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Canada’s manufacturing sector isn’t competitive

U.S. manufacturing power re-emerging.

The state of manufacturing on both sides of the border has been attracting a great deal of interest over the past few months.

In the U.S., President Barack Obama made the revival of U.S. manufacturing a central theme of his 2012 state of the union address.  Here in Canada, Caterpillar’s recent decision to shut its Electro Motive locomotive plant near London, Ontario, and to transfer the work to one of the company’s plants in the American mid-west, has led to renewed concerns about the viability of manufacturing on our side of the border.

Canada has suffered a noticeable decline in manufacturing jobs since the 2008 recession, with employment in the sector falling to 1.76 million last year, down from more than 2 million in 2007. Today, manufacturing output in Ontario is one-fifth below the peak recorded in 2000, although it’s growing again after a sharp contraction in 2009. Even though manufacturing in Canada is in the midst of a cyclical rebound, as measured by both shipments and output, job gains have been few and far between.

Reasons for optimism

Despite the prevailing gloom, there are reasons to be optimistic about the outlook for North American manufacturing, particularly in the case of the United States. In the past two years the U.S. has added 430,000 net factory jobs. The latest business outlook survey published by the Philadelphia Federal Reserve reports positive indicators for manufacturing, as evidenced by new orders, shipments, capacity utilization, and exports as well as job growth. And looking beyond the near-term, several developments point to a sustained resurgence of manufacturing activity in the U.S.

1)    Business costs have fallen for many U.S.-based manufacturers. High unemployment and weak unions have kept a lid on labor-related costs. In the aftermath of the Great Recession, land and construction costs have declined across much of the country, strengthening the economic case for siting new plants and factories in some U.S. locations. General Electric, for example, has just announced that it is “re-shoring” the production of certain appliance products, shifting employment from plants in China and Mexico to a soon-to-be expanded facility in Kentucky.

2)    Slumping natural gas prices – coupled with the expectation that prices will stay depressed – are also good news for manufacturers, both in the U.S. and in Canada. According to a new PricewaterhouseCoopers report, the explosion of North American shale gas supply translates into billions of dollars in annual savings in the form of reduced feedstock and energy costs for North American manufacturers, which is important given the sector’s out-sized reliance on natural gas as an energy source.

3)    Rising business costs in China and some other emerging economies with export-oriented factory sectors is also a boon for U.S.-based manufacturers. China – the world’s biggest manufacturing nation – is experiencing double-digit wage increases along with escalating land, power and shipping costs. At the same time, the Chinese currency (the renminbi) has appreciated by approximately 30 per cent against the U.S. dollar since the start of 2005, erasing a small part of Chinese producers’ previous cost advantage.

4)    Strong productivity growth in the United States is also part of the evolving manufacturing equation. Unlike in China, where wage growth has outstripped productivity increases, the U.S. manufacturing sector as a whole has posted productivity gains well in excess of wage hikes over the past decade.  As a result, U.S. manufacturing unit labor costs – a measure of the cost of labor relative to the value of the output produced by that labor – have fallen, resulting in a significant improvement in U.S. industrial competitiveness.

5)    Finally, an expectation of continued high global oil prices provides a further spur for some U.S. manufacturers to consider re-shoring production by investing more at home. Coupled with the other costs and complexities associated with managing far-flung supply chains, higher shipping costs stemming from rising oil prices are likely to prompt more North American manufacturers to shift production closer to the-end markets where their goods are ultimately consumed.

Add it all up, and the outlook for manufacturing stateside is actually quite positive. In assessing what it describes as the “new manufacturing math,” a recent study by the Boston Consulting Group (BCG) predicts that, by 2015, manufacturing in parts of the United States will be just as economical as manufacturing in China across a growing array of product categories.

Canada will struggle

Where does Canada fit into this picture? Unfortunately, Canada will struggle to reap benefits from any resurgence in North American manufacturing. The reason is straightforward: our competitive position vis-à-vis the United States has deteriorated across much of the manufacturing sector. Since 2005, unit labor costs in Canadian manufacturing have been increasing far faster than comparable U.S. costs, to the point where the absolute all-in labour cost advantage that our manufacturers enjoyed over their American counterparts a few years ago has evaporated and is now moving into reverse. The principal factors behind the erosion of Canada’s manufacturing competitiveness are the stronger loonie, slower productivity growth, greater flexibility in U.S. labor arrangements, and lower investment by Canadian firms in machinery, equipment and innovation.

Canada’s dwindling competitiveness relative to the U.S. doesn’t augur very well for the future expansion of manufacturing activity in this country – even if broader global trends point to a brighter future for manufacturing in our neighbor to the south.

Jock Finlayson is Executive Vice President of the Business Council of British Columbia.

Source: Troy Media - GAI

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