BUSINESS

IN PURSUIT OF PROSPERITY

Canada’s economy is falling perilously behind the U.S. Here’s how to fix it.

PETER SHAWN TAYLOR March 19 2007
BUSINESS

IN PURSUIT OF PROSPERITY

Canada’s economy is falling perilously behind the U.S. Here’s how to fix it.

PETER SHAWN TAYLOR March 19 2007

IN PURSUIT OF PROSPERITY

BUSINESS

Canada’s economy is falling perilously behind the U.S. Here’s how to fix it.

BY PETER SHAWN TAYLOR

* PROSPERITY REPORT

David Jones has seen the future of his business. In fact, he’s having it installed right now. It doesn’t involve plastics, flying cars, underwater hotels, or wiki-anything. The future looks a lot like half a city bus with a computer screen hanging off the back.

Jones is co-owner of J. Gerth Custom Toolage, a small metal-stamping and fabricating firm based in Waterloo, Ont. In an industry dominated by decades-old technology, a lowskilled workforce, declining margins and apparently unstoppable offshore competition, he’s decided to embrace the future with a brand new Italian-made Platino CP3500 laser cutter. It’s his $500,000 leap of faith, “Sure, this has been a huge decision,” says Jones, standing in front of his half-assembled meal-ticket-of-the-future. “But it’s also a nobrainer. If we didn’t get this machine, I wouldn’t have a business in five years.”

Surrounded by pallets of barbecue frames that make up one of his core contracts, Jones reflects on how his new computerized laser cutter will change forever the way he does business. “Right now, before I can turn out something like these barbecue parts, my customers have to spend $70,000 and six or seven weeks building a tool to run it. Or, they could have a tool made in China for $20,000 if they can wait three months.” These large upfront costs mean that most contracts are not economical unless Jones’s customers order several hundred thousand identical parts.

Once his laser cutter is operational, however, Jones will have a whole new perspective on efficiency. “When this is up and running, we’ll be able to do any sized order at any time,” he boasts. “If someone came in and said they wanted a prototype, I could give it to them in 24 hours. That opens up entirely new markets for us.” And for this new work, he’ll be able to charge higher prices. Jones also figures he will be partly insulated from Chinese competition since his turnaround time has been cut to mere hours.

If there is a worry, it’s that this new technology-heavy piece of equipment will radically change his labour needs: “Now we’ll need workers who can understand computers to operate this thing. And we have a permanent requirement for an engineer, where in the past we outsourced a lot of that work.” Still, the upside far outweighs any looming HR downsides. “If this makes as much sense as I think it does, in a couple of years we’ll have five or six of these machines,” he grins.

In fact, there may be a much bigger upside to Jones’s new machinery than just the fate

of his own small business. The instincts and implications of his fancy laser cutter might well represent the future of the entire Canadian economy, at least according to Roger Martin, chairman of the Ontario-based Institute for Competitiveness & Prosperity. Martin is advocating that Canada completely restructure how it learns, works, taxes, spends and invests, in order to create a far more productive and technologically-advanced economy. His objective is to catch up to the standards of productivity and wealth set by the United States. Martin calculates that closing the gap with the Americans would provide Canadian households an extra $ 12,000 a year, on average, to spend as they wish by 2020. Ignore this challenge, Martin warns, and the result will be a slow but steady drift toward economic irrelevance.

Canada’s productivity growth is lagging our rivals

MARTIN, WHO IS WELL-KNOWN as the dean of the Rotman School of Management at the University of Toronto, has made a personal crusade out of hectoring Canadian businesses, politicians and workers to pay more attention to national productivity issues and the ever-widening gap in prosperity between Canada and the U.S. The “Agenda for Canada’s Prosperity,” which Martin released this week at conferences in Ottawa and Toronto, is his latest and most ambitious plan for closing the gap in GDP per capita between the two countries—a chasm that has swollen from $3,300 a person in 1981 (all figures expressed as 2005 Canadian dollars) to an ominous $9,200 a person currently.

The trend of Canada’s economic performance relative to our neighbour is not good, and according to Martin, if this negative momentum is not arrested, Canada will end up on the sidelines as the U.S. slowly increases its dominance and wealth. “We can all agree that Canada is a fabulous place to live,” he says. “But I’m not convinced our position is as stable as people like to believe. The U.S. can afford a lot more education, health care, investment and scientific research than we can, and that has consequences. The existence of such a big gap over the long run is very dangerous to our economy.”

But convincing Canadians of that fact is an uphill battle. A new poll, conducted for Macleans by Innovative Research Group, shows 72 per cent of respondents are satisfied with their standard of living as it is. And just 12 per cent consider closing the prosperity gap to be a high priority. Many Canadians rightly feel that this country does well in comparison to most others. Among nations with more than 10 million population, Canada is No. 2 in terms of per capita GDP. But Martin maintains the fact we lag so far behind the U.S. is the only comparison that matters given our history, proximity and closely knit economies. “I haven’t seen anything in our research that suggests Canadians fundamentally don’t want to be No. 1,” says James Milway, executive director of the Institute for Competitiveness & Prosperity and lead researcher on the ‘Agenda for Canada’s Prosperity” project.

American companies spent $8,000 per worker on machinery in 2005, while Canadian firms spent just $5,700

Of course Canadians have heard warnings of the Canada-U.S. productivity gap before and responded with a collective yawn. But there may be a dawning sense that something needs to be done. According to the newMaclean’s poll, 45 per cent of Canadians do not believe the next generation will be able to afford a better standard of living than ours. Just 26 per cent think our living standard will continue to get better.

Martin promises that he is not going away. And the example of David Jones gives him some encouragement that his message may finally be getting through. “What he is doing is exactly right,” says Martin of Jones. “And his motivations are very important to understand. He is driven by equal parts of fear and

opportunity. Fear of competition and the opportunity of new markets. This is the reality Canadians have to wake up to.” Complacency, says Martin, is the enemy.

In order to make their productivity medicine more attractive, Martin and Milway have calculated the benefits of cutting the prosperity gap back down to its 1981 level of $3,300. The increased economic activity spurred by his prescription of lower taxes, a better educated and more flexible workforce would boost both personal income and taxes for all levels of government. According to their research, this would mean an extra $11,900 annually in disposable income for every Canadian household plus another $108 billion in government revenues to be spent on other priorities, such as health care or the environment. ‘Productivity is not the easiest sell,” admits Martin. “But extra $12,000 to spend however you like—every

year? That hits you with a wham!”

Indeed, polling numbers suggest Martin is right. Asked if they thought closing the prosperity gap is a “critical problem” in need of immediate action, only 12 per cent of Canadians agreed. But tell them that it could mean another $12,000 in their pocket each year, and the number calling for dramatic change jumps to 24 per cent.

Martin figures if politicians and the business community got to work immediately on the problem, the reward could be at hand in 13 years. But that will require a significant restructuring of the Canadian economy in terms of attitudes, institutions and policies. The first objective for Martin and Milway

Since 1993, education spending in the U.S. has risen by 3.3 per cent a year, compared to 0.2 per cent in Canada

is to address what they see as competitive lethargy among business leaders. Access to the latest equipment and technology is what boosts productivity among workers. In 2005, U.S. businesses invested an average of $8,000 per worker in all forms of machinery, equipment and software. Canadian firms invested just $5,700. “Our businesses are not investing enough in machinery and that is why we are not as competitive,” says Milway. “Investing in equipment is not just about efficiency. It creates more value.”

Simply demanding that businesses shell out more for equipment is unlikely to spur the economy into action. To improve corporate motivation for this sort of risk-taking, the “Agenda for Canada’s Prosperity” calls for a dramatic reduction in business taxes. The report even blue-skies the idea that corporate income tax could be eliminated entirely with a net benefit to investment, wages and prices. It’s a notion that is sure to spur debate.

“This isn’t about getting the rich out of paying taxes,” says Milway. “We tax businesses at higher rates than almost any other country in the world.” He advocates a tax regime that specifically encourages owners to invest in their businesses. He cites research from the federal Department of Finance that suggests a tax cut on capital cost allowances, which permit firms to write off investments quicker, provides more than 10 times the

benefit to the economy than cuts in consumption taxes such as the GST. “Cutting the GST may be good politics, but it’s bad policy because it will not improve

our productivity,” says Milway.

One of the more puzzling obstacles on the path to higher productivity is the Canadian labour market. On some measures Canadians actually outperform the U.S. economy— our demographic profile is more advantageous and we boast higher labour force participation. However, there is a significant difference in the level of work intensity between Canada and the U.S.—Americans work longer and harder than we do, and this explains a large part of why they produce more per capita.

Canadian employees work fewer hours, have more part-time jobs and take more vacations than their American cousins. We also have fewer workaholics—those putting in 50 hours or more per week. If Canadians simply prefer to spend more time at leisure than Americans do, then Martin admits it would be foolish to try to change the national culture. However, this is not entirely the case. His research shows that nearly a third of Canadian part-timers would prefer full-time work but cannot find it. This frustration rate among part-time workers is almost twice as high in Canada as compared to the U.S.

In addition to a massive business investment in technology, Martin also proposes that individuals and governments embrace education, particularly post-secondary and skills training, in order to improve the quality of the Canadian work force. “We need to increase both the supply and demand of highly educated people in our economy.” Of the $9,200 per capita gap, Milway calculates that $1,800 of it is due to lower educational achievement in Canada. “We need to get our workforce better educated,” he says.

Martin characterizes the current dominance of health care in Canadian government budgets as symptomatic of a national preference for consumption in the present over investment for the future. While Canadian and U.S. levels of health care spending by governments are remarkably similar ($2,900 per capita in Canada versus $3,000 per capita in the U.S.), American governments outspend us on education by a wide margin. In fact, since 1993 the U.S. has delivered a 3.3 per cent annual growth rate in public spending on education while ours has plodded along at a mere 0.2 per cent—a situation that bodes poorly for the prosperity gap.

The report also calls for a dramatic increase in the level of competition faced by all Canadian businesses. For instance, federal ownership regulations protect various sectors such as telecommunications and banking from legitimate overseas competitors. And despite our era of globalization, there are still many impediments to free trade in sectors ranging from food processing to biopharmaceuticals. Internal barriers even limit free trade between provinces. This sheltering from competition inevitably results in less innovation among Canadian firms and higher prices for customers. “Every time Canada has been exposed to international competition and free trade, we have done well,” argues Milway, outlining the massive benefits that flowed to Canada in the aftermath of the Free Trade Agreement with the U.S. and NAFTA. As a small country, Canada will benefit from access to larger markets and more customers, he declares. “We have to start believing in ourselves.”

To facilitate all this new investment and competition advocated in the “Agenda for Canada’s Prosperity,” the authors promote

the idea of increased business education. The notion of a business school dean arguing for more M.B.A.s may seem self-serving, but the authors defend their analysis on the basis that Canada out-produces the U.S. in science and engineering graduates per capita but lags significantly behind in business degrees. “Just putting in new machinery is not enough, you need a workforce that can rise to the challenge,” says Milway. “And the facts show that our business managers are not as well educated, and less sophisticated than their competitors in the U.S.”

Through lower business taxes, greater competition across the entire economy, more investment in technology by businesses and more investment in education by individuals and governments, the study proposes a dramatic realignment of Canada’s economy. And yet, not everyone is convinced that either the goal or the reward is worth the effort.

Neil Brooks is a professor of tax law at Osgoode Hall Law School in Toronto and the author of a recent report published by the Canadian Centre for Policy Alternatives comparing 19 industrialized nations on a variety of social and economic indicators. “Aiming for U.S. per capita GDP appears to be totally misguided,” he says. “On nearly every indicator we looked at, the Americans were at or near the bottom. They have the highest rates of poverty, the greatest degree of insecurity and inequality. Their health outcomes, on average, are the worst. So are their education outcomes. They may have more obscenely rich people than we do, but that doesn’t make the typical family any better off.”

As for the notion that we could all become wealthier if we accepted Martin’s challenge, Brooks asks: why bother? “I can’t imagine why anyone would want to work as hard as the Americans,” opines Brooks, an ardent supporter of taxation and public spending. “At the end of the day we should be concerned about whether we are enjoying life and leisure. Working harder to get an extra $12,000 a year isn’t going to make anyone any happier or more satisfied with their life.”

For Martin, however, the quest to close the gap with the U.S. is about aspiring to something higher—seeking out future success rather than accepting current satisfaction. “I think it is unbecoming of Canada not to achieve our full potential,” he declares. “Yes, we are a great country now, but there would be so much more possibility for greatness if people paid attention to this issue.” M

The Innovative Research Group surveyed 3,286 Canadians from its online Canada 20/20 panel between March l and March 4,2007 The survey has a national margin of error of +/-1.71 percentage points, 19 times out of 20.