Wednesday Night #1525

Canada’s case of the “Dutch Disease”
We become lazy when all we have to do is dig stuff out of the ground without having to work for it.
Canada has a good reputation because the other guys look bad.

International investors are pleased by Canada, but there remain underlying problems which most international investors and seemingly all Canadians underestimate ans/or ignore.  Like Australia, Canada is enjoying an export boom, while the cost of imports remains low.
In the 1960’s and 1970’s, the Dutch discovered natural gas, but hollowed out their  industrial base.  This, it is claimed, is what is currently happening in Canada which is at this moment running a current account deficit in the midst of an economic boom, with absolutely no narrowing of the productivity gap between Canada and the United States.  Many Canadian sectors, notably the automobile industry have been crushed.  We are spending rather than investing the patrimony left to us in form of the liquefied bones of our original non human ancestors many eons ago, as well  as the forests and  other commodities.
Largely due to either divine intervention or perhaps, good fortune, Canada finds itself with a conservative banking system and a plethora of commodities bringing unforeseeable wealth.  It does not appear, however, to Canadian decision makers, that this is, in effect, nature’s bank account held in our country’s name; and that squandering it on bribing the electorate rather than investing it in innovative technology will inevitably deny our nation the enduring prosperity that nature had intended for us.
With the decline of automobile manufacturing in Ontario, Québec is the only province that has retained a high technology industry in the form of the Bombardiers and Pratt Whitneys, as well as some manufacturing of pharmaceuticals.
Some countries in analogous situations, including Denmark, Sweden, and Taiwan, lacking commodities, have overcome the problem by investing successfully in innovative technology. Aside from the requirement of a high level of education, the system appears to work better in countries such as Singapore, where it is run by technocrats rather than by politicians. Another sine qua non is the separation of the mission of pension funds from the political goals of government. Other countries have unwittingly succumbed to the two-of-three-bear syndrome of childhood literature.  Unfortunately, Canadians have not as yet succeeded in electing a third bear government.  Ostensibly, for political reasons, rather than logic, the money that should be invested in updating and innovating technology has been spent on what might be described as political gain and/or to shore up any domestic industry that has proven able to compete on the global playing field.  A case in point: Québec’s support of the asbestos industry is viewed by most, if not all, Wednesday Nighters as indefensible.
Since 2004, Canada has enjoyed a boom such as has never been seen before in this country.  Once it is over, it is predicted that there will be the greatest recession of all time. When the dollar was very weak, a lot of companies, such as the those in the forestry industry, did not take advantage of the exporting possibility.  We have taken our  good fortune for granted, as is, without increasing our productivity.  We delight in the fact that we now appear much better off than the United States, but this has been more due to providence than applied intelligence.
Sweden has not been blessed with commodities of which we in Canada are so proud, but have used their intelligence to innovate and succeed. Norway, on the other hand, with the wealth of North Sea Oil, has wisely invested in a Sovereign Wealth Fund to invest in and protect the future of its citizens. We may be on solid ground at this point but the indefinite future is as uncertain as Dutch disease.  Apart from Greece, most countries can solve their problems through sharing the pain.  Canada should learn from this lesson.
The role of state intervention/investment
The role of the Caisse de dépôt and the late SGF may be cited as examples of both what is right and what is wrong with state-directed investment. The appointment of a professional, namely Roland Lescure, to the post of Executive Vice-President and Chief Investment Officer at the Caisse de Dépôt indicates a recognition of the need to develop rather than squander (at times for political reasons) our national heritage.

A forty-year cycle for commodities?
Recent financial research by the technical branch of Wednesday night has revealed a forty year cycle in bull markets.  According to this research, the current commodity cycle should peak in about ten years.  If accurate, this would give us a decade to recognize our national weaknesses, balance the budget, eliminate the national deficit, pay off the national debt, develop and implement new technologies and ensure the best use of Nature’s beneficent patrimony.  Failure to do so will inevitably lead to unnecessary difficulties, resulting, it is claimed by some, from the willingness to achieve short term political gain at the expense of long term national pain.

DSK and the IMF
In affairs of the heart (or lust), the innocence or guilt of Dominique Strauss-Kahn should and will be left to the court rather than the press, the latter, despite claims to the contrary, facing the difficult task of filling empty white sheets of paper with print, their success depending on their ability to attract readers, apparently depending more on scandal than on importance.  What has come into sharp focus, however is the sudden interest in the election of Chairman of the International Monetary Fund, a topic that hitherto would have elicited less interest than the comics, obituaries or even the editorial page.  Despite the fact that the financial world is most visibly shifting on its axis, the U.S. and E.U. hold over forty-nine percent of the votes, virtually ensuring the election of a European President.  French Finance Minister Christine Lagarde has announced her candidacy for the post of Managing Director of the IMF, an unlikely step if she were not certain of being elected, especially as tradition dictates that the Managing Director is European.  So much for democracy.

The Prologue

Someone will no doubt comment on the symmetry of #1525 and the date, however, we will leave that to the numerologists or, at least to what Gerald refers to as the numerate.
If you are reading this, we must assume that you have survived The Rapture, and if you are reading this, you may assume that we have also. Unless, of course, we have all been transported to a parallel universe where a volcano in Iceland (but one with a slightly more pronounceable name) is still erupting. [Update: California preacher Harold Camping said Monday his prophecy that the world would end was off by five months because Judgment Day actually will come on Oct. 21.]
Leaving such frivolous (or not, depending on your POV) topics aside, we propose an evening of serious economic discussion with our good friend Peter Perkins. The lead topic is sparked by a recent column by Diane Francis: Canada’s case of ‘Dutch Disease’ [for the non-economists and those with a more environmental bias, this has nothing to do with Dutch Elm Disease]
… Canada is weak and vulnerable because it has an advanced case of the “Dutch Disease.” This is an affliction caused by a booming resource sector which drives up the currency’s value, which in turn drives out exporters, manufacturing and tourism.
Canada’s looming predicament is well described in a report by The Macro Research Board (MRB), an independent investment consulting firm. Located in London and Montreal, the report is headlined O Canada (Part I) and Uh-Oh Canada (Part II). This study, and its conclusions, should be required reading for every politician and executive in Canada.
The reference to “Dutch Disease” elicited some interesting comments from some of the WN economists, so we have invited Peter to come and explain himself/the study, sharing with us whatever insights he wishes.

To get you started thinking about this, we share comments from a couple of our favorite Wednesday Night economists.

Tony Deutsch says:  I do not much recognize my understanding of the Dutch disease (inflation plus unemployment on an intolerable level) in Canada in 2011. Our problem, as that of the US and a number of European countries, is that as citizens we expect a level of government services and handouts which we as taxpayers are not prepared to pay for. This gap can be bridged by public borrowing for a while, but not forever. What you are now observing is that many other jurisdictions have now caught up with Quebec. The pioneer was New Zealand in 1986.
Guy Stanley replied: Neither of my economic analysis dictionaries (one English, one French) contains a definition, but Wikipedia has a well-informed article on the syndrome (http://en.wikipedia.org/wiki/Dutch_disease) and linking it to the issue of internal “real” exchange rates between “tradable” and “non-tradable” goods.
The bottom line, though, is the link between rising prices for resource-based commodities and  depressive effects on other traded sectors like manufacturing. Another argument in this context is the management one–higher exchange rates make it easier to import upgraded machinery & equipment and I’ve seen some data that suggests that may be occurring. In that case, we might actually begin to see higher productivity growth soon. That is really the key, I think, to “paying for” social services. Perhaps it’s worth making the point, though, that taxes do not directly fund health care or any other program. Governments issue the currency to pay for whatever they’re authorized to buy and the level of economic activity –which taxes and interest rates control–determines whether the outflows and inflows “balance”–In Canada’s circumstances–in which upgrading the “tradables” sector productivity is important along with expansion to reduce unemployment–a narrow deficit is probably inevitable until global demand for tradable goods recovers.

We cannot ignore the competition for the post of Managing Director of the IMF and the serious noises Europe and Asia Battle Over IMF Post coming from the developing economies, which feel (rightly, in our opinion) that they have a major stake in the world economy. [Update I: The Globe & Mail’s Kevin Carmichael writes that With IMF race heating up, a choice for Mr. Harper — “Unlike many of his counterparts, Mr. Harper is in a position to propose a world-class candidate. The Oxford-trained Mr. Carney is widely respected for not only his work at home, but his contributions to global policy discussions. There would be no accusing Canada of grandstanding. Mr. Carney’s economic credentials are as good as anyone’s.” Update II Reuters reports that the French government says China backs Lagarde for IMF – so much for Canada’s aspirations to be at the least everyone’s second choice.]
Related to this topic, we recently came across this December 2010 report in the McKinsey Quarterly: How the growth of emerging markets will strain global finance
“Surging demand for capital, led by developing economies, could put upward pressure on interest rates and crowd out some investment.
… as developing economies continue to pick up the pace of urbanization, the prognosis for companies that can tap into that growth over the next decade looks promising.
Yet all those new roads, ports, water and power systems, and other kinds of public infrastructure-and the many companies building new plants and buying machinery-may put unexpected strains on the global financial system.” Comments anyone?
Although the Liberal Party will decide on its interim leader on Wednesday, we have refrained from introducing the topic, given that individuals (grassroots/party members) have no say. So far, our own MP, Marc Garneau and Bob Rae are the only candidates and each has his own considerable strengths. The consensus appears to be that the LPC has a number of years in the wilderness during which, it is to be hoped, the Tablets are not handed down from On High, but developed by the best and brightest in the field. Please see the National Post op-ed by Steve Pinkus & Désirée McGraw: Liberal Party politics distract from real renewal. Meanwhile, it is hard for us to understand the apathetic reaction to Mr. Harper’s appointment of the three ‘losers’ to the Senate. Thank Heavens for Rex Murphy A Poor First Impression and Tasha Kheiriddin: Lose the election, head to the Senate ! Some of you may also be amused by another take on Mr. Ignatieff’s defeat, which the National Post could not resist, Harvard shocked by Canada’s rejection of Ignatieff.
The Middle East continues to be a preoccupation. President Obama’s meeting with Prime Minister Benjamin Netanyahu was far from promising; Syria is in turmoil; Yemen in an even worse state; the situation in Libya unresolved and if Joseph Massad writing for Al Jazeera is to be believed, “The problem with US policy in the Arab world is not only its insistence on broadcasting credulous US propaganda – easily fed to Americans, yet with few takers elsewhere in the world – but also that it continues to show a complete lack of familiarity with Arab political culture and insists on insulting the intelligence of most Arabs, whom it claims to address directly with speeches such as Mr Obama’s.” Altogether a pretty grim picture.
Another topic – if not for this Wednesday, for one in the very near future: Doug Saunders’ proposal of An unlikely path to aid: Paying to set up think tanks He argues that  “… Aid and economic assistance won’t help deal with the fundamental problems as long as the political system consists of a thin selection of largely unprofessional and self-interested people, without competition, checks and balances, or institutional knowledge that lasts beyond a sudden change of regime. That’s what people in Africa, Southeast Asia, the Middle East and Central America endlessly tell me.
Even in countries that are nominally democratic, there simply isn’t the depth of experience or professionalism to keep corruption at bay and institutional knowledge in place. When political parties are out of power, they tend to dwindle into feeble irrelevance [BEWARE Liberals!] The best minds in government are drawn to the private sector. Civil servants follow the rules, but have few resources to develop new ideas or fight the entrenched kleptocracy.
So what if, instead of attempting to pay for irrigation canals and nursing schools, some of that aid money instead went to pay for political think tanks?”
Obviously this is not for everybody, or all countries. As one Wednesday Nighter has pointed out, “Foreign aided think tanks are likely to be suspect right from the start.  Their legitimacy as neutral arbiters of knowledge would be challenged.  The ‘foreign hand’ is often blamed for terrorism, corruption, and all sorts of political and economic policy failures (favouring multinationals, etc).  They would be seen as a way for foreign interests to manipulate Indian minds. … I will not go into challenges of making the funding mechanism function impartially, honestly, “scientifically” or what sort of knowledge it could generate….” Still, we believe that it is an option that deserves consideration.
But, let us end on a lighter note, as is our tradition.
(1) Princess Beatrice’s AWFUL hat (you can’t forget the surrealist rendition of Moose antlers at the Royal wedding) sold for $123,235 on e-bay It will benefit UNICEF, which is great, but who would have bought it and what will they do with it?
(2) This wonderfully Canadian story:
Angry beaver roams through N.W.T. town
A large, agitated beaver attracted a crowd in Fort Smith, N.W.T., this week when it meandered through town and got hissy with a German shepherd.
Our favorite comment on the story: “The beaver heard it was ‘The Rapture’, gave away his stuff and then nothing happened! Boy was he pissed!
Which brings us back to where we started. We hope none of you gave away all your stuff and that you will be enraptured by the prospect of joining us this Wednesday.