Is Oil Driving Our Economy?

It is, according to a major story by Barrie McKenna in today’s ROB.

The story is full of telling anecdotes which ring more or less true. But I doubt that higher oil prices are, on net, a plus for the total Canadian economy in terms of either GDP or employment.

True, high and rising oil prices will (often with a significant lag) boost real investment in the oil producing sector which generates additional purchasing power and government revenues in the oil producing regions. Increased investment also boosts activity in sectors selling goods and services to the oil producing sector, a boost which extends to non oil producing regions.  As the story notes, the boost to the oil sector is also shared with other regions to some degree through labour migration.

On the other side of the ledger, high levels of foreign ownership mean that higher rents in the oil sector may flow through to foreign shareholders rather than be immediately re-invested in Canada.

More importantly, high oil prices reduce consumer purchasing power which will result in reduced demand in most other domestic economic sectors, from housing, to retail trade, to manufacturing for the domestic market.

Moreover, high oil prices have a major depressing effect on the US economy which is, of course, both our largest export market and a major net importer of oil.

Further, to the extent that the Canadian dollar has become a petro-dollar, higher oil prices will raise the exchange rate of the Canadian dollar against the US dollar (in which currency oil is priced.) A higher Canadian dollar reduces revenues from oil exports, and also squeezes output and jobs in other tradeable sectors, notably manufacturing but also some sophisticated services. (A high dollar, does, of course, come with a few pluses such as reduced import costs.)

I recollect that high oil prices used to be considered a  significant net negative for the Canadian economy when run through economic models, and that was not so long ago.  True, the oil sector has become relatively larger with the decline of manufacturing, but I doubt that the sign has switched from negative to positive.

But I stand to be corrected.

A minor quibble – oil and gas prices seem to have become delinked with the rise of internationally traded LNG and shale gas. Oil prices may be high, but natural gas prices are very low compared to recent highs.

9 comments

  • Okay maybe I am missing something here.

    Manufacturing directly employ close to 1.7 million workers in Canada.

    Oil and gas employ how many directly? Maybe 400k. I don’t see how this article carries water.

    The size of the Alberta/sask economy when compared to the manufacturing based Ontario and Quebec, in terms of high quality jobs- contra manufacturing and oil and gas.

    I don;t understand that argument. Of course I measure the economy in terms of the number of high quality jobs. I don;t see to many workers extracting oil rents, in fact they ship a good percentage out of country for refining and other value adding.

    Wow, I think Andrew you need to take the gloves off on this one.

    Truly I was blown away by that article today. I must live in a different economy.

    Not to mention downstream jobs and those job multipliers which must be a whole lot more than oil and gas. I did not see one substantive number in that article that would even remotely make such ground breaking sea changes.

    Yet there is was, a grand bugling and thumping around on the economic stage today, that I would suggest, blows loudly for the Harper economic discourse in preparation for the election. “We don’t need manufacturing, we can all move to Alberta/Sask and drill for oil and gas.”

    The beauty of that discourse is, it gets Canadians wanting to believe the whole ethical oil thingy as well as such discourse, ties the environment to the economic success of all Canadians.

    This is of course complete bunk and it must be debunked.

    Gees the irresponsibility of the business writers, as I dare not say economists.

  • High oil prices should be a net benefit for Canada as a significant net exporter of oil. The problem, as Andrew notes, is that oil-price gains largely accrue as higher corporate profits which are not necessarily reinvested in Canada. If governments were capturing an appropriate share of oil rents, the net benefit for Canada would be unambiguous.

    It strikes me that higher oil prices must increase nominal GDP. Here are the changes in nominal GDP between 2008 and 2009, when oil prices plummeted:

    Canada: – $72.4 billion (-5%)

    Petro Provinces
    Alberta: – $44.4 billion (-15 %)
    Saskatchewan: – $8.9 billion (-14%)
    Newfoundland: – $6.7 billion (-21%)

    Central Canada
    Ontario: – $6.3 billion (-1%)
    Quebec: +$1.0 billion (+0%)

    Andrew, I assume that your reference is to real GDP?

  • Erin, I am not at all sure that it is axiomatic that there is a net benefit for Canada from higher oil prices just because we are a significant net oil exporter. That equation does not capture the effects of higher oil prices on the exchange rate or on effective demand for non oil exports in the US market.

    A recent Bank of Canada research piece on the effects of the commodity price boom does find a significant increase to gross national income due to terms of trade effects – but also a major decline in non energy exports to the US; loss of Canadian market share in the US; and a significant hit to Canadian productivity growth. I would surmise – though they do not argue this – that the net employment and job quality effects were negative due to the scale of manufacturing job losses vs small gains in direct employment in the very high productivity/increasingly high wage extractive sector. Wages lagged outside the extractive sector and the commodity boom provincial economies.
    http://www.bankofcanada.ca/en/review/autumn08/dupuis.pdf

    Also, and this is not captured in any national net impact number , it is hard to see how “Canada” truly gains from being a net oil exporter when the provinces which are net oil exporters only have 15% of the total national population, and there are limited mechanisms to share resource rents.

  • Marc Lee posted some Statcan numbers here that showed investment intentions for 2008 in the tar sands ($19.7 billion) as being about equal to investment intentions in all other manufacturing industry ($19.6 billion). This compared with tar sands investment representing one-tenth of other manufacturing investment a decade earlier.
    I recollect Jim Standford presenting some numbers comparing auto and tar sands, and showing one replacing the other in trade. Barrie McKenna made a similar point.
    The 1988 FTA signalled a U.S. capture of Canadian energy resources. It is now well underway.

  • Andrew, but why do high oil prices drive up the Canadian dollar? According to Jim, the main transmission mechanism is that they prompt foreign investors to buy Canadian dollars to buy equity in Canadian oil companies. If governments were not leaving so much resource rent to the companies, that dynamic would be much less pronounced.

    Canadian governments are doing an atrocious job of distributing the gains from high oil prices. But that does not mean we should aspire to sell our oil at lower prices.

    Even if we should wish for lower oil prices, that is not much of a policy solution. It seems to me that we should focus on resource royalties, monetary policy, energy efficiency and other practical responses to high oil prices.

  • I’ve been struck by a couple of things lately.

    One is seeing large planes in relatively smaller cities such as Windsor and Sydney spilling out workers from direct flights to and from their temporary jobs northern Alberta and back to home. Workers are no longer much “goin’ down the road”, but instead becoming part of a major transient interprovincial workforce that works for short stints in other provinces. In many cases, I suspect high oil prices and our high petrodollar helped lead to the loss of the jobs they would have otherwsie had closer to home.

    This holds for mining as well. There are mining and resource ghost towns scattered across the north (one entire townsite was for sale for $250K when I was in the Yukon!). Most resource & mining companies now just tend to have workers on few week shifts without building communities.

    Also one other thing I noticed, in 2008 for the first time in three decades and perhaps for the first time ever, firms in Ontario didn’t take the lion’s share of corporate profits. In that year, corporate profits in Alberta exceeded those of Ontario, according to Statscan’s provincial economic accounts. Ontario’s share sank to 27% of the total while they had previously averaged over 40% from 1981 on. While profits from manufacturing and finance have since recovered, this was quite a shift.

    http://www.statcan.gc.ca/pub/13-018-x/13-018-x2010001-eng.htm

  • A couple points-

    first up did McKenna stated that the oil in gas industry would create upwards of 500K per annum. That is a remarkable. The industry in terms of direct jobs, according to LFS data in Dec. 2010, no larger than 300k according to employment count by NAICS.

    Lets look in terms of GDP.

    Source: Statistics Canada, Gross Domestic Product by Industry, 2001 to 2009

    GDP in the Manufacturing sector decreased from $181.1 billion in 2001 to $151.0 billion in 2009. The decrease in GDP reported between 2001 and 2009 represented a compound annual rate of 2.0%. Between 2008 and 2009, the total value-added of the Manufacturing sector decreased by 5.2%.

    GDP in the Mining, Quarrying, and Oil and Gas Extraction sector increased from $51.2 billion in 2001 to $51.5 billion in 2009. The increase in GDP reported between 2001 and 2009 represented a compound annual rate of 0.1%. Between 2008 and 2009, the total value-added of the Mining, Quarrying, and Oil and Gas Extraction sector decreased by 3.5%.
    I do realize there is a refining component so lets look it up as well

    GDP in the Petroleum and Coal Product Manufacturing subsector decreased from $3.4 billion in 2001 to $3.0 billion in 2009. The decrease in GDP reported between 2001 and 2009 represented a compound annual rate of 1.3%. Between 2008 and 2009, the total value-added of the Petroleum and Coal Product Manufacturing subsector decreased by 2.8%.

    As to reason high oil is a problem CMA listed this as the 2nd biggest factor effectng manufacturing. Increasing and Unpredictable Energy Costs

    The manufacturing sector has also been adversely affected by increasing input costs. Energy-intensive manufacturing industries such as pulp and paper, chemical, petroleum refining and primary metal industries make up approximately 29% of Canada’s manufacturing GDP,[13] and these industries have been hit particularly hard by increasing energy (electricity, fuel oil and natural gas) costs. Between the first quarter of 2000 and the fourth quarter of 2005, manufacturers saw their energy costs increase by 94.3% (see Figure 16). A
    Just a couple points.

    So if you don’t take my number of high quality jobs as a basis to determine which economy is most important to Canada, then surely GDP will enlighten us.

  • Toby, I was also struck by 2008 corporate profits being higher in Alberta than Ontario.

    Paul, I share your skepticism of employment numbers presented by oil-industry boosters. However, much of what has been happening in the tar sands would be counted as output and employment of “construction” rather than “oil and gas extraction.”

    Of course, GDP by industry is in chained 2002 dollars. Your numbers show that, holding commodity prices constant, the volume of resources extracted has not increased. That’s a critically important point.

    But higher commodity prices have hugely increased the value of resources extracted. To the extent those gains flow into corporate profits, equity values and the exchange rate, they likely have a negative impact on the wider Canadian economy. But to the extent that governments collect the gains and invest them in infrastructure or public services, they do create quality jobs and other good things.

  • Okay, I agree, there has been a large amount of construction jobs created. But even there, if you say include every construction job in Alberta, and add that into the extraction, and refining, we still are close to 600k short of a depressed manufacturing sector.

    I would love to raise this to a national debate as the oil sector will lose. Again it is another issue that the Tories would be put at odds with the electorate. Big oil is good for one or two provinces, and the electorate of the rest of the country knows it quite well. It would be a great time to open up the oil revenue sharing ideas you mention. The libs and ndp could make some traction with such a regional issue. As the article we are discussing states, it is one issue that is a sore spot. Personally I think it is a national debate worth having.

    If indeed we are moving to a more oil based economy, and Ontario is moving into the red, then it is time for some of that oil wealth to be shared a whole lot more.

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