David Dodge: Challenges facing Canada's manufacturing sector
Opening statement by Mr David Dodge, Governor of the Bank of Canada, to the House of Commons
Standing Committee on Industry, Science and Technology, Ottawa, 30 May 2006.
* * *
Good morning, Mr. Chairman and members of the Committee. It is an honour to be invited to appear
before you and to help you in your examination of the challenges facing Canada's manufacturing
sector.
As far as I am aware, this is the first time that a Governor or Senior Deputy Governor of the Bank of
Canada has appeared before this committee. So I thought it would be appropriate to begin with a very
brief description of the framework in which the Bank conducts monetary policy. Then I will talk about
the global forces that are posing challenges for our manufacturing sector, and what they imply for the
economy as a whole. Finally, I will share with you some of the evidence we have gathered about how
Canadian manufacturers are adjusting to these challenges.
The Bank of Canada Act calls on us to "mitigate ... fluctuations in the general level of production,
trade, prices and employment, so far as may be possible within the scope of monetary action, and
generally to promote the economic and financial welfare of Canada." Over time, it has become clear
that the best way for us to fulfill this mandate is to keep inflation low, stable, and predictable.
Specifically, we aim to keep the annual rate of consumer price inflation at the 2 per cent midpoint of a
1 to 3 per cent target range.
To keep inflation on target, we try to keep the economy operating at its full capacity. By this, I mean
that we aim for a balance between total demand and total supply in the economy. Simply speaking, if
strong demand for Canadian goods and services were pushing the economy as a whole against the
limits of its capacity, and if inflation were poised to rise above the target, the Bank would raise its key
policy interest rate. This, in turn, would push up other interest rates and help to cool off demand, thus
keeping supply and demand in balance and inflation on target. On the other hand, if the economy as a
whole were operating below its production capacity, and inflation were poised to fall below the target,
the Bank would lower its key policy rate to help stimulate demand. By maintaining low and stable
inflation, monetary policy helps to keep the economy operating at full capacity and promotes greater
stability in economic output. This point is crucial in helping the economy adjust to global economic
forces.
A key element of our monetary policy framework is the floating exchange rate. Let me be clear: we do
not have a target or preferred exchange rate for the Canadian dollar. But it is an important relative
price in our economy. In terms of the Bank's monetary policy, exchange rate movements give us
information about economic developments that may be having a direct impact on demand in the
Canadian economy. And the movements themselves have their own effect on demand, by changing
relative prices for Canadian goods and services and by shifting demand between domestic and foreign
products. The challenge for the Bank is to evaluate these movements, together with other data, and
set a course for monetary policy that works to keep demand and supply in balance and inflation on
target.
When the Canadian dollar rises or falls, we try to determine how much of that movement is due to
changes in world demand for our goods and services, and how much is due to other unrelated factors.
It is important that we understand the causes of exchange rate movements, because the implications
for the economy-and the appropriate monetary policy response-depend on the cause of the
change. We set out a fairly detailed explanation of this in our January 2005 Monetary Policy Report
Update, which is included in your package.
That's a very quick look at our framework. Now, let me apply that framework to our current situation. I
am sure that the members of the committee are well aware of the global forces that are affecting not
just Canadian manufacturers, but the entire economy. In the past few years, we have had
extraordinarily strong global economic growth. There has also been an unusually high amount of
liquidity in the global economy, which central banks are now in the process of removing. Meanwhile,
we have seen a persistent and growing current account deficit in the United States, mirrored by large
and growing current account surpluses elsewhere, especially in Asia and among many oil-exporting
countries. These imbalances reflect the financial flows associated with mismatches in savings and
investment on a global scale.
We have also seen the emergence of China and India as economic powerhouses. The strong growth
in these countries and other emerging-market economies has led to sharply higher prices for many of
the products that Canada produces. At the same time, intense competition from manufacturers around
the world has led to lower prices for many consumer durable and semi-durable goods. All of this has
resulted in an improvement in our terms of trade and higher incomes for Canadians-particularly for
producers of commodities, metal products, energy products, building materials, and machinery. We
have also seen a rapid rise in the external value of the Canadian dollar. This increase largely, though
not entirely, reflects stronger global demand for Canadian goods and services.
Against this backdrop, Canadian manufacturers have been getting more efficient. Indeed, we have
seen a tremendous rebound in manufacturing productivity-output has increased even while the
number of jobs has been reduced. This has been very difficult for many workers in the manufacturing
sector who have lost jobs as a result of these changes. We all recognize this. But we must also
recognize that this reflects, in part, the fact that many firms are taking advantage of the strong
Canadian dollar to invest in machinery and equipment in order to improve their productivity. These
productivity gains bode well for the future-improved efficiency helps to improve our international
competitiveness and our ability to adapt to shocks and to shifting trends in the global economy.
Indeed, we see businesses across the country working hard to adjust to an increasingly competitive
environment. We have been tracking this adjustment through our regular communication with business
groups, manufacturers, and exporters, as well as through the Bank's Business Outlook Surveys. You
Business Outlook Survey
will find a copy of our spring in your package.
Our surveys have highlighted three areas that are posing problems for manufacturers-labour
shortages, the appreciation of the Canadian dollar, and competition from Asia. Let me say a few words
about each of these areas. Our surveys have shown that the key problem for some manufacturers, like
firms in other sectors, has been a shortage of skilled labour. But despite the difficulty in attracting
skilled labour, our most recent survey showed that hiring intentions remain strong across most sectors
and all regions. Many of the workers who will be hired to alleviate labour shortages in expanding
sectors are those who are being released from sectors that are growing less rapidly.
Since 2003, when the Canadian dollar began to appreciate, we have regularly asked businesses how
they have been adjusting to the appreciation of the Canadian dollar. Roughly half of the firms
surveyed say they have been adversely affected by the rise in the Canadian dollar. Most of these are
firms that are highly exposed to international trade-including manufacturing.
Finally, many firms that we surveyed also say that they have felt the effects of increased competition
from Asia, in addition to significant increases in their input costs, particularly higher energy costs.
In response to these three challenges, many firms have undertaken a profound restructuring of their
businesses. Indeed, some 80 per cent of manufacturers surveyed reported changing their operations.
Many firms are repositioning themselves to specialize in higher value-added production. Some have
abandoned labour-intensive mass production in favour of small lots and customized products. Many
are improving the quality of their products and services. Others have transferred labour-intensive
production offshore, but have kept and developed their high-skilled operations in Canada.
Let me make one last very important point. From our discussions and our analysis of the data, it is
clear that manufacturing is not a monolithic sector. There is no single strategy that will work for every
manufacturer, because every business is unique. Some manufacturers face sector-specific
challenges. Others, such as those producing machinery and equipment, are facing booming demand.
But while each business is unique, most of them are looking for ways to adapt to, and thrive in, these
challenging times.
Paul and I will now be happy to answer your questions.