Executive summary

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From 2003 to 2007 the rising price of commodities, falling import prices and the appreciating dollar led to substantial gains in purchasing power for Canada. They also led to increases in purchasing power for most provinces. However, the magnitude of the provincial impacts differs importantly across provinces, as do the changes in export and import prices that drive changes in provincial terms of trade.

Unlike earlier resource booms, the post-2002 period stands out because the prices of almost all commodities increased. As a result, there have been terms of trade increases in most provinces.

Coinciding with the resource boom was an appreciation of the Canadian dollar, which—when combined with the effect of China on global prices—decreased import prices for a wide range of goods. The falling import prices have, in many cases, been as important as, or more important than, rising export prices for terms of trade improvements.

The combination of falling import prices and rising commodity prices led to a widespread sharing of benefits from the terms of trade improvement across Canada—something that has not occurred in the last 25 years. This paper empirically illustrates the gains provinces experienced from 2003 to 2007. In doing so, it examines a number of questions about the post-2002 period:

• Which is more important: rising export prices of falling import prices?

On average, Canadian import prices, which declined on average at 2.6% per year from 2003 to 2007, contributed more to terms of trade growth than export prices, which rose about 1% per year.

However, this pattern is not consistent across provinces. In Newfoundland and Labrador, Nova Scotia, New Brunswick and Saskatchewan, export prices grew faster than import prices leading to terms of trade improvements. In Quebec, Manitoba, Alberta and British Columbia, the terms of trade rose as export prices increased, and import prices decreased. In Ontario, export prices declined more slowly than import prices leading to a rising terms of trade. In Prince Edward Island, export prices declined and import prices rose, leading to a terms of trade deterioration.

• Why has the impact of relative price changes been larger after 2002 than previously?

Two occurrences have led to a sizable impact after 2002. First, a broad range of commodities experienced price increases, spreading demand-driven price rises to many provinces. Gains were not confined to energy producing provinces as had happened in the past. Second, the emergence of low cost developing nations, particularly China, and the appreciation of the Canadian dollar lowered import prices at the same time.

While the individual provinces experienced differential effects from the rising commodity and falling import prices, the distribution of the impact has generally been the same— improved terms of trade for most provinces. Unlike the periods during the first and second oil shocks, when terms of trade improvements in oil-producing provinces were offset by deteriorations in oil-importing provinces, the post-2002 period has seen the regional offset evaporate. As a result, during the 2003-to-2007 years relative price movements were an important source of real income growth.

• How does provincial economic structure interact with relative price movements?

Examining provincial economic structures using industry value added shares suggests that provincial economies are quite diversified. In all provinces, industries like construction, manufacturing, wholesale trade, retail trade and finance, insurance, real estate and leasing contribute importantly to gross domestic product. While there are differences in industry contributions across provinces, in most cases one industry does not tend to dominate.

However, the apparent diversification across industries belies the dependence of provincial economies on particular product areas. For example, from 2003 to 2007, energy products in Newfoundland and Labrador accounted, on average, for 69.4% of exports by value. In Prince Edward Island, 68.0% of exports were accounted for by agriculture and fishing products. In Quebec, machinery and equipment accounted for 35.4% of exports, while in Ontario, 43.3% of exports were accounted for by automotive products. In Alberta, energy commodities accounted for 69.0% of exports, while in British Columbia, 40.5% of exports are forestry products.

The dependence of many provinces on particular product areas makes them sensitive to changes in demand and prices for particular goods. During periods when a small number of product prices change rapidly, relative price effects can be offsetting and have little overall impact. However, when similar broad based product price changes occur, the effects can be felt, sometimes acutely, across most provinces, leading to noteworthy aggregate changes.