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Canada an "unconventional oil" economy

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Tags: Canadian GDP, Oil

BLOG: Welcome to the new Canadian economy. The days when the traditional manufacturing provinces, such as Ontario and Quebec, dominated the economy have gone the way of telephone directories.

In their place are the new emerging energy provinces, particularly Alberta, but to a lesser extent British Columbia and Saskatchewan.

That transfer of economic power will increasingly turn Canada into what HSBC chief economist David G. Watt calls an "unconventional oil economy."

He uses the term "unconventional" because he expects the production of oil sands crude and natural gas from shale deposits – both considered non-traditional sources of energy, hence "unconventional" – to surge in the coming decades. The Canadian Association of Petroleum Producers (CAPP), for example, expects the oil sands to account for 85 percent of all production by 2030.

Ultimately, Watt says, the Canadian economy will become more closely tied to the energy cycle, meaning it will begin to resemble other commodity-driven economies such as Australia.

Watt says the move towards an economy dominated by the price of a barrel of oil will be felt in nearly every part of the Canadian economy. For one, it will have a dramatic impact on the country's terms of trade, which itself is a key driver of the loonie.

One result will be a loonie increasingly subject to the volatile risk-on risk-off trade that has dominated currencies and commodities since the financial crisis.

The overall change in the makeup of the economy is already well underway.

In the 1990s, motor vehicles accounted for around 25 percent of all exports, while energy amounted to less than 10 percent. But since then, the roles have reversed and energy now accounts for nearly 23 percent of all exports, while the share of motor vehicles has fallen to 15 percent.

This is just the beginning, Watt believes. He says exports of just crude oil (excluding all other forms of energy) are set to nearly double over the next decade to nearly 30 percent by 2025.

The oil sector will also dominate investment. The amount of investment into Alberta has already surpassed the manufacturing-dominated province of Ontario, Watt says. That will continue, as policymakers project that of the $650 billion in investment expected over the next 20 years, more than $460 billion of that will go to the energy patch.

The transformation of the Canadian economy can also be seen in the labour market, where the manufacturing sector shed 532,000 jobs since 2002, while 2.5 million jobs have been created in other sectors of the economy.

Watt is far from a lone voice highlighting the change currently taking place in the Canadian economy.

TD Economics, in its most recent provincial forecast, said that even with the recent pullback in commodity prices Western provinces such as Alberta and Saskatchewan will still outperform the traditional heavyweights of Ontario and Quebec. That trend, the economists add, will continue throughout 2013 and 2014.

But is this transformation a good thing?

Mark Carney, the outgoing Bank of Canada Governor, certainly thinks so. In a speech earlier this year, Carney said higher commodity prices are "unambiguously good for Canada." He believes the global commodities boom will boost Canadian incomes and provide greater economic security for the country.

Carney said that rapid urbanization in the developing world likely continue to lift commodity prices, which will then trickle down through the rest of the Canadian economy.

He added that the rise in the Canadian dollar is not simply a result of Canada's energy production, but also the fact that Canada is a "rare safe haven" in a world dominated by uncertainty.

All told, Carney said trying to stop the transition to an energy economy and tame the rise of the loonie would be unwise and could "lower output of about 1 percent and higher volatility in inflation, output and employment than when the exchange rate is allowed to do its work."

But he did warn that the transition won't be easy and policymakers should do whatever they can to minimize the pain.

In the meantime, policymakers must confront the reality that this transition has thrown more than 500,000 people who used to work on factories out of a job. How many more factory workers will find themselves hitting the pavement remains to be seen, but will likely continue to be a prominent theme as the Canadian economy undergoes a structural change.

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