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The Resource for the Global Finance Profession

Losing Ground: The U.S. is Canada's Top Trading Partner, For Now

  • By Andrew Deichler
  • Published: 2011-06-10

Excerpted form the June cover story in Exchange magazine. 

Millar Western Forest Products in Edmonton, Alberta, once had a thriving lumber business with customers in the United States. But higher tariffs as part of the 2006 Softwood Lumber Agreement between the U.S. and Canada made it more expensive to sell lumber south of the border. Then the U.S. housing market collapsed, taking lumber demand with it.

But Millar Western is not fretting. That’s because demand is coming from another country—China.

“There’s been a material increase in the amount of demand for lumber out of China,” said Kevin Edgson, CFO of Millar Western. “This is new demand that didn’t exist before.”

Across the board, Canadian lumber producers are seeing an abundance of interest from China. West Fraser Timber Co. Ltd., the largest producer of softwood lumber in North America according to WOOD Markets Group, exported 30 percent of its shipments to China in the first quarter, up from 20 percent in the same quarter a year ago. “We anticipate strong growth in this market as long as the Chinese economy remains healthy,” said West Fraser CEO Hank Ketcham, during the company’s Q1 earnings call. He also noted that business with the U.S. has struggled, due to the depressed housing market.

Canfor, another of Canada’s largest lumber producers, saw an even stronger uptick, reporting a 50 percent increase in Q1 exports to Asia from a year before. “We continue to believe that the road to recovery for the U.S. housing market is likely to be a long one, but we are clearly seeing the benefits of the work we have done in developing our Asian markets, particularly China,” said Jim Shepard, president and CEO, in a statement.

Canada still does more business with its North American neighbor than any other nation. But total merchandise trade with the U.S. has fallen from 76.3 percent in 2001 to 62.5 in 2010, according to Statistics Canada, the nation’s national statistical agency. Canadian trade with China has increased threefold during that period.

GRADUAL DECLINE
According to the review, Canadian exports increased 9.5 percent last year to $404.6 billion, with industrial goods and materials leading the way. While exports to the U.S. jumped 10.5 percent to $298.5 billion last year, they have dropped from 87 percent in 2001 to 74.9 percent in 2010. In contrast, exports to China went from 1.1 percent to 3.3 percent over the past decade. In 2010 alone, exports to China jumped 18.7 percent to $13.2 billion.

Canada’s imports market also saw an uptick in 2010, increasing 10.6 percent to $413.6 billion. The U.S. imported $203.2 billion in merchandise, up 8.8 percent from 2009. But U.S. imports have dropped from 63.6 percent to 50.4 percent over the past decade, while Chinese imports climbed from 3.7 percent to 11.0 percent. For 2010, China’s imports increased 12.1 percent to $44.4 billion.

According to a national poll com-missioned by the Asia Pacific Foundation of Canada, two-thirds of Canadians believe that China will have greater influence in Canada than the U.S. in the next 10 years.

Not everyone believes that China will surpass the U.S. in economic influence in Canada. Kerry Biggs, treasurer of Vancouver-based GCT Global Container Terminals and Chairman of the AFP of Canada Board of Directors, believes that the U.S. will continue to hold a greater influence in Canada than China. “Canada and the U.S. still have the largest trade relationship and in my view the U.S. will not be overtaken by China in the next 10 years even with the significant increases we have seen given China’s meteoric rise as a manufacturing powerhouse,” he said. “I believe there will continue to be a shift and that China will continue to make up more and more of Canada’s overall trade than it is now, which in my view is a positive, as it diversifies Canada’s reliance on one economy (i.e. the U.S.).

“If you want to talk about the next 20 to 25 years though, we may have a different story.”

Analysts cite several reasons for Canada’s shift away from dependence on the United States. For starters, U.S. businesses are doing significantly less trade due to continued effects of the financial crisis.

“The U.S. economy has been at a slower growth rate than some of our other partners,” said Rob Stanley, CMA, vice president, treasurer at Samuel, Son & Co. Limited in Mississauga, Ontario. “I think as the U.S. grows and the GDP gets kicking along, we could see the decline stop.”

Meanwhile, the Canadian dollar’s strength has also become a major factor; in April the CAD climbed above $1.05 USD—the highest level in four years. “We have gone through a whole period over the past decade where Canada has seen profit margins eroding, so they’re having to compete more with the U.S.,” said Amarjit Sahota, CEO of Klarity FX in San Francisco. “And the Canadian government has urged exporters and manufacturers to become more efficient and take advantage of the strong Canadian dollar and look for alternative export markets.”

Added Stanley: “I would suspect one of the largest impediments to the trade between Canada and the United States has been the strength of the Canadian dollar.”

Globalization also is a factor, with emerging markets like China becoming key players. “In terms of exports, Canada is a resource-rich country for which China has an increasing demand,” said Arthur Kacprzak, CA, CFA, director, treasury services at Samuel, Son & Co. “The recognition of Canada by China as a significant partner in this area can also be seen in the surge of direct investment by China into Canadian resource companies.

“Imports, I believe, are also a function of growth and the establishment of China as a low cost manufacturer. Most imports were consumer products that can be simply sourced at a lower cost there, of which the strength in the Canadian dollar [and weakness of the Yuan] is definitely a big contributor.”

ON THE HORIZON
There might be some cause for optimism regarding U.S./Canada trade flow. After all, exports and imports between the U.S. and Canada did rise in 2010. Other positive signs include a 2.6 percent increase in foreign direct investment in Canada in 2010 to $561.6 billion CAD ($585 billion USD), according to Statistics Canada. The uptick was attributed to increased activity with the United States. Direct investment with the U.S. rose 5 percent last year to $306.1 billion CAD ($318.3 billion USD). Investment with all other countries, in contrast, fell 0.3 percent in 2010 to $255.5 billion. It should be noted, however, that the U.S. share of direct investment in Canada today is still more than 10 percent lower than in 2001. In contrast, FDI from the Asia/Oceania region has grown from 4.5 percent in 2001 to 11.3 percent in 2010, with much of the gain coming from China. The appreciation of the Canadian dollar led to a decrease in the value of Canadian direct investment abroad, according to Statistics Canada, despite stng investment in existing affiliates and M&A activity.

As the U.S. economy improves, many experts agree that U.S./Canada trade should strengthen, but China’s size and increasing demand should not be overlooked. “You have a market of 1.2 billion buying Canadian resources, compared to a U.S. market of 350 million,” said Peter Donnelly, hedging manager at Cancarb Limited in Medicine Hat, Alberta. “As China increasingly expands its industrial production capacity, there’s going to be a greater demand for Canadian resources to supply that.”

Some corporates see mixed results for the future. “I think in the long term there will be a rebalancing back to U.S. trade on the import side as costs of Chinese products will eventually increase (due to FX rates, inflationary pressures, socio-economic and political factors),” said Kacprzak. “On the export side I think we will continue to see a strong Chinese demand that may eventually outpace the U.S.”

Copyright © 2014 Association for Financial Professionals, Inc.
All rights reserved.

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