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Canada’s Commercial Relationship with Asia: How Solid is it?

In this paper, we examine the proposition that Canada’s economic relationship with Asia has languished, or at least has not lived up to its potential. To do so, we draw on the conventional gravity model of international trade and investment and take advantage of the similarity between Canada and Australia in most of the elements that have been found to impact on the direction of trade in the gravity modeling literature. We argue that, when we take the ratio of Canada’s trade flows with Asian markets to Australia’s flows, the influence of the various other factors cancels out, leaving only the distance to Asian markets, the relative size of the Canadian economy to Australia’s and the relative degree of remoteness to third markets as the determinants of relative trade performance. Inspection of Australia’s and Canada’s trade data with Asian markets shows that Australia’s goods export advantage is heavily concentrated in a handful of commodities. Both Canada and Australia are major world exporters of ores and other mined products, mineral fuel and precious metals (HS 25-27 and 71), which we refer to as “mined commodities”. In Canada’s case, virtually none of these exports goes to Asia whereas in Australia’s case virtually all of them do. We show that, when we exclude these products from the analysis, the picture in respect of goods trade which Canada does contest with Australia generally falls into line with what one would expect given economic size and distance factors. We infer from this empirical regularity that excluding mined products from the comparison largely corrects for the difference in relative remoteness. For services, we make no adjustment for remoteness and allow the data to speak for themselves as to whether this represents an important determinant in the relative size of trade flows. We construct a wide range of scenarios based on alternative measures of distance, alternative estimates from the economic literature of the elasticities of economic size and distance, and by allowing for annual variation in economic size versus using period averages. We report the ratio of actual to expected levels of trade based on the mean across all the scenarios, under the assumption set that sets the lowest bar for Canada to match or better Australia’s performance, and under the assumption set that sets the highest bar. By far the most important factor in establishing the expected level of trade for Canada is the distance elasticity. As regards the assessment of Canada’s relative performance, we give greater weight to export performance since this is the side of the two-way trade activity that is of primary policy focus for governments. On this basis, we find that Canada gets a “B” in its trade in goods and services with China plus Hong Kong (taken as one trading entity), Japan and India. Canada manages only a borderline “C ” in Korea and a “C” in trade with the ASEAN 6.