An "End" Game in the Trade War?

  

As Canada processes the new Trump tariff threat and considers its options, assuming the tariffs are actually implemented, one imagines that retaliatory measures will eventually be employed.  These can consist of either tariffs on American imports or export taxes on Canadian export goods in high demand by the American market.  What is interesting in the list of proposed American tariffs released yesterday is the 50 percent tariff on “Toilet or facial tissue stock, towel or napkin stock and similar paper used for household or sanitary purposes, in rolls or sheets not of cellulose wadding” imported from Canada. The United States is a very high per capita consumer of toilet paper using annually an average of 140 rolls or 12.7 kgs per person.  It seems odd that in the age of affordability, the American government would make such a vital commodity more expensive for the average American but then above average Americans have probably been corrupted by bidets and are oblivious to the sanitary expenses of their lower income citizens.

A tariff on toilet paper can of course lead to an immense amount to low brow humour especially in the wake of the current deluge of diarrhea plaguing the United States. It does lead to the question of how much leverage Canada might have over the United States when it comes to toilet paper.  According to statistics from the World Bank, in 2023 the United States imported 186,304,000 kgs of toilet paper of which Canada supplied 96,957,900. As Figure 1 illustrates, Canada is the largest supplier of toilet paper to the United States accounting for over half of its imports.  The next largest is Mexico at 18 percent followed by China (14 percent), Indonesia (8.3 percent) and Vietnam (4.1 percent) with the rest of the world accounting for just over three percent.  On the surface, it looks like Canada has an intestinal stranglehold that it could play to its advantage.

 

However, this analysis is misleading because while Canada accounts for over 50 percent of U.S. toilet paper imports, imported toilet paper accounts for anywhere between 5 and 10 percent of American toilet paper consumption.  In other worlds, any leverage from being such an important supplier is lost in the sheer size of total American consumption most of which is domestically supplied.  Given that Canada supplies at best a few percent of total U.S. toilet paper consumption, a more expensive Canadian product either via tariffs or export taxes will be replaced either with more domestic production or cheaper imports. 

Retaliating via an export tax or export ban on toilet paper to the United States is at best a tongue in cheek approach to resolving our trade disputes with the United States.  However, the toilet paper case is an important illustration of the dilemma that Canada faces when it comes to retaliation.  While we are the largest foreign supplier of many imported goods for the Americans, our share of their total market consumption is often so small as to be negligible which of course reduces our leverage.  There are only a handful of commodities whereby Canada has a noticeably significant share of the American market, and these are mainly resource products such as oil, natural gas and potash.

For example, about 60 percent of American crude oil is produced domestically with the remainder imported and of that imported share, Canada accounts for nearly two-thirds.  In other words, the United States relies on Canada for 20 to 25 percent of its oil.  The United States also relies on 85 to 90 percent of its potash supply from Canada which is a critical input into American food production.  Export taxes on these commodities would indeed get noticed in the United States but one wonders if even that will have any effect on decisions made by the Trump administration. After all, the United States gets over 50 percent of its aluminum from Canada and yet they have still put heavy tariffs on its import.

In terms of the end game here, should the Americans continue on their current path of tariffs, there are two alternatives. Canada could accept whatever terms the Americans want given our export dependence and lack of diversification which, based on their current position seems to be a deal that includes tariffs, will lead us to losing employment in many value added industries.  Or, we can respond with our own broad based tariffs on our imports of U.S. value added products which will raise costs to Canadian consumers but preserve a larger share of our non-resource based industries. Neither is an attractive economic option, and the deciding factor will be which alternative is most acceptable to the Canadian public.  In the interim, we wait to see if they actually follow through with the tariffs.

The Road(s) Ahead

  

The United States under President Trump has taken yet another jab at Canada’s economy with the announcement of new 50 percent tariffs on range of goods.  This is a negotiating tactic, designed to extract leverage in the upcoming negotiations but the move also sends important messages about the ultimate aims of the United States with respect to its relationship with Canada that we ignore at our peril.

If implemented, given that oil, gas, potash, fish and critical minerals are exempted, these tariffs will have little to no effect on Canada's resource sector and exports - which are about 40 percent of our exports to the USA. The duties are actually narrowly targeted at manufactured and consumer goods such as chemicals, plastics, electronics, alcohol, dairy and hockey sticks of all things.  These are actually all together a relatively small portion of our exports to the United States. Auto parts - a crucial part of the integrated supply chain are also exempt – for the time being.

So, the overall impact on the macroeconomy would be relatively small but those specific targeted products would be relatively hard hit.  Alberta and Saskatchewan are the least impacted. Ontario and Quebec are more heavily impacted.  More importantly, these new tariffs are a violation of CUSMA and raise the question as to whether the United States can be relied upon to adhere to any deal even if struck entirely on their terms. Moreover, it is clear that the American version of a new Canada-U.S. trade agreement is not going to be what we are looking for.

The American negotiating vision is for deals with Canada and Mexico that emphasize their roles as input providers to the U.S. economy and value-added chains of production rather than trade partners and on terms always favouring the United States. In the case of Canada, our role in the American input chain is oil and gas (provided to them at a discount), as well as potash, critical minerals and any other resource product they require but that makes room for their producers first, such as lumber. 

Despite the mutual gains from trade, they see our value added manufactured and consumer products as direct competition to American manufacturers given the similarity of the high-wage employment generated.   Despite our ongoing attempts at trade diversification, our current dependency on the United States market for three quarters of our trade reduces our bargaining power. 

In the case of Mexico, the American preference is also mainly for their resource products such as petroleum, minerals, and food and agricultural products but they will tolerate manufactured products such as electronics and medical devices and even auto parts made with cheaper Mexican labour  - that of course stays on their side of the border.  Canadian labour does not provide the American consumer market with cheap manufactured goods and so we are out of luck there.

It is unlikely that CUSMA is going to be renewed in its current form, and any future trade arrangement will see tariffs on Canadian goods that are both negotiated as well as imposed unilaterally on spur of the moment. The Americans seem to want the deal that they last got in 1854 under the Reciprocity Treaty whereby there was free trade in resource products and raw materials but continued tariffs on manufactured products – on both sides one should add. Oddly enough, the Americans ended that deal for an assortment of reasons including lobbying by American resource producers in what was then a more resource intensive United States, American perceptions that Canada benefitted more from the deal than they did (sometimes it seems nothing changes) and Britain’s tolerance for the Confederate side in the Civil War.  Canadian merchants advocated joining the United States if they did not get a trade deal in 1854 but once it ended, Confederation and creation of an east-west economy behind a substantial tariff wall followed.

So, what are our options? Well, one option is simply to throw in the towel and give the Americans everything they want on their terms and hope that ends it and we get on with our lives. Of course, the resulting impact on the Canadian economy would be a return to a more resource intensive economy in terms of our exports and the loss of some employment in value added manufacturing and consumer goods production. Our auto sector would be smaller but after adjustment more competitive as would a lot of other small business manufacturers.  Alberta, Saskatchewan and to a lesser extent the Atlantic region would be relatively unscathed. On the other hand, the remaining provinces would be hit hard.

Of course, that outcome qualitatively does not seem much different from a world where the Americans levy tariffs on all our non-resource exports to the United States and we levy tariffs on all of our non-resource imports from the United States.  Oddly enough, this almost sounds like an updated version of the 1854 Reciprocity Treaty which in the end was abrogated by the Americans because they thought we derived greater benefits from it.  Yet, President Trump does appear to be a 19^th century thinker when it comes to trade and tariffs so maybe this is where we should go. Free trade in natural resource and agricultural products but tariffs of our choice on everything else would as in the 19^th century protect smaller and less efficient Canadian producers – extensive as opposed to intensive economic growth.

The best outcome is one without tariffs and free trade between Canada and the United States and Mexico whose economies have a lot of complementarities and stand to gain substantially from freer trade.  Alas, for that to happen it takes two willing partners to tango, and the Americans currently prefer not a tango or a pas de trois but more of a freestyle solo dance performance.  If the Canadian economy was able to generate income and employment under a tariff regime when it was a small and dispersed market of 8 million people, surely it will survive a tariff trade world when it has a market of 40 million people.  Will we have to get by with less?  Sure. But, as a country, our declining productivity means that we have been getting by with less for a long time now.  If it is any satisfaction, the Americans will also be poorer with tariffs.

 

Is Ontario Spending Up to the Task of Managing Forest Fires?

  

The current wildfire season with its apocalyptic scenes from northern Ontario communities and the spread of smoke throughout the province has sparked debate about the adequacy of both the Ontario and federal government response.  The federal government has apparently finally been asked by the Ontario government for assistance with evacuations of affected communities.  While it seems odd that the federal government must be asked, apparently natural resources are a provincial responsibility though one might venture that the environmental impact on air quality can easily justify federal participation given that the environment is seen as a shared responsibility.  They have intervened in provincial jurisdictions such as health and social welfare (for example child care, dental, and pharmacare plans) where the provincial prerogative is stronger.

As well, the constitution also maintains a role for the federal government in maintaining peace, order and good government and one might think wildfires would qualify.  And then there is the federal role with respect to Indigenous peoples which should also be a reason for federal intervention in remote communities.  One wonders if earlier federal intervention might have been of assistance in the harrowing escape of the Namaygoosisagagun First Nation which was essentially left on its own. 

However, given that the provinces are expected to take the lead in such matters, the question arises as to whether in Ontario the resources allocated to natural resources and forest fire/wildfire suppression in general are sufficient.  One would expect that the Ontario government makes decisions about how much to plan on spending based on evidence available, though naturally if the fire season worsens, it would “upscale” the expenditures and response.  The evidence available consists of past forest fire seasons and Figure 1 uses data from Canada’s National Forestry Data Base and Natural Resources Canada and recent media releases  to plot Ontario’s total number of forest fires from all causes as well as the area burned in hectares for the 2018 to 2026 (as of July 16^th) period.

 

The results show that both the number of fires and the hectares burned fluctuate substantially from year to year.  A peak year was 2021 which saw 1,206 fires from all causes and 784,564 hectares consumed. However, what is quite interesting is that when linear trends are fitted to the data, the number of actual fires has been declining on average. Yet, the number of hectares burned has been trending upwards.  What this seems to suggest is that since 2018, on average, the number of incidents that the provincial emergency fire response needs to respond to has been declining which one suspects means that one can be more conservative in terms of the dollar amounts budgeted.  However, the severity and intensity of the fires have been increasing quite dramatically which would indicate a need for more resources.

 

Figure 2 uses data from Ontario Budgets to plot two series.  First, the total allocation for the Ministry of Natural Resources and Forestry since 2018 as well as the allocation divided by population to obtain the amount per capita.   As well, both series are in real dollars deflated using the Consumer Price Index for Ontario (Statistics Canada) with 2026 set as the base year.  Again, the allocations fluctuate from year to year but in real dollars, the total allocation has been trending upwards – more resources for the Ministry of Natural Resources and Forestry.  However, when adjusted for both inflation and population, the real per capita allocation has been flat. In other words, spending growth on the ministry has on average not exceeded the combination of both population growth and inflation.

 

Of greater interest is the subset of spending on emergency firefighting and that is provided in Figure 3 both in total as well as per capita, and again in 2026 dollars.  Both series fluctuate substantially as they reflect the severity of that year’s fire season.  As well, keep in mind that the 2026-27 numbers are budget estimates presented before the onset of this year’s fire season and are likely to be revised upwards substantially.  Nevertheless, real total emergency firefighting based on the numbers available since 2018 has trended down slightly from just over $200 million (2026 dollars) to just below $200 million.  Meanwhile, real per capita spending has trended down more noticeably from just under $15 dollars per Ontarian (in 2026 dollars) in 2018 to just over $11 dollars per person at present.

While the number of forest and wildfires has been trending downward – which might create an incentive to plan for spending less with upscaling when necessary – the severity of the fires in terms of the land area consumed has been growing substantially.  Increased severity of the fire season in terms of impact necessitates a more robust upfront long-term allocation of resources.  One should not wait for a northern Ontario tragedy like the 1909 Cobalt Fire (which destroyed half the town of 6,000 people and left half the population homeless) or the 1922 Temiskaming Fire (43 killed) or the Great Porcupine Fire of 1911 which killed 70 people or the 1916 Matheson/Iroquois Falls/Cochrane Fires (which killed an estimated 223 people).  The Matheson Fire led to the establishment of Forest Protection Branch of the Department of Lands, Forests and Mines which evolved into the Ontario Ministry of Natural Resources. We should not wait for events of similar scale before deciding to overhaul the fire management system and how we deal with the growing intensity of wildfires.

Aging Populations and Rising Health Spending: It’s More Complicated Than You Think

  

Rising health expenditure and aging populations are linked in policy discussions of health spending. With the health expenditure to GDP ratio in Canada now up to 12.7 percent and per capita health care costs rising with age, the conventional wisdom is that the sustainability of provincial government health care systems is under threat from a grey tsunami as the last few cohorts of the baby boom generation turn 65.  While aging is a key factor in rising health care costs, it only accounts for about half of the increase over time with factors such as wage/cost inflation and rising utilization rates being other important factors in the growth.  More importantly, when it comes to aging, it is a little observed fact that per capita health expenditures in the over 75 age categories have been seeing moderation and declines.

Figure 1 plots real per capita provincial/territorial government health spending by age for three years – 1998, 2011 and 2023 using data from the CIHI National Health Expenditures.  As is expected, expenditures are approximately u-shaped with a decline up to the 1-4 age categories, relatively flat profiles until the mid to late 40s and increases that accelerate after age 65.  In 2023, the most recent year available, provincial-territorial governments spent $19,875 per capita (in 2025 dollars) for those aged less than one year which then dropped to $2,377 by the age 10-14 category. This rises very slowly to reach $3,651 by the age 40-44 category and then rises to reach $10,079 in the age 65-69 category and hits $32,483 for the 85-89 age category. This fits into the conventional view that health care costs rise with age and therefore aging populations will create a sustainability challenge for provincial government health systems.

 

 

However, if one looks more closely at the diagram, one can see that the orange line for 2011 is always above the blue line for 1998. This is to be expected.  As populations age, the health spending age profile rises with age but over time cost factors are also shifting the relationship upwards.  However, when one compares 2023 with 2011, note that there are segments of the green 2023 line that are below the 1998 line – namely in the late 20s and early 30s and in the 80 to 89 age categories.  That is between 2011 and 2023, real per capita provincial government health spending declined in these age categories.

 

 

Figure 2 looks at the percent change in real per capita provincial government health spending from 1998 to 2011 and 2011 to 2023.  Except for the <1 age category, growth rates declined in all age categories over time and sometimes by quite a bit.  For example, between 1998 and 2011, real per capita provincial/territorial government health spending grew by 46 percent for those aged 35-39 but from 2011 to 2023 it only grew 8.9 percent.  However, over the same two periods, for those aged 25-29, and 30-34, real per capita expenditure growth went from 33.3 percent to -4.5 percent and 41.9 percent to -5.5 percent respectively.  Even more interesting, for those aged 75-79, the respective growth rates were 26.7 percent for 1998 to 2011 and 1.4 percent from 2011 to 2023.  However, for those aged 80-84, the growth rate went from 24.1 percent to -2.9 percent and for 85–89-year-olds from 11.3 to -4.6 percent.

Despite the talk of unsustainable health spending, the growth rates in health spending have fallen dramatically over time and for some age categories there have been declines.  What is of more interest is why there are drops in real per capita spending for the 25-34 age groups and the 80 to 89 groups?  Are these demographic groups becoming more healthy over time and require fewer health services?  Have provincial government restraint measures been borne disproportionately by these age groups? Is the falling birth rate the reason meaning that there are fewer women of child bearing age facing complications from birth a factor in the 25-34 age group decline?  Is the onset of Medically Assisted Death (MAID) in Canada in 2016 a factor in the decline for 80–90-year-olds? Or is there simply a problem accessing primary care that is more prevalent in these age groups?

These are all important questions.  While seeing per capita health spending fall and generating potential sustainability improvements for provincial health systems are welcome, it is important to know the reasons why this is happening.

Municipal Surpluses Are Not That Unexpected

  

The news that the City of Thunder Bay has an “unexpected” operating surplus for 2025 has been greeted with a mixture of commentary including some remarks that it should be spent on crumbing roads or perhaps a tax break.  Apparently much of the additional revenue came from the liquidation of an investment portfolio and as is standard policy, will be added to the reserves.  None of this is really a surprise because if one looks back on past budget years, often, there is an operating surplus or what is referred to as positive variance. 

 

Figure 1 plots City of Thunder Bay operating surpluses from 2012 to 2025 and two-thirds of the time the city has had an operating surplus.  Indeed, the accumulated operating surpluses since 2012 sum to about 17 million dollars.  However, this is not the end of the story because this is only the operating surplus.  The City of Thunder Bay has both a capital and an operating budget and over the 2009 to 2024 period (2025 for Thunder Bay is not available yet on FIR), the total surplus (the difference between total revenues and total expenditures) was only in deficit twice as illustrated in Figure 2.  Indeed, the accumulated total surplus since 2009 has been 376.1 million dollars.

 

This is not a Thunder Bay thing. Across Canada, municipalities are not separate tiers of government but essentially wards or creatures of the province. Provinces keep a tight rein over municipalities and their finances ensuring that they generally run surpluses and that those surpluses go into reserves.  As Figure 3 illustrates, periods of deficit in the national local government sector have been few with only the four years from 2000 to 2003 showing a deficit.  So, Thunder Bay is not exceptional in generating repeated surpluses – it is something that is the norm.  The greater concern would be municipalities running perpetual deficits but that is something generally indulged in by the federal and provincial governments.  By comparison, municipalities are paragons of fiscal rectitude.

 

The Grand Plan Unfolds...Slowly

  

The road ahead for Canada became better delineated this week with the announcement that the winning proposal to build Canada’s new submarine fleet was the German Norwegian TKMS bid which beat out the South Korean Hanwha proposal.  While the ultimate deal still must be finalized and Hanwha is the reserve bidder, in the world of defence contracts, being the reserve winner is not much of a consolation prize. In the end, the NATO relationship with Germany and Norway seemed to be the deciding factor even with the many industrial benefits both bids promised.  And in terms of regional effects, the TKMS bid will have major economic impacts on Nova Scotia (Halifax) and there are a small number of deals proposed with companies in British Columbia, Mississauga, Montréal and Trois-Rivières.Unfortunately, there will be no steel contract for Algoma in Sault Ste. Marie.

In my earlier thoughts on the plans to evolve Canada’s economy and international relationships, I ventured that Canada had come to a fork in the road: the path of continued integration with the United States versus establishing an east-west trade flow through Canada linking Europe with the Asia Pacific.  Canada’s defence policy purchases are part of this economic policy with the fighter jet project offering a choice between Europe and America and the submarine contract offering a choice between Asia-Pacific and Europe. I also ventured that for the time being, Canada was essentially dangling the prospects of both but needed to make some choices.  The choices are being made but the process is unfolding very slowly.

In terms of economic and political diversification with Europe and Asia, while Canada will continue to pursue opportunities with the Asia-Pacific, it is with Europe that Canada will increasingly try to link with both economically and with respect to defence and security especially when it comes to the Arctic.  In a sense, the Innisian line that the civilization of Canada settlement is essentially the civilization of Europe still holds and we look towards the Atlantic more than the Pacific.  Despite this, participating in Eurovision is not quite the same as being a member of the EU.  One hopes that despite not acquiring the Hanwha submarines, Canada will still make important defence purchases in South Korea and Japan if it is to be serious about having an east-west global economic vision.

However, going with the TKMS bid also means that the likelihood has grown that Canada will likely not go with the Swedish Gripen jets.  In the end, even if we maintain the current volume of trade with the United States and grow trade with all our other partners, the United States will still be our dominant trade partner for decades to come.  Given that we share the North American continent with them, we will also need to maintain defence and security arrangements with them which means the 88-plane F-35 purchases is a done deal.  It is only a matter of an official announcement.  The only question is whether we will go with a dual fleet and order additional planes from Sweden.  After all, in the early 1980s, Canada deployed nearly 140 fighter jets and there is room to do both.  In the world of federal deficit financing, what's a few more billion dollars?

Continuing the F-35 purchases also has its political dimension.  We are going to be hammering out the details of a new trade arrangement with the United States, and it is unlikely we will back out of the jet purchases and risk incurring additional Trumpian wrath.  We are also likely to give in on several other fronts including aspects of our supply management, digital services and increased North American content in manufacturing with integrated supply chains (auto production). And we will likely still face tariffs at some base level because that is the current state of U.S. trade policy and our relationship with them is not that special.  Not that it ever was really.  It has always been America first but previous administrations were more diplomatic regarding our junior status whereas the current one is simply more up front.

Of course, the Americans apparently seem keen on a “Fortress North America” approach but such an approach seems at odds with the east-west trade diversification strategy that we are demonstrating we are pursuing.  It also will likely lock us into a relationship where the U.S. will have preferential access to our natural resources limiting our ability to realize their maximum economic potential.  While we may think we are negotiating Fortress North America, the other side will interpret it as Fortress America. So, the key question is can we negotiate the best deal possible without locking ourselves into an even tighter economic straitjacket while we wait for growth in non-U.S. trade to gradually reduce our economic dependence of the United States?