Current Accounts or: How I Learned to Stop Worrying and Love the Deficits

Statistics Canada puts out a lot of data on a regular basis (though not as much as an economist might like). While a lot of these series get hardly any attention (the Farm Product Price Index rarely gets even a sentence or two in the newspapers), there are a handful of data reports that always guaranteed to make the paper, including the report on Canada’s international merchandise trade.

Since changing jobs, I no longer pour over this report like I once did. However, I was forced to give Canada’s current account position some thought this week when I a good friend of mine pointed out a CNBC column to me and asked me if these deficits were a big story.

But, to me the shrinking trade surplus with the US (lowest since September 1992) and the large current account deficit doesn’t strike me as a big story and really isn’t even that’s surprising. As for why, well let’s begin with a basic identity used to discuss the component parts of GDP. That is:

Y= C+I+G+(X-M)

Where:

Y is GDP

C is Consumption

I is Investment

G is Government spending

(X-M) is net exports (with X = exports and M = imports).

When we’re talking about the current account deficit, that’s the (X-M) section of the identity. Unlike the other components, the size/value of (X-M) is not something that can be simply be determined domestically, rather it’s heavily influenced by the global economic situation. According to the October report, Canada was reported as having a trade deficit, meaning that M > X. To think of this in a slightly different (and a little simpler way), this can also be thought of as meaning that in October  Canadians bought more from the rest of the world than the rest of the world bought from Canada. Given the economic and financial situation in the rest of the world, this is hardly a surprising fact.

At the moment Canada has a relatively strong economy right now while our traditional trading partners (chiefly the US, but also Europe) are troubled economically/fiscally and China is beginning to see inflation across its broader economy. Compared to the problems faced in these other countries, things in Canada are pretty good, leaving Canadians with a higher economic confidence, which makes them more willing spend. Also, this strength/stability of the Canadian economy has caused the loonie to hold strong against other major currencies. An important part when it comes to trade discussions, because a stronger loonie means that goods other countries cost less, so they’re more attractive for Canadians to buy.

So, when you combine the confidence that Canada has (which our trading partners lack) and the stronger currency (which makes foreign goods cheaper for Canadians, but Canadian goods more expensive for foreigners) then it’s not a shock that Canada has a trade deficit or that the surplus with the US has narrowed. A quick reading of economic conditions says this should be the case.

Also, it’s not a given to me that having a short-term trade deficit (as Canada has had since the recession began) is a bad thing. Most high tech machinery and equipment is manufactured outside Canada (in the US, Germany, etc). So one thing that could be happening now is the with the stronger dollar, the M&E (which increases productivity typically) is cheap for Canadian business to buy, so they’re buying them right now (when the M&E is comparatively cheaper) to get higher future returns. This is a good thing for the Canadian economy and this investment is something that actually showed up in the Q3 GDP numbers.

***This post is an edited and amended version of an email.***
***Thanks to my friend for the question, gave me some much needed inspiration for the post.***

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