recognized that strong political leadership and a firm national consensus
would be required.
Still others argued that closer integration would be in Canada’s best
interests regardless of any risk assessment.
The Honourable Perrin Beatty (President and Chief Executive Officer,
Canadian Manufacturers and Exporters) advocated the development of a vision of
what a new North American community could look like. There are many items to consider in developing such a vision:
trade remedies, softwood lumber, agriculture, the simplification of
rules of origin, regulatory cooperation, the need for intergovernmental
cooperation to keep terrorists from entering North America, the planning of
continental trade corridors to speed up the transportation of products to
their markets and the protection of the continental environment.
Beatty concluded that stronger North American integration was bound to
happen in any event, either by default or by design, and that now was the time
for Canadians to engage in this discussion.
Richard Paton (President, Canadian Chemical Producers’ Association)
also arrived at the same conclusion: integration of the North American economy
is inevitable. The question for
Canada is whether to position ourselves to benefit from it or lose out on
investment and growth opportunities. A
strategy on North America is required. Fred
McMahon suggested that a key element of a longer-term integration strategy was
the development of a deeper bilateral trade agreement with the U.S. that would
have a more certain and quicker dispute settlement mechanism.
The Committee has carefully considered the competing arguments presented
on the question of closer Canada-U.S. economic integration.
We have indicated that the management of risks at the land border would
be best dealt with through existing mechanisms (i.e., the Border Action Plan)
and that “strategic bargains” would not be in Canada’s best interest.
We have concluded that Canada has already faced diminishing returns
from past efforts to integrate and are swayed by John Helliwell’s position
that the gains to be had from even closer economic integration with the U.S.
are rather limited. Accordingly,
we believe that any attempts to develop closer formal Canada-U.S. ties in the
form of a customs union, common market or single currency should be resisted.
Efforts to cooperate on regulatory matters and to deal incrementally
with other concerns in the bilateral trade relationship could be assessed,
At the present time, many goods circulating within the NAFTA economic
space are either produced wholly or in part outside the free trade area, and
rules of origin are needed to determine what is free of duty and what is not.
Without these rules, firms would have an incentive to route imports
into the integrated North American marketplace through the country possessing
the lowest external tariff.
Rules of origin impose an administrative and compliance burden on
business. With all three NAFTA
countries having different tariffs with the rest of the world, goods shipped
across internal NAFTA borders must be extensively documented so that each
country can apply its own tariffs to products generated outside NAFTA.
It has been estimated that reducing the need for border inspections and
lowering the amount of paperwork required could result in efficiency cost
savings of a not inconsequential 2% to 3% of NAFTA GDP.
The potential cost savings are meaningful, since over 85% of Canada’s
exports flow to the United States. An
added advantage is that border resources now devoted to goods inspection could
be freed up to enhance cross-border security.
Pettigrew has recognized the need to realize additional liberalization in the
NAFTA rules of origin, to make it easier for firms to comply with the rules in
the case of certain products. In
a recent speech to a Canadian-American business gathering, in which he
outlined a six-point agenda for North America, he stressed the need to
accelerate Canadian efforts “to further reduce transaction costs and make it
easier for companies to do business and benefit from our integrated
Another option would be to remove these rules of origin entirely, through
the creation of a customs union. Under
this option, participating countries undertake to eliminate all restrictions
on mutual trade and adopt a common external tariff for outside countries.
Rules of origin are dispensed with since imports into the customs union
would face the same tariffs anywhere in the union.
Once the item had been cleared for entry into the North American
economic space, it could then be shipped between participating countries
without the need for complex customs inspections.
Removing these rules of origin should result in administrative cost
savings at the border and efficiency gains, although Tim O’Neill cautioned
the Committee that the increased economic benefits from a customs union
narrowly defined as a common tariff structure might not be all that
substantial. Moreover, inspecting items crossing the border for security
purposes would still likely be required.
Proponents of a customs union apprised the Committee of the benefits that
such a policy measure could generate. Armand
De Mestral stressed the importance of removing customs barriers to the free
movement of goods at the border. David
Adams informed the Committee that the elimination of the tracing requirements
(i.e., tracing of the origins of certain products) would be very useful for
the automotive industry. Rolf
Mirus, with the most detailed presentation on the customs union concept,
envisaged its implementation as lowering the significance of the internal
border for the commercial movement of goods and services between the two
countries (Mexico might be added later).
Cumbersome rules of origin would be phased out, agriculture and other
sensitive sectors set aside and transition periods established.
According to Mirus, a customs union with zero common external tariffs
as trade liberalization at the WTO continues could be accomplished in an
incremental way without redoing NAFTA.
Other witnesses advocated the creation of sectoral customs unions within
those sectors of the economy that are highly integrated already.
For example, David Goffin (Secretary-Treasurer and Vice-President,
Business and Economics, Canadian Chemical Producers’ Association) argued
that the rules of origin are quite complex for chemicals and that his group
would favour movement towards a sectoral customs union.
However, it was pointed out by Peter Clark that these sectoral
arrangements would not be WTO-consistent.
trade-off for the economic gains that might be realized is the loss of policy
independence that additional linkages with the United States would entail.
In a customs union, the participating nations have to surrender policy
freedom – by adopting a common external tariff and a common external trade
policy – to achieve economic benefits associated with the elimination of the
need for rules of origin.
With respect to tariffs with the rest of the world, Canada’s external
tariffs are, on average, nearly double those of the United States.
Adoption of a synchronized tariff schedule with the U.S. would thus
probably imply lowering Canadian tariffs to American levels.
The second aspect of the sovereignty issue to consider is the
harmonization of external trade policy between the members of the customs
union. In the European Union
(EU), the European Commission (EC) represents EU members in international
trade negotiations such as the WTO and FTAA.
It seeks European consensus to do so, an often difficult task.
Like the EU, a Canada-U.S. customs union (or one encompassing all three
NAFTA countries) would probably also operate as a bloc in future international
trade negotiations. Under this scenario, Canada and the U.S. would have to arrive
at internal consensus on positions for trade negotiations, or at least achieve
a substantial reduction in their differences, and make adjustments in their
existing trade arrangements (e.g., bilateral free trade agreements).
A member country’s ability to act independently in its external trade
policy would therefore be affected.
As witnesses informed the Committee, the question then becomes to what
extent would Canada be able to influence the direction of the region’s trade
policy. Another way to state this
is precisely how much of this trade policy – in particular, the
establishment of the external tariff code – would be set in Washington.
It is difficult to imagine at this point that Canada’s interests
would dominate in any regional trade discussions or negotiations.
Moreover, Gilbert Gagné wondered what would happen to multilateralism
in Canadian foreign economic policy if Canada were to move beyond free trade.
While there may be economic benefits to be derived from movement to a
customs union (e.g., reduction in border transactions resulting from the
removal of rules of origin), the costs (e.g., adopting U.S. tariffs on
products from third countries, having trade policy made in Washington) are too
onerous for closer integration to be considered.
Moreover, several witnesses expressed doubt about the feasibility of a
customs union, particularly in view of U.S. reluctance to enter into such an
agreement. For example, Thomas
d’Aquino’s group decided, after three years’ effort, that it was no
longer tactically desirable to formally advocate the idea. Even Mirus noted that the size discrepancy between Canada and
the United States would reduce the prospects for negotiating the customs
is also hard to imagine, as a number of witnesses also concluded, that the
U.S. would give up its cherished access to trade remedies within such a
customs union. Keyes also noted
that other issues such as non-tariff barriers in the form of health
inspections and safety requirements and restrictions on the cross-border
movement of people would remain untouched.
After seriously examining both sides of the issue, the Committee has
concluded that upgrading NAFTA to a customs union would not be in Canada’s
best interests. We are not
prepared to make the sacrifices in Canadian sovereignty that would be required
to realize the economic benefits of a customs union, and recommend:
That the Government of Canada refrain from entering into any
discussions on the establishment of a customs union with the United
The introduction of a common market in North America would take economic
integration to a point on the spectrum even further along than the customs
union. According to the normal
definition, a common market would remove all barriers to the movement of
goods, services, capital and people within the NAFTA market. In Europe, as Armand De Mestral pointed out to the Committee,
the free movement of those four entities is already guaranteed
A key advantage of the common market is the improvement in labour
mobility that it would bring about. As
Bob Keyes reminded the Committee, there continues to be considerable
unfinished business associated with the labour mobility chapter of the NAFTA
(Chapter 16). Immigration
authorities are resistant to change, for example, and as a result, significant
mobility barriers still exist.
Another key benefit of a common market is worth mentioning.
George MacLean (Professor, Political Studies, University of Manitoba)
argued that the establishment of a common market would enhance Canada’s
access to the U.S. market, especially if it included standard regulations for
subsidies and competition between the two countries to curb the use of trade
remedies. He saw the North
American common market serving as the basis for one that would eventually
cover all of the Americas. This does not mean that the NAFTA would disappear.
Harris felt that a common market with the U.S. would remove border and
softwood-type problems, but that it would be a tough sell with the Bush
Administration. Having Mexico on
board would help provide necessary leverage, but there was no guarantee of
success. While three years ago he
had recommended a common market, the events of September 11 had completely
changed the situation. With the
terrorist threat still in place, U.S. authorities would be unlikely to go
along with what would essentially be the removal of the border.
Rolf Mirus, the keen proponent of the customs union, is also not
recommending a move to a common market. The
Committee agrees that in the current situation, in which the Americans are
extremely security-conscious, the notion of creating a common market in North
America is not feasible.
Although very little testimony was received on this issue, witnesses
appearing before the Committee indicated little enthusiasm for a common
currency with the United States. Kathleen
Macmillan observed that while there were strong arguments on both sides of the
common currency debate (e.g., a reduction in transactions cost on the positive
side; a decline in monetary sovereignty on the negative side), the general
consensus was that the time was not ripe for abandoning the Canadian dollar.
On balance, maintaining the status quo was the preferred option as far
as she was concerned.
Minister Pettigrew remarked to Committee members that achieving a common
currency regime would imply effectively adopting the U.S. dollar and giving up
Canadian monetary policy, since it would be virtually impossible to convince
the Americans to get rid of their currency.
Moreover, the domestic exchange rate’s capacity to absorb the adverse
economic impacts that significant outside shocks (e.g., the Asian financial
crisis) would have on this country would be lost.
For his part, Perrin Beatty noted that the low Canadian dollar, while
good for exporters, had also driven the costs of imports up.
However, it was important for Canadian policy-makers to focus on the
productivity gap between the two countries, not the currency value gap.
Owing to the low value of the currency, there has been less investment
in machinery, and as a result, Canadian SMEs have older machinery than do U.S.
The Committee is concerned that the costs associated with abandoning the
domestic currency would overwhelm any decrease in transactions costs that
monetary integration could produce. However,
a more in-depth review of the single currency issue would need to be performed
before any conclusions could be ventured.
market and production systems are becoming increasingly integrated in North
America, businesses operating on this continent continue to face three
separate sets of production standards (e.g., health and safety, packaging,
electrical standards, emission controls, food testing, language), regulations
and labelling requirements. Owing
to this regulatory situation, a product may have to be modified physically or
relabelled or have its origin and components certified before it can cross an
internal NAFTA border.
This complexity, which stems from the fact that the marketplace has often
moved ahead of the regulatory system under which it operates, can impose a
tangible burden on firms conducting regional trade. This can take the form of delays in shipping products
throughout the NAFTA marketplace and resulting higher financial costs.
According to David Adams (Vice-President, Policy, Canadian Vehicle
Manufacturers’ Association), true economies of scale can only be realized in
North America if a manufacturer can produce a product designed according to a
set of common standards. This is especially important for a small country.
He urged the Committee to recommend that, where possible, standards and
regulations among NAFTA countries be harmonized and mutual recognition
agreements (see below) be adopted unless an extensive cost benefit analysis
shows that separate standards should be kept.
Various witnesses from the agricultural sector also saw the merits of
As Claude Carrière informed the Committee, Canada could examine ways to
reduce differences in standards and product regulations while continuing to
meet the regulatory objective (e.g., safety standards).
Cooperating on regulatory matters could facilitate intra-industry
trade, lower transaction costs for shippers, reduce the disincentives for
investors, lessen the scope for disputes, and provide benefits to Canadian
consumers. It should be
recognized, however, that establishing closer cooperation in the regulatory
area would reinforce Canada’s dependence on the U.S. market, which is almost
everyone’s current concern.
There are essentially three ways to resolve this problem:
common policies, harmonization and mutual recognition.
The first of these options is self-explanatory:
the three NAFTA partners would adopt common regulatory policies. While this option would achieve the most certainty for
business, it is doubtful that it would receive much support in the three
countries in question.
Second, the countries could begin to harmonize their regulatory
approaches in such sectors as transportation, telecommunications, financial
services, energy, agriculture and pharmaceuticals. While the policies would not be identical, in contrast to the
first option, exporters, importers and businesspeople in general would face a
considerably more predictable regulatory environment. As in the case of common policies, however, political support
for this option may be lacking.
leaves mutual recognition as perhaps the regulatory option with the most
potential. Under this option, if
a good met the standards of Country A, then it could enter Country B without
restrictions, as long as Country A also accepts goods produced according to
the standards of Country B. Appearing
before the House of Commons Standing Committee on Foreign Affairs and
International Trade during its hearings on North American integration, a
representative from the Canadian Chamber of Commerce saw the advantages of
mutual recognition as follows: “it
requires us to say we recognize your standards as appropriate standards and
you recognize our standards as appropriate standards. That
doesn’t mean you have to change your standards or we have to change our
standards. I think that is
potentially much more politically feasible, and it doesn’t require us to
harmonize to the U.S. standard. That’s
a potential way of moving this relationship forward and ensuring more secure
access to the U.S. market while avoiding this issue of requiring
Mutual recognition of laboratory accreditation, approvals or
certification could lower the cost of regulation.
The adoption of mutual recognition is not without precedent.
In Europe, for example, efforts to harmonize regulations were found
initially to be expensive and inefficient.
They were replaced with an agreement that each government would
recognize the regulations put in place by the other governments.
Here at home, Minister Pettigrew recently advocated greater regulatory
cooperation between the three NAFTA members, arguing that in many areas the
three countries had “similar regulatory systems that work for similar goals
and produce similar results. Yet
each country often demands that products imported from the other go through
costly testing procedures to meet domestic requirements. Why not acknowledge the similarity of our systems and agree
that once these products are tested in one country, they are acceptable in the
other? Can we not move to the
principles of mutual recognition and the elimination of duplication?”
In his appearance before the Committee, he noted that any examination
of mutual recognition would have to be done on a sector-by-sector basis.
During his appearance before the Committee, Bob Keyes suggested that
Canada and the U.S. should examine their own regulatory processes and
standards. He observed that the
existence of parallel, overlapping, duplicate systems of regulatory approval
leads directly to delays and an increase in business costs and that regulatory
cooperation would not mean simply adopting U.S. standards.
Two or three sectors could be targeted to start the process of moving
to mutual recognition.
Paton also advocated the adoption of mutual recognition, with agreement on
testing criteria approaches. However,
it would be difficult to get an agreement with the Americans on the
development of common testing procedures since our market is so much smaller
than theirs. There would be no
incentive for them to change since they are the larger entity.
One way to deal with this problem is to reach a bilateral agreement on
the lower-risk areas and keep decision-making separate in the higher-risk
The Committee questions why, in view of the integrated nature of the
North American market and the similarities in many product standards, there
continues to be a need for a duplication of approval and testing processes in
all areas. We recommend:
That the Government of Canada carefully investigate the impact that
regulatory differences with the United States have on the Canadian
economy, and release its findings to the public.
The government should seriously examine the concept of mutual
recognition of each country’s regulatory standards and procedures,
under which standards would be tested and inspection and certification
would be carried out only once within the Canada-U.S. market.
Moreover, the government should identify those sectors in which
the U.S. and Canadian regulatory systems are similar and the mutual
recognition approach could be applied.
The federal government has attempted to promote hemispheric, transpacific
and transatlantic free trade in order to diversify Canada’s trade.
Minister Pettigrew told us that much of this country’s trade
promotion effort is aimed at markets outside the U.S., the objective being to
strengthen Canada’s trade position around the world.
The use of Team Canada and other, more modest trade missions was cited
as proof that the current government takes the trade diversification objective
A number of witnesses told the Committee that because of the vulnerable
position that Canada is in regarding possible U.S. security and trade actions,
it makes sense to diversify trade as much as possible.
To mention but one example, Dennis Laycraft noted that the Canadian
cattle industry has already formulated a long-term objective to export 50% of
its products outside the U.S. by 2010.
the diversification challenge will require considerable effort.
Kathleen Macmillan reminded Committee members that although efforts to
diversify Canada’s trading patterns have been made over the years, our
dependence on the U.S. economy has continued to rise.
She pointed to a number of reasons for the close Canada-U.S.
relationship: geographic proximity, language, similar institutions, and a good
understanding of each other’s market. Tim
O’Neill cautioned the Committee not to set its expectations too high
Other witnesses, however, noted that Canadian efforts to diversify its
trade could be improved. Bob
Keyes argued that Canada appears to be entering into trade agreements and
trade liberalization agreements primarily with smaller countries and regions,
such as Costa Rica, Central America, the Andean Community and Singapore. He noted that these are small markets and that some of the
trade agreements are being entered into for political rather than trade
reasons. Other countries such as
Mexico have been considerably more aggressive in seeking out expanded trade
relationships with larger entities. Many
witnesses pointed to Europe and Asia as regions where Canada has not enjoyed
much success in terms of forging a closer trade connection.
John Wiebe (President and Chief Executive Officer, Asia-Pacific
Foundation of Canada) thought that the Canadian focus on the U.S. had had the
unintended consequence of diverting our attention from other, important
regions of the world. The
Canadian government should be encouraging other free trade agreements to
enhance our overall trade relationship.
Finally, Bruce Campbell (Executive Director, Canadian Centre for Policy
Alternatives) called on the federal government to examine past efforts to
diversify, determine why they failed, and attempt to design an improved
strategy to achieve a different outcome.
He placed considerable emphasis on the achievement of a genuine trade
agreement with the European Union (EU).
The Committee is convinced of the importance of a strong trade
relationship with the U.S. but is also of the view that Canada would be better
off if its trade dependence on its single largest market to the south was
reduced. This does not mean that
our trade with the U.S. should stop growing but rather that trade with other
countries should expand at a higher rate.
The Committee is struck by the current efforts of other countries to
enter into bilateral trade agreements and encourages the Government of Canada
to aggressively seek out comprehensive free trade agreements in Europe and
A. Achieving a Comprehensive Free Trade Agreement with Europe
the European Union is Canada’s most important trade and investment partner
after the U.S., our trade is not increasing as quickly with that area as with
other parts of the world, and the EU’s share of our total exports and
imports has been declining over the past decade.
Merchandise exports now total $21.2 billion, or 5.2% of Canada’s
total exports, while imports equal $36.1 billion.
The figures for services are $9.9 billion and $10.6 billion
respectively. Moreover, several
bilateral trade issues stand out: market
distortions in the agricultural sector stemming from export subsidies and
domestic support; protective tariffs in certain sectors; and EU import bans
and restrictions, especially in the agriculture and natural resource sectors,
for health, environmental and consumer protection reasons.
Whereas trade has been declining (in percentage terms), the real success
story regarding Europe has been the two-way investment relationship.
The stock of Canadian investment in the EU was $99.9 billion in 2002,
and the Europeans had invested $94 billion in Canada.
In view of the deteriorating trade situation with Europe, it is
regrettable that Canada has not yet been successful in entering into a
comprehensive free trade agreement with the EU. The planned addition of ten new countries by May 2004 will
turn the EU into a single market of over 480 million people and a GDP of
around $13.7 trillion, compared with NAFTA’s 412 million and roughly $15.7
trillion. Europe is a continent
clearly on the move, and yet Canada is only one of eight economies worldwide
that does not have some form of preferential trading relationship with the EU.
The Committee heard that seeking closer formal economic ties would be a
positive development. Donald Barry informed the Committee that a study carried out
by the Department of Foreign Affairs and International Trade showed that a
Transatlantic Free Trade Agreement (TAFTA) would generate significant gains on
both sides of the Atlantic. Both
the EC and DFAIT agreed to undertake surveys of the business community on free
trade. The Canadian survey,
released in November 2002, was positive, but the European survey has not been
released. The EU Trade
Commissioner (Pascal Lamy) seems to have changed his tune on the merits of a
TAFTA: previously he was willing
to consider the business case, but now he maintains that market access issues
need to be resolved in the WTO Doha Round.
Barry also pointed to the inertia within the European Commission on
this topic. The Commission
appears to view Canada as a small market with few benefits for the EU.
Roy MacLaren identified the EU as the top priority in any Canadian
diversification strategy, and favoured the pursuit of a Transatlantic Free
Trade Agreement (TAFTA) with the EU and one with the European Free Trade
Association (EFTA), which consists of Norway, Switzerland, Iceland and
Liechtenstein. Regarding the EU,
he speculated that the Europeans would prefer to deal with the U.S. as opposed
to us and commented on the doubtful success of the WTO Doha Round, on which
the Europeans have pinned all their hopes.
On EFTA, he is disappointed that Canada’s shipbuilding subsidy
program has been allowed to disrupt free trade negotiations.
Other witnesses also pointed out additional roadblocks to a TAFTA.
Theodore Cohn stressed that no economically developed country outside
Europe has a free trade agreement with the EU.
One can have an associate agreement with the EU only if one is a
developing or European country, neither of which applies to Canada.
Cohn was not optimistic that Canada would obtain a special link with
Richard Harris noted that since formal trade barriers between Canada and
Europe are not high, there is not much to eliminate. In addition, the trade that we now have with the U.S.
(time-sensitive delivery in intermediate goods and manufacturing) will just
not happen between Canada and Europe. Canada
will be trading in energy, natural resources, finished products, and
agriculture instead. He is
optimistic that there could be some improvement in that trade, but it
certainly will not be an engine of economic growth for Canada, even if a TAFTA
were to be signed.
Rolf Mirus thought it would be unproductive for Canada to negotiate with
the Europeans, especially since the trade negotiations are so complex (e.g.,
we try to export agricultural products there and they erect barriers).
He did not foresee any gains for Canada in negotiating with the
Europeans separately (i.e., separately from the Americans).
Thomas D’Aquino identified three problems with Europe:
we are not important to the EU and they are preoccupied with expansion;
they see us as tied to the Americans; and there is the thorny problem of
agriculture to resolve. He
doesn’t think a deal with Canada would be entered into unless the Americans
were also part of it. Support
for such a trilateral approach to transatlantic trade liberalization, with
Canada and the U.S. facing joint market access barriers in Europe, was
expressed to the Committee in Washington by both William Lash III and
Representative Earl Pomeroy.
Bob Keyes argued that Canada should forget about its comprehensive free
trade proposal and move forward in a practical way to remove non-tariff
barriers such as regulatory impediments to trade. At any rate, the Europeans are waiting for progress at the
Claude Carrière informed the Committee that Canada and the EU are
currently working to define the content of a Canada-EU Trade and Investment
Enhancement Initiative. Though
not as comprehensive as a TAFTA, this important new initiative should prove
useful in harmonizing or cooperating on technical standards, labelling
requirements and the certification of professionals; this will improve the
existing regulatory framework governing the two-way movement of goods and
Minister Pettigrew has started consulting with Canadians on what should
be in the new agreement and the barriers to the European market that should be
addressed in the WTO negotiations. The
plan is for the two sides to propose designs for the new agreement in December
2003 and then negotiate the deal in 2004, with the targeted completion date to
be established once the results of the Doha Round are known.
The Committee has, for many years and with limited success, advocated the
implementation of a comprehensive free trade agreement with Europe.
Such an arrangement, apart from significantly improving access to the
European market, would send a strong signal to business on both sides of the
Atlantic that a less restrictive trade and investment climate was in place for
transatlantic commerce. While any initiative to enhance the Canada-EU relationship
should be viewed as a positive development, the long-term goal of achieving a
broadly-based free trade deal should remain intact. The Committee recommends:
That, noting the valid objective of engaging in regulatory cooperation
with the European Union within the proposed Canada-EU Trade and
Investment Enhancement Initiative, the federal government retain as a
goal the successful negotiation of a comprehensive Transatlantic Free
During his appearance before the Committee, John Wiebe made a compelling
case to expand Canada-Asia-Pacific trade.
This section largely presents the evidence that he provided.
Why Asia-Pacific? Because it
is recovering from the 1997 financial crisis, because it accounts for two
thirds of the world’s population and 40% of the world’s trade, and because
it has the fastest growing economies in the world.
Canada’s trade with Asia-Pacific totals $70 billion annually, second
only to trade with the U.S. However, we run a $30 billion deficit with that
region, so there is a considerable economic opportunity there.
On the negative side, Canada is losing market share in Asia as trade
growth is not keeping up with economic growth in the region.
In the short term, the current SARS situation may also serve to dampen
the economic relationship.
Northeastern Asia (China, Korea, Japan) accounts for the bulk of
Canada’s commercial interactions with Asia-Pacific. Add India for its economic potential and one would have a
short list of where Canada’s priorities ought to be.
China is the one economy that is worthy of close examination; Canada
ignores it at its peril. China’s
economy, the sixth largest in the world, is undergoing a thorough
transformation that is affecting the entire NE Asia region.
Its growth rate, officially 8%, is very high (see the graphs below on
GDP growth rates in selected countries), and it continues to specialize in
low-wage manufacturing. China has
also become a significant consumer and has now surpassed the U.S. as the
world’s leading destination for investment ($53 billion). Canadian trade with China has been rising at an annual rate
of 10% to 15%.
Japan is Canada’s second largest trading partner and is still the
number-two economy in the world (with 13.5 % of the world’s GDP), even
though its economy has been stagnant lately.
Its potential as a consumer economy is still enormous, although it is
not opening up as much as China.
Wiebe believes that Japan is on the verge of a major transformation,
both economically and politically, one that will be important for Canada.
other Asian countries are worth mentioning.
Korea has rebounded strongly following the financial crisis of the late
1990s. Per capita income last
year exceeded US$10,000, and the country is becoming an opportunity for
Canada. Canada’s current trade
with India is only $2 billion but is growing quickly – it was $900 million
in 1991. Services are the most
dynamic sector there for Canada to exploit.
According to Wiebe, Canada needs to do the following.
First, Asia is becoming increasingly inward-looking regarding trade,
and it behooves Canada not to be left out of the action.
Like the U.S. and Mexico, which are both trying to negotiate FTAs
there, we should be actively engaged in bilateral discussions with key
countries in the region.
Second, Canada should promote investment in Asia.
Assets are cheap there now (discounted from the 1997 crisis), so it is
a good opportunity to buy. Opportunities for trade will be created if we invest there
(i.e., trade follows investment).
Third, Canada needs to develop a better “brand” (i.e., image) in the
region. We are viewed as a
friendly, clean country with lots of clean natural resources and a willingness
to tolerate diversity. We are not
seen as a high-tech company or provider of high-quality industrial goods and
services. Here, reality does meet
perception, as our exports are dominated by natural resource products and
government leadership is required for trade facilitation, tariff reduction,
the signing of mutual recognition agreements and other initiatives.
Coordination and cooperation between governments, communities and
businesses will be required for trade with Asia to grow.
To maximize economic opportunities in Asia, Canadian trade policy will
have to become more focused on that region and more aggressive and innovative
in its approach. Like the U.S.
and Mexico, which are both trying to negotiate free trade arrangements there,
Canada should be actively engaged in bilateral discussions with key countries
in the region. The federal
government should also find new ways to augment the awareness of Asian
economic opportunities within the Canadian business community, assist firms in
improving direct business ties with Asian companies and develop a better
“brand” for its products. The
That the Government of Canada make free trade with Asia a priority and
initiate trade-liberalization negotiations with China, Japan, South Korea, India and members of the
Association of Southeast Asian Nations (ASEAN).
The federal government should also develop new strategies to
increase the interest of Canadian businesses in Asian markets, help
Canadian firms construct durable partnerships with Asian companies and
establish a better image for Canadian products in Asia.
Canada, along with the 33 other democratic countries of the hemisphere
(excluding Cuba), is negotiating a Free Trade Area of the Americas (FTAA); the
conclusion date is set for January 2005.
If one excludes our NAFTA partners, the FTAA region pulls in $3.8 billion
of our exports and $67.4 billion of our direct investment, which represents
17.3% of Canada’s total foreign direct investment.
The Committee did not receive a great deal of evidence on strengthening
hemispheric economic ties. George
McLean, the most active proponent of the witnesses we did hear on this matter,
called for Canada to seek out an enhanced role in the hemisphere.
However, Canada needs to maintain a balance between paying close
attention to bilateral relations with the U.S. and moving the hemispheric
agenda forward. Nevertheless, it
is his belief that Canada’s commitment to economic multilateralism in the
hemisphere benefits its strategic trade relationship with the United States.
is of the view that the FTAA appears to be a logical offshoot of the NAFTA.
He prefers the FTAA approach in that it brings together 34 different
countries into a single entity. Increased
integration in the hemisphere could provide benefits to FTAA members while
offsetting regionalism in other parts of the world.
Canada may not benefit much economically, but being a part of the deal
may protect the NAFTA benefits we already have.
In Washington, William Lash III expressed optimism regarding the
prospects for a hemispheric trade deal. He
noted that people have tended to underestimate the new Brazil and that the
U.S. and Brazil, two of the key countries in the FTAA negotiations, are now
actively communicating with each on important trade issues.
On the negative side of the ledger, McLean admitted that enthusiasm for
the FTAA had dimmed and that countries had adopted strategies aimed at
achieving bilateral trade liberalization.
His pessimism was shared by Kathleen Macmillan, who observed that the
FTAA negotiations were not showing much promise of reaching a meaningful
outcome, and Roy MacLaren, who suggested that prospects for the FTAA have
deteriorated as economic problems persist in South America.
He thought that this development had made it hard for Brazil to
negotiate (as part of MERCOSUR) from a position of strength.
A somewhat pessimistic view was also expressed by Gwyneth Kutz
(Counsellor and Alternate Representative of Canada to the Organization of
American States), who remarked that the 2005 FTAA target had been made more
difficult to attain by U.S. action on farm subsidies and steel imports and by
the lack of readiness on the part of the countries in the hemisphere for
comprehensive trade liberalization.
While in Vancouver, the Committee heard compelling evidence that, with
the elimination of the Economic Council of Canada (ECC) in the 1980s, the
federal government lost its capacity to undertake medium- to long-term
analyses of key economic issues such as those considered in this report.
Richard Harris pointed out that the demise of the ECC left research on
long-term economic issues in the hands of “think tanks”, which have their
own agenda, and the rather limited academic community. John Helliwell observed that the ECC had been a net
contributor to Canadian economic thought, while Theodore Cohn suggested that
the ECC had provided critical long-term, comprehensive analysis that is
It is difficult to disagree with the informed
views of these august experts. The
That the Government of Canada establish a Trade and Investment Council
to conduct comprehensive analytical research on external trade and
Exceptions include certain Canadian supply-managed farm products
(e.g., dairy and poultry) as well as American goods such as sugar, dairy
products, peanuts, and cotton.
See, for example, Canada, Foreign Affairs and International Trade
Canada, NAFTA at Seven: Building on a North American Partnership. 2002.
On the negative side, per capita income increases were smaller than
anticipated, as the large economies of scale that had been expected did not
This methodology was employed in Schwanen,
Daniel. Trading Up:
The Impact of Increased Continental Integration on Trade, Investment
and Jobs in Canada. Commentary 37.
C.D. Howe Institute, Toronto, 1997a.
 Marcel Côté, "Is Free
Trade Good for Canada? Ten Years Later the Balance is Positive," Cité
Libre, April/May 1998, p.48.
2003, the Canadian dollar has rebounded sharply owing to pronounced weakness
in the U.S. currency.
There is an extensive debate in the economic literature over whether
regional free trade agreements are beneficial to the long-run goal of global
free trade. Proponents of
regional agreements maintain that agreements like the FTA and NAFTA simplify
multilateral negotiations by reducing the number of players at the global
level. Critics believe that
regional agreements are artificially trade-distorting because they may
divert trade from outside the regional bloc to within the bloc for
Arlene Wilson, “NAFTA’s Effect on Canada-U.S. Trade and
Investment,” CRS Report for Congress 97-889, 26 September 1997
Richard G. Harris, North American Integration:
Issues and Research Agenda, Micro-Economic Policy Analysis,
Industry Canada, Discussion Paper Number 10, April 2001, p. 11.
Department of Foreign Affairs
and International Trade, Notes for an Address by the Honourable
Pierre Pettigrew at the 8th Annual Canadian-American Business Achievement
Award and International Business Partnership Forum, "The Canada We Want
In The North America We Are Building", Toronto, October 16, 2002, p. 6.