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Opinion: Canada already has big companies—it needs young, dynamic ones too


Progress entails, as we have seen, destruction of capital values in the strata with which the new commodity or method of production competes. In perfect competition the old investments must be adapted at a sacrifice or abandoned; but when there is no perfect competition and when each industrial field is controlled by a few big concerns, these can in various ways fight the threatening attack on their capital structure and try to avoid losses on their capital accounts; that is to say, they can and will fight progress itself.

– Joseph A. Schumpeter, Capitalism, Socialism and Democracy

A recent Hub Dialogue between Robert Atkinson and Sean Speer championed the imperative of scale in Canada’s private sector. This discussion, however, considered issues of enterprise scale out of context. It’s true that large companies have many scale advantages for themselves, their shareholders, and their employees. But Canada’s biggest businesses have, at best, found no way to contribute to arresting the country’s declining economic dynamism. At worst, their dominance may contribute to its ongoing fall.

When you dig a bit deeper into the data, the glamour of bigness wears away quickly. A recent NBER working paper, “Some Facts on Dominant Firms,” outlines how the social and economic returns to scale and dominance have been shrinking for some time. Top firms contributed meaningfully to productivity growth in the postwar period, but, since 2000, they have not become larger or more productive, and their contributions to aggregate productivity growth have decreased dramatically.

Source: Some facts about dominant firms, Gutiérrez & Philippon, NBER. Graphic credit: Janice Nelson.

Returns to scale are particularly high for companies in high-tech and intangible sectors. These sectors, which have been responsible for remarkable broad-based gains in productivity over the past several decades, have also led equity markets in growth for a long time. Regrettably, Canada has among the smallest representation in these sectors among advanced economies—below global equity market averages and well below comparator nations.

Graphic credit: Janice Nelson.

And it may not just be which sectors dominate Canada’s economy but how concentrated they are. A 2019 SSRN paper “Are Industries Becoming More Concentrated? The Canadian Perspective,” finds that Canadian firms have also exhibited signs of consolidation.

Graphic credit: Janice Nelson.

If there is a problem with big business in Canada, it’s not that big business is “too big.” After all, in most countries, large companies are disproportionately responsible for spending on research and development, and Canada is an advanced economy with plenty of large companies. So what are Canadians to make of a continuing two-decade decline in business and enterprise R&D spending (now among the lowest in the OECD), while every comparator country has seen meaningful increases over the same period?

One answer might be to examine the composition of the top of Canada’s equity markets, which are dominated by old financial firms and resource companies. 

Graphic credit: Janice Nelson.

For emphasis: the median age of Canada’s fifteen largest public companies is 122 years. Canada’s Fathers of Confederation might have been shareholders in many of today’s largest Canadian companies. Many of the largest U.S. public companies, in contrast, are younger than their average shareholder.

Is dynamism important? Of course it is. What should Canada make of a 2021 Toronto Stock Exchange that would be largely recognizable to a Bay Street broker from 1921? 

We should, of course, want companies to reach scales that benefit consumers, investors, and Canadians in general. Yet those returns to scale are not just hard to find in R&D spending but in market metrics as well.

Consider the return on $100 invested in equities in 1980: if you chose an index of Canada’s largest public companies (the TSX 60), at the end of 2021 you’d have just over $1000. Not bad, certainly, but disappointing compared to the $2700 you’d have earned if you’d invested that same $100 in the mix of small and mid-cap U.S. companies that comprise the Russell 2000 index. And your returns are embarrassing compared with the $4200 returned by the S&P index of the 500 largest U.S. companies. 

The 500 largest U.S. companies meaningfully outperform the next 2000 small and mid-caps, so there are obvious returns to scale. This raises an important question: why aren’t there equivalent returns to scale in Canadians’ retirement portfolios?

Source: Yahoo Finance. Graphic credit: Janice Nelson.

From the modest body of research that does look at competition issues in Canada, what do we know about the competitive environment? Discussions of “competitiveness” framed in terms of Canada’s poor performance relative to peer countries may miss links to domestic competition. One popular view holds that Canada cannot afford strong domestic competition policy and that our firms require special accommodation at home (in the form of lax enforcement of domestic competition laws) in order to compete effectively abroad. This thinking is flawed: Canada’s low-competition environment and concentrated domestic sectors reduce productivity and stifle the growth of new Canadian growth champions, and our markets may need more competition to help newer companies achieve scale.

Michael Porter famously addresses the importance of domestic competition in Competition and Antitrust: A Productivity-Based Approach and The Competitive Advantage of Nations

When local rivalry is muted, a nation pays a double price. Not only will companies face less pressure to be productive, but the business environment for all local companies in the industry, their suppliers, and firms in related industries will become less productive. This demonstrates in particular the danger in arguments about the creation of ‘national champions’ in an industry in the home country in order to gain the scale to compete internationally. Unless a firm is forced to compete at home, it will usually quickly lose its competitiveness abroad.”

Despite disquieting indicators of the persistence of large, old firms, falling business investment, capital flight, and declining corporate R&D, recent consolidation trends in Canada are not well characterized. We need a better understanding of the dynamics and implications of concentration in Canada, especially in a post-pandemic recovery.

Competition Commissioner Matthew Boswell recently delivered a scorching address to the Canadian Bar Association, noting: “Money alone will not solve Canada’s competition challenges, which include high levels of business concentration, weak business dynamism and widespread regulatory barriers to competition.”

Economist Stephen Tapp explored the “start up slow down” in a 2015 Policy Options piece, wherein he warned Canadians that the research shows Canada has seen declining entry of new firms, fewer start-ups, and no increase in job turnover relative to past performance. 

When it comes to firm size, “big” must be recognized as a means, not an end. Big can be “beautiful“ if it enhances growth, if it increases productivity, if it raises wages, if it lowers costs to consumers, if it grows exports, and if it delivers prosperity to Canadians. When small companies grow into mid-sized companies, and mid-sized companies grow into large companies, employment and productivity increase markedly, as Viet Vu, Steven Denney, and Ryan Kelly recently demonstrated in their report on Canadian scale-up companies. In fact, productivity gains seem to be far more concentrated in fast-growing mid-sized companies than in large ones, at least in Canada.

The next 50 years will see the advent of new industries that will spawn large, globally competitive companies in sectors including virtual reality and the metaverse, electric vehicles, nuclear power, orbital industries, biotechnology, and others. Given that Canada’s largest companies have barely turned over in more than a century, and given our historic and ongoing weakness in intangible-dependent sectors, our participation in and prosperity from these growth sectors is anything but guaranteed. We must get our act together and determine what forms of competition and economic policy will allow Canada to grow into something more than a land of mortgages and minerals.

We deserve a comprehensive review of the Competition Act, much more research on the dynamics of competition and concentration in the country, and a real discussion about business dynamism. Canadian equity markets have underperformed balanced international portfolios for more than four decades.

Canada’s present large-scale enterprises have collectively failed to change the country’s downward trajectory in productivity growth. If present (or larger) enterprise scale is the solution to this country’s economic doldrums, it falls to advocates of big business to demonstrate not just that large companies pay higher wages, but how Canada’s large companies can drive real growth beyond what the country has achieved in the past few decades. It’s nearly 2022, and despite international consolidation and ever greater scale in the beverage industry, Mexicans still don’t drink Molson.

We should have more scale-up and growth companies, and we should have big businesses with returns to scale that benefit consumers, investors, employees, and Canadians more broadly. But let’s acknowledge, first, that what we’ve got now has driven us through decades of low capital investment, declining R&D spending, and crummy equity returns. 

Big businesses may yet set Canada on a new growth trajectory. Those big businesses will almost certainly be newer and younger big businesses, though. If past performance is any indication, new dynamism won’t come from the old low-growth, low-innovation, low-tech big businesses that have dominated Canada’s markets for too long.

The good and the bad in the government’s fiscal update


You can be forgiven if you have not yet read through all 96 pages of the Economic and Fiscal Update 2021 released by the federal government yesterday. No worries, though. We have got you covered here at The Hub. We have gathered several of our contributors to summarize the document’s key details and offer some initial takes on what it reveals about our economy and Ottawa’s finances moving forward.

Aaron Wudrick

Fall economic statements generally come in two flavours: basic “snapshots” of revenue and expenditures, or mini-budgets that include significant new permanent spending announcements. This one probably falls into the former category as new spending is essentially temporary emergency spending, related to both the pandemic and the flooding in British Columbia. It appears that Canadians will have to wait until a spring budget for a clearer sense of any major changes to the overall spending track. Such as, whether the government will be paring back its significant stimulus plans in the face of inflationary pressures (as pledged in the Liberal platform), whether any measures to boost weak growth (which the government projects will drop below two percent annually after 2023) will be introduced, as well as an outline of the path back to a balanced budget—something that has been missing since the Trudeau government’s first budget in 2016.

Aaron Wudrick is the director of the domestic policy program at the Macdonald-Laurier Institute.

Trevor Tombe

Canada’s finances took a significant hit from the pandemic. Large-scale income support programs to individuals and businesses and lower revenues combined to increase the federal debt by roughly $600 billion between 2019 and 2021. But the new projections in the fiscal update for 2021/22 suggest a stronger fiscal future than many previously expected is ahead.

Here’s a breakdown. The deficit next year is now projected at 2.2 percent of GDP, declining to 0.4 percent by 2026. The total federal debt will reach a peak of 48 percent of GDP this year—lower than the 51.2 percent previously projected. And this is set to decline to 44 percent by 2026.

And looking out further, my own projections (based on adjusting my fiscal model published here) suggest that at federal borrowing rates of three percent and nominal GDP growth rates of four percent, the federal debt returns to pre-COVID levels within 15 years or so (depending, of course, on future spending choices). 

This is significant. For perspective, in the summer of 2020 I compiled some analysis that suggested that to return to pre-COVID debt levels by the mid-2030s, Canada would need a seven percent GST or equivalent spending reductions. Now we appear to be on that same debt trajectory without it. And carrying this elevated debt in the meantime also comes with a surprisingly limited fiscal burden. The update projects that debt service costs will average less than 1.2 percent over the next six months. This is identical to the debt burden projected in Budget 2019—prior to COVID—for years beyond 2021.

Much can change, of course, with mounting concerns around COVID variants. And one can certainly prefer a faster decline in federal debt than is on offer here. But it’s worth recognizing that the most significant federal borrowing outside of World War II appears entirely—if not easily—manageable.

Trevor Tombe is a professor of economics at the University of Calgary.

Sean Speer

Yesterday’s Economic and Fiscal Update is a mixed bag. There’s some good news embedded within its 96-pages. We’ve mostly recovered lost output from the pandemic and are now seeing positive progress on employment and short-term economic growth. The government reports, for instance, that the size of Canada’s economy will reach nearly $2.5 trillion this year, which is what was projected in the 2018 budget prior to the pandemic. These positive developments tell us that Canada has experienced something approximating a U-shaped recovery from the depths of the pandemic-induced recession.

One can dispute different aspects of the government’s fiscal response to the pandemic—including the design, generosity, and duration of various forms of emergency spending—but, in overall terms, these measures stabilized the economy and avoided significant economic harm for individuals and households. The government deserves credit for that. 

Now the bad news. The first problem is that, notwithstanding higher real GDP growth in 2021 and 2022, the average annual growth rate between 2023 and 2026 is projected to be barely 2 percent. This is consistent with recent OECD projections that anticipate Canada will experience the slowest real GDP per capita growth among advanced economies over the next decade. Secular trends of sluggish economic growth and stagnant living standards ought to be a major—indeed, the most pressing—concern for Canadian policymakers. 

Yet, as a number of economists and former public servants observed in a recent profile of the Department of Finance’s deputy minister Michael Sabia, the government still seems more concerned with a mishmash of equity issues. The Economic and Fiscal Update does nothing to signal a new, more growth-oriented agenda. Instead it presumes that the government’s emphasis on inclusion over growth is still the right priority. The risk of course is that we remain stuck in what has been described as a “two-percent trap” that contributes to a political economy cycle of pessimism, populism, and polarization. 

The second problem is that there’s reason to be skeptical of the government’s medium-term fiscal plan. The Economic and Fiscal Update projects total program spending to significantly fall over the next two years as emergency pandemic spending winds down, and then grow at an annual average rate of 2.3 percent between 2023-24 and 2026-27. This rate of spending growth is substantially lower than anything that the Trudeau government has ever been able to achieve since first taking office. Between 2015-16 and 2019-20, for instance, federal program spending grew, on average, by 6.4 percent per year. 

It seems highly implausible that the government will pursue a post-pandemic fiscal plan that amounts to a more than 50-percent cut in year-over-year spending growth relative to pre-pandemic levels. It’s far more likely that program spending in the coming years will grow at a rate closer to 6.4 percent than 2.3 percent—especially in a minority parliament in which the Liberals are dependent on support from the NDP to pass their budgets. 

The fiscal results could be significant. Consider, for instance, projections for 2023-24 and 2024-25 in which total program spending is expected to climb by a mere 1.6 percent from $420.7 billion to $427 billion. If it were to grow instead by 6.4 percent, it would increase to $447 billion and, all things being equal, the annual deficit could climb from $29.1 billion to nearly $50 billion. 

The key point here is that while the Economic and Fiscal Update contains some good news, fiscal risk is still tilted towards the downside and the cause of that risk isn’t exogenous. It’s the Trudeau government’s own high-spending tendencies.

Sean Speer is The Hub’s editor-at-large.