GDP: Industrial Recovery

Canada’s industrial engine appeared to restart in December. Gross Domestic Product (GDP) expanded by 0.6% that month, led by particularly strong growth in resource extraction, utilities, manufacturing and wholesale trade. December propelled the fourth quarter of 2009 to 1.2% growth, the fastest quarterly growth in a decade.

Canada’s Recovery in Perspective

While encouraging, the Canadian recovery has been weaker than the American recovery. Our fourth-quarter growth was equivalent to an annualized rate of 5.0%. By comparison, the US Bureau of Economic Analysis recently revised its fourth-quarter GDP figure up to 5.9%. The American recovery’s strength reflects a proportionally larger and more effective stimulus package.

Despite rapid growth, economic output remains well below pre-crisis levels. Canada’s GDP peaked at $1,325 billion (chained 2002 dollars) in the fourth quarter of 2007 and remained at that level through the third quarter of 2008. It dropped to a low of $1,278 billion in the second quarter of 2009 and has since rebounded to $1,297 billion. We are $19 billion above the trough, but still $28 billion below the peak.

Corporate Profits and Investment

While corporate Canada ramped up production and collected 9.0% more profit in the fourth quarter, it cut investment in plant and equipment by 2.3%. With output still well below its previous peak, businesses must have significant idle capacity. (Statistics Canada does not release capacity-utilization figures for the fourth quarter until next week.)

Given unused capacity, it is perhaps unsurprising that Canadian business had little incentive to invest in additional capacity. However, this dynamic begs the question of why the federal government seems committed to pressing ahead with corporate tax cuts despite the federal deficit.

The ostensible rationale for corporate tax cuts was to spur business investment. But giving companies more after-tax profits will not induce them to add more capacity than they can use.

This week’s federal budget should reverse the corporate tax cuts implemented since 2007 or at least stop the further corporate tax cuts scheduled after 2010. The revenues retained could be redirected toward targeted tax measures tied to actual private-sector investment and/or toward public investments that would offset the lack of private-sector investment.