FAIT Committee Report

A. Trade

            Canada’s trade with the European Union continues to rise in absolute terms. Two-way trade in goods and services totalled $73.8 billion in 2000, up just over 100% from 1991. According to Statistics Canada, this country’s $21.0 billion in merchandise exports to the EU accounted for 4.6% of our total goods exports, while our imports, which have grown markedly since 1991, stood at $33.6 billion. Exports of services in 2000, in the order of $8.9 billion (against imports of $10.3 billion), were also significant. Over the years, merchandise exports to Europe have displayed moderate growth: a 75% increase, in absolute terms, over the 1993-2000 period.

            Europe is also the first destination for Canada’s exports after the United States. Excluding our neighbour to the south, the EU accounted for 47% of export growth between 1990-98, double the growth of exports to the Asian Tigers over that period. Exports to Europe have risen, on average, by at least $1 billion per year over the past six years — a not insignificant amount, though as Bertin Côté (Assistant Deputy Minister, Europe, Middle-East and North Africa, DFAIT), remarked to the Sub-Committee, one year’s growth in exports to the U.S. would exceed total Canadian exports to the EU. Set against our economic relationship with the U.S., the importance of Europe to Canada, both on the trade and investment side, is not always appreciated. Even so, the trade results should not be treated lightly, as they lead to considerable employment opportunities for Canadians.

            Susan Cartwright (Acting Assistant Deputy Minister, Europe, Middle East and Africa, DFAIT) informed the Sub-Committee that six of Canada’s top ten non-U.S. export markets are located in Europe. Within the EU, Canada’s two biggest export markets are the United Kingdom ($6.4 billion in merchandise exports in 2000), and Germany ($3.1 billion); these two countries also account for Canada’s largest sources of imports from the EU.

Source: Statistics Canada

                While the trade numbers appear positive on the surface, several caveats need mentioning. First, the EU’s share of total Canadian exports of both goods and services has been declining, having fallen from 13.2% in 1980 to 6.3% in 2000, as Canadian businesses have tended to concentrate on the United States market within the free trade environment. The U.S. share of our exports has grown steadily, by a full 20 percentage points in the 1980-2000 period. If one were to separate out the U.S. numbers, the EU’s share of Canadian exports has actually been relatively stable over that period. A sluggish European economy (compared with the strong U.S. one) during most of the 1990s and the appreciation of the Canadian dollar, in tandem with the U.S. dollar, against the leading European currencies have contributed to existing trade patterns. Trade barriers in Europe have also held back Canadian exports.

Source: Statistics Canada

            Second, Canada’s share of the European market itself has also been decreasing. The percentage of EU member-country imports originating in EU countries (i.e. intra-EU trade) has risen since 1980, displacing exports from countries such as Canada, the United States, Australia, and New Zealand. It would appear that the major development driving the above trade trends is the increased regional integration on both sides of the Atlantic in the form of NAFTA and the EU. Both the Canadians and the Europeans have become more oriented to their respective regional markets as the existence of the two free trade areas has concentrated trade within those zones (i.e. both intra-EU and intra-NAFTA trade have risen). European business people also now have many business opportunities at their disposal that were formerly unavailable to them (e.g. China, other Asian countries, the former Soviet Union).

            Third, even if one only considers EU trade with the non-EU rest of the world (i.e. taking away imports from other EU countries), Canada’s share of the net EU import market has also fallen, from just over 2.5% in 1980 to a little over 1.8% in 1999. In other words, Canada is losing markets in the EU to non-EU countries and has now become less important to Europe at a time when the EU market is expected to grow as a result of an expansion in membership, the establishment of a single currency, and the implementation of economic reforms. This reduction in Canada’s relative economic presence has made it more difficult to advance Canadian interests on a range of important matters.

            Despite these declining shares, there is some good news: Canada has significantly diversified its overseas export mix. Over the past 20 years, it has expanded the range of products delivered into the European market away from our traditional raw material exports. Though pulp and paper continues to be the largest export to the EU, natural resources have increasingly been displaced by higher value-added manufactured goods, including: high-tech goods such as aircraft and parts; industrial — primarily high-precision — machinery; telecommunications equipment and computers. The product displaying the highest recent growth (from $0.5 billion in 1994 to $1.5 billion in 1998) has, in fact, been aircraft and parts, especially regional jets.

            The shift to greater value-added products in our export mix was generally well received by the Sub-Committee’s witnesses. Mr. Paterson pointed to the huge European potential in the high-technology sector, with the European business-to-business market alone slated to grow to $2.3 trillion in the next five years. According to him, Canadian high-technology firms gear their marketing strategies almost exclusively to exports, with the U.S. market considered to be virtually the same as the domestic one.⁵ Once these companies have become established south of the border, they then start broadening their marketing horizons, with Eastern Canadian firms looking to Europe and those in the west focusing on the Pacific Rim. Indeed, the future of the Canada-EU trade relationship may hold considerable promise, since the Sub-Committee heard indications that interest in engaging in trade with Europe was rising among Canadian companies, especially in the high-technology, informatics, and telecommunications industries.

            According to Mr. Paterson, Canadian high-technology firms tend to employ one of two entry strategies when attempting to penetrate the European market: they establish a marketing and sales office in the targeted country; or they negotiate a strategic alliance with an already established company with the potential of eventually purchasing that company. The second option is less costly and therefore more popular, with the result that there is now considerably more emphasis being placed on forging alliances with European partners prior to attempting to exploit European markets. Among other things, these commercial links enable Canadian companies to bring new European technologies and products back into the NAFTA market for sale. Once established in Europe, the next step for Canadian firms is usually investment in local facilities, especially in manufacturing.

            Turning to the import side of the ledger, the level of imports of goods and services from the EU has remained relatively stable since 1980, and in 2000 represented about 10% of total Canadian imports. If we exclude the U.S., however, then our imports from the EU actually rose from 30% of the non-U.S. total in 1980 to 37% in 2000. Canada’s principal imports from the EU include industrial machinery, equipment and tools, automobiles, electronic tubes and semi-conductors, and crude oil. In recent years, aircraft imports (primarily Airbuses purchased as part of the replacement of the domestic fleet) have posted the fastest growth rate, from a level of $0.3 billion in 1994 to $2.5 billion in 1998.

CHART 3
Canada-EU Trade in Goods and Services

Source: Statistics Canada

            In 2000, the merchandise trade balance between Canada and the EU recorded a deficit of just under $14 billion. This imbalance between exports and imports has grown steadily since the mid-1990s, reflecting to a large extent both the disparities in economic growth rates between Canada and Europe and the process of integration on the European continent. The services balance also remains in a deficit position.

Source: Statistics Canada

B. Investment

            While exports have not kept pace with EU economic growth, foreign direct investment (FDI) has become the most dynamic element of the transatlantic economic relationship. In 2000, the stock of Canada’s cumulative direct investment in the EU amounted to $56.5 billion, with that of investment from the EU totalling $77.9 billion. The latter figure includes a substantial increase of $28.3 billion from the 1999 results, owing mainly to French company Alcatel’s purchase of the Kanata, Ontario-based Newbridge Networks, and the sale of Seagram Co. to Vivendi SA, also of France. This increase in French investment in Canada meant that in 2000 they surpassed Canada’s traditional number-two source of FDI, the United Kingdom.

            Even if one recognizes that 2000’s jump in FDI may have been atypical, Canada has enjoyed strong growth in investment with Europe during the past decade. Our investment in Europe rose by a more than healthy 174% over the 1990-2000 period, a rate of growth that exceeded the comparable figure for the U.S. (157%). In 2000, Europe accounted for almost 19% (up from 12% in 1983) of direct Canadian investment abroad. How this growth in investment will be affected by the bursting of the high-technology bubble in late 2000 and early 2001 remains to be seen. It is worth noting in this context that Nortel, for instance, has laid off a large percentage of its staff in France.

                According to Mr. Clarke, this FDI boom can be attributed to Canada’s high-tech firms, whose activities have supplemented the existing large-scale operations and facilities of traditional Canadian investors such as Bombardier, Nortel, Alcan, and CAE. The largest sectors attracting Canadian direct investments have been finance and insurance; metals and metal products; communications; and food, beverage and tobacco industries.

                Many Canadian firms have been strategically investing in certain European countries, which act as gateways into the European market as a whole or at least segments of it. The experience has been that Canadian firms have concentrated their activities on the United Kingdom — it is by far the number one destination for our investment in Europe, with over 350 Canadian firms established there — and Ireland. Together these two countries (United Kingdom $25.3 billion; Ireland $8.4 billion) accounted for 60% of Canadian investment in the EU in 2000. Our companies are also well represented in many western European cities outside of these two countries (e.g. Stockholm or Copenhagen serving the northern European market and Amsterdam or Brussels for mid-Europe).

                Increasingly, it has become accepted that investment has overtaken trade as the most important market penetration strategy available to business. Typically, the motivation behind FDI has been either to service the target market more easily or, in certain instances, to bypass trade barriers by setting up operations in that market. What has also become recognized is that, as a general rule, trade has tended to follow investment.

                Regarding Europe specifically, two-way investment has been displaying strong growth despite the fact that tariff barriers have been in a state of decline for several decades. In other words, investment is not being driven by the presence of barriers to market access. Instead, as the Sub-Committee heard, companies like Bombardier have invested in Europe because they have found that a local presence is essential to serve that market. Robin Schweitzer (Vice-President, Strategic Initiatives, Bombardier Transportation) told the Committee that a significant proportion of his company’s workforce is located in the EU, specifically in Germany. Investing in order to act like a local company decreases the likelihood that increased trade will result from investment (though, of course, strong sales to the EU will always help a firm’s bottom line). What is

                important for Canada is the extent to which Canadian investments in Europe are facilitating the overseas exports of Canadian products, including parts and components to the production process, rather than simply contributing more to transactions of an intra-European nature.

                The views of witnesses varied somewhat on this point. In addition to the already mentioned comments about Bombardier, Mr. Keyes remarked, "Europe is a very strong investment partner and while we hope that trade will follow investment, it's possible that at least some of that investment is made to facilitate intra-European trade rather than to increase the physical export of goods from Canada. It's really difficult to know." Mr. Clarke, on the other hand, placed a decidedly more positive spin on the question by claiming that our companies’ (e.g. Bombardier) investments in Europe have generated important export spinoffs, with the result that the federal government is now fairly positive about Canadian firms investing abroad.

                Canada’s investment in the EU has been roughly matched by the EU’s investment in this country. After the United States, the EU is Canada’s second largest source of foreign investment. Of all the non-U.S. investment in Canada, about a third originates in Europe; moreover, seven of the top ten investment source countries are European. EU investments in Canada are concentrated in the finance and insurance; food, beverage and tobacco; energy; chemical products and textiles industries. These investments benefit greatly the Canadian economy: some 3,500 European subsidiaries have been established in Canada, creating thousands of jobs.

CHART 5
Ten Largest Foreign Direct Investors in Canada, 1999

Source: Statistics Canada

            Europeans investing in Canada often do so in order to establish a beachhead for the NAFTA market. Success stories brought to the Committee’s attention include investments made by Alcatel and Vivendi as well as Swedish companies such as Ericsson, Astra, and Stora. Canada provides foreign investors, especially smaller firms, with a number of competitive advantages, such as a low exchange rate, a loyal and high-quality labour force, favourable social services and legal systems, and comparatively low business costs. Yet while Canada has enjoyed an absolute increase in incoming investment (an almost 100% increase during the 1988-2000 period), its performance in attracting European investment has, up until just recently, been somewhat disappointing when compared to the trends on outflows. How this situation can be dealt with is addressed in the chapter that follows.

CHART 6
European Investment in Canada by Sector, 1998

Source: DFAIT