This is not a simple question with a simple answer so let's start at the beginning. Canada's economy is not its own. No one should be surprised by that statement but a large part of our economy is out of our control. This is due to foreign investment.
But foreign investment is good; right? Isn't that what the government and the banks have been telling us? The answer to that is double sided. Yes they have been promoting it and yes it can be good but it can also harm us. Consider that foreign investment is a buzz word that is wide ranging. When Canada attracts investment from other countries it shows the world economists that we have a strong and resilient economy that is a good place to do business. This is exactly what everyone thinks and is led to believe what it is all about. That is only the window dressing.
Foreign investment comes in two forms, monetary and physical. Physical foreign investment occurs when offshore companies set up shop in Canada. They build factories, create jobs and contribute to the Canadian economy. For this they also get a profit. This is good for Canada and Canadians as long as the investment is intended to be permanent or at the very least, very long term.
The other type of foreign investment is monetary and comes in two forms. Foreign institutions putting money into the Canadian economy with the intent that they will make a profit either by returns from those businesses they invest in or when they sell those investments for a value higher than what they originally paid. Equally important is the fact that Canadian financial institutions can now invest abroad almost without restriction while also allowing foreign investment to come in almost without restriction.
These monetary investments are the potential danger to the economy in their flexibility and a lot of that flexibility comes from people. Consider it as a game of poker. You are holding three of a kind and your opponent keeps pushing up the stakes. Do you fold or stay in the game? Does your opponent have a straight or a flush? Will you draw to a full house or four of a kind? This is the game in the financial markets. The one who blinks first could be the big loser. So the game goes on hand after hand and eventually the big winner says they¡¦ve had enough and they cash in. Is the game over or do the players left try to recover their losses? This is the game of foreign investment put as simply as can be.
So, now to today. The dealer in the game is the Federal Government. They can control foreign investment through legislation or taxation, or both. They also have a bank; The Bank of Canada. The head of that bank is independent of the government and free to operate the bank in the best interests of Canada and Canadian banks who they finance. But is the governor of the Bank of Canada really free?
First he is a political appointment made by the government of the day and he is supposed to free of political influence. To a large part he is, however, it is the government that sets the strategy for the economy and the central bank has to operate within the boundaries of that strategy. So while he is independent of the government is also bound by it. If the Governor of the Bank of Canada acts in opposition to the government strategy then he is bound to resign. It is also noteworthy that the Governor¡¦s appointment is time limited so he can serve two or more governments before being replaced or reappointed.
So where are we today with the mess in the American economy? First of all, we are anything but immune; in fact we are more vulnerable than many would like to admit and let¡¦s be honest, what bank is going to admit that it is vulnerable? That would be business suicide. So let¡¦s have a look at some of the signs in our economy.
- All of the Canadian banks have taken write-downs (losses) on the US subprime mortgage scandal. This means they invested in high risk mortgages either knowingly or unknowingly. Now those mortgages are useless and a loss for the banks. - Canadian banks have been operating in foreign markets where the banking rules are not as stringent as they are here. They can play with bigger stakes in the hopes of bigger profits. - Canadian investors in the banks are taking losses on their money. This means that Canadians who invest in the banks with Canadian money are taking these losses. - The government has been encouraging investment in the energy sector; primarily in the oil patch and largely ignoring other regions of the country. - The government has let the manufacturing sector slide with huge job losses. This has an adverse effect on the economy through a restricted flow of money. Simply, people can't spend what they don¡¦t have because everything they do have is being used up in day-to-day living. This has also significantly affected GDP. A reduced GDP is a sign of a shrinking middle class. - Canadian forestry industry has shrunk due to settlement of the Softwood Lumber dispute and rising American protectionism. - Canadian tax dollars are being used to fight a war that adds little to the Canadian economy. In fact, purchases to support this effort benefit other countries - The central bank is extending the provisions of its loan policies to cover short term losses by the banks and prop up their liquidity.
So what is the good news?
- Inflation in Canada is largely under control. This provides stability to the lending rates. - The government has committed to long term debt reduction. This allows for more stability in the economy and thus more foreign investment that can prop up the value of the Canadian dollar - Canadian savings deposits in the banks are protected by the CDIC up to $100,000 per account.
How does this affect you, the consumer?
It would be fair to say that the financial institutions have the ability and right to set the rates for their fees and services, and rises in those are predictable. They also have the right to decide who they will loan money to and on what terms. It is not unreasonable to expect that they will tighten the qualifications on borrowers for the loans they make. This of course applies equally to business. The domino effect means fewer big ticket items are being purchased. All of this has the effect of restricting the cash available in the marketplace and as a consequence creating the conditions for a slowdown in the economy.
Continued deregulation of the energy sector is causing rises in cost for everyone including business. Increased costs of manufacture are in turn passed on to the consumer in the form of higher priced goods and services, again limiting disposable income to pay for those big ticket items; income that would have been used to repay loans and mortgages.
Shrinking credit availability and increased savings take money out of the economy, one of the reasons the government is encouraging Canadians to open a tax free savings account which is in fact a self directed investment account with the aim of having Canadians investing their savings in the financial markets.