Comparative Macroeconomic Analysis of Canada and Mexico

Running head: CANADA AND MEXICO1CANADA AND MEXICO2Comparative Macroeconomic Analysis of Canada and MexicoDavid S. SpencerThomas Edison State CollegeAuthor NoteThis is the Final Project for the October 2013 term of ECO-111-OL, Macroeconomics.Comparative Macroeconomic Analysis of Canada and MexicoThe North American Free Trade Agreement is dominated by the economy of the United States. At 15 trillion U.S. Dollars, the U.S. economy is five times larger than the economies of Canada and Mexico combined (World Bank, 2013). Despite being much smaller than the United States, the economies of Canada and Mexico are not small. Canada is the eleventh largest economy in the world Mexico is the fourteenth largest (World Bank, 2013). In this examination of macroeconomic indicator trends of the last ten years, this paper will examine Canada and Mexico. These two nations are directly coupled to the engine of the world economy through their land borders. They serve as good examples of a mature economy, Canada, and an emerging economy, Mexico, for examining the GDP and GDP growth, exchange rates, inflation, short-term interest, unemployment, and trade deficits.Economic Indicator TrendsGDP and GDP growth rateGDPThe gross domestic product, as seen in Table 1 and Figure 1, has grown in real terms during the past decade in both Canada and Mexico. While from 2003 to 2012 GDP grew 210% in Canada and 168% in Mexico (World Bank, 2013), this growth was not constant. Looking back to 2000, there are four clear trend periods reflected in Real GDP. From 2000 to 2002 Canadas GDP was stagnant in both countries likely as a result of the shallow 2001 recession in the United States (Kliesen, 2003). From 2003 to 2008 both economies grew at a steady pace. This growth turned to a sharp decline in 2009 correlated to the aftermath of the 2008 financial crisis. Since the crisis, both nations have recovered to pre-recession levels of GDP; however, due to the fundamental difference in the latest recession from those of the past, the latest data shows stagnation (Davis, 2009). Despite stagnation, the economic conditions are better in both countries, as measured in GDP, than they were a decade ago (World Bank, 2013).Contrasting the trends in real GDP between Canada and Mexico. It is clear that they are closely correlated. This correlation is a result of the correlation of both economies to the United States, which has been a strong theme since the implementation of the North American Free Trade Agreement, NAFTA, in 1994 (Central Intelligence Agency, 2013).GDP growth rateCanadian and Mexican GDP has seen volatile growth rates in the past decade, as seen in Table 2 and Figure 2 (World Bank, 2013). The trends in the both countries correlate to the periods seen in the real GDP described above, being the 2001 recession, mid-decade growth, the 2008 financial crisis and recovery, and current stagnation.Excluding the effects of the two recessions seen in the data, Canadian GDP growth has been flat over the past decade (World Bank, 2013). And the more recent trend since 2005 has been of declining GDP growth in Canada.Mexican GDP growth has increased over the past decade. During this period of trending increases, Mexican GDP growth has been much more volatile. Specifically, Mexican GDP growth declined in 2005, 2007 to 2009, and in 2011. Despite this volatility, we see growth of 1.35 in 2003 and growth of 3.92 in 2012 (World Bank, 2013).In contrasting the trends between Canadian and Mexican GDP growth during the past decade, the correlation seen in the related statistic of real GDP disappears. The growth rates of both countries show the effects of the recessions together, but the overall the Mexican economy is accelerating while the Canadian economy is decelerating. This contrast shows of the catch-up effect and the law of diminishing returns on the economic conditions in Canada versus Mexico (Mankiw, 2009).Exchange rateThere is no correlated trend between the exchange rates of Canadian Dollars and Mexican Pesos, respectively to US Dollars, as seen in Table 3 and Figure 3 (FXTOP sarl, 2013). This lack of correlation between these two North American economies is a reflection of the difference between the mature economy of Canada, and the emerging economy of Mexico (CIA, 2013).The exchange rate of the Canadian Dollar, to the US Dollar, has strengthened consistently over the past decade (FXTOP sarl, 2013). The only exception to this consistent strengthening was after the 2008 financial crisis, when there was a flight to quality and US Dollar denominated securities (Yeyati, Ghezzi, & Broda, 2009). The meaning of the strengthening Canadian Dollar to the national economy in Canada is a reflection of the strength of export prices for Canadian commodity prices. It is also a reflection of Canadas triple-A credit rating (Ho, 2012).The exchange rate of the Mexican Peso, to the US Dollar, has been in a consistent glide path of slow during the past decade. In 2000 the Peso traded at 0.105 US Dollars, and in 2013 it traded at 0.078 US Dollars (FXTOP sarl, 2013). The slow decline of the Mexican Peso to the US Dollar is not due to Mexican economic weakness, but due to a strengthening US dollar to the Peso (Natarajan, 2013). The relatively weaker Mexican Peso could have positive meaning for the supply side of the economic conditions of Mexico, as a stable price in a Mexican product means a deflating price in US Dollars during the past decade.In contrasting the foreign exchange trends of the Canadian Dollar and the Mexican Peso, there is a non-correlation that speaks to the difference in the two economies. Canada is a mature, commodity export-driven economy, while Mexico is an emerging neighbor affected by the shifts in US currency exchange rates and financial market trends (Natarajan, 2013).Inflation rateBoth Canada and Mexico have had stable inflation rate trends over the past ten years, as seen in Table 4 and Figure 4. This comes off of a sharp drop in inflation in Mexico that occurred in the 1990s (World Bank, 2013). Canadas inflation rate has been stable and gradually falling over the past ten years, with a rate of 2.75% in 2003 and an average rate of 2.07% between 2010 and 2012. This rate of inflation is consistent with the slowing GDP growth rate for Canada, meaning likely slow growth economic conditions in Canada. Like Canada, consumer price inflation in Mexico has been stable since 2003 (World Bank, 2013). While stable, Mexican inflation has been one to two percentage points higher than Canadian inflation. This higher, but controlled, inflation correlates to the higher GDP growth rate and means likely continued acceleration of positive economic conditions in Mexico.In contrasting the inflation rate trends between Canada and Mexico, it is easy to see correlation to the GDP growth rate and the trajectory of each economy. The only major deviation between the two trends was during and after the 2008 financial crisis. This saw a sharp decline in Canadian inflation and a shape increase in Mexican inflation with a difference in rate of 5.0% in 2009 (World Bank, 2013).Interest rate on short-term government debtThe real interest rates on short-term government debt in Canada and Mexico have been very volatile over the past ten years, as seen in Table 5 and Figure 5. Real interests rates turned negative for Mexico in 2003, and for both Canada and Mexico post-2008 financial crisis (World Bank, 2013). Canadian short-term interest rates have been volatile over the past ten years, with a clear interest rate shock post-financial crisis (World Bank, 2013). However, in conjunction with the monetary policy of other mature economies, Canada has maintained a low real interest rate since the shock. These low rates contribute to the growth of the money supply. These low rates translate to accommodative policy lowering the cost of capital creating more favorable economic conditions.Mexican short-term interest rates have been even more volatile than Canadas over the past ten years. The largest deviation was in 2003, when the real interest rate was -10% for Mexico. While volatile for most of the decade, heading into the financial crisis, Mexicos interest rates began to stabilize. And the fluctuation through the financial crisis was much milder than that of Canada. Quantitative easing by the American Federal reserve has meant more favorable economic conditions in Mexico as it has held down borrowing costs and fueled demand for peso-denominated assets (Bain & Levin, 2013).The volatility of real interest rates on short-term government debt in Canada and Mexico over the past ten years makes contrasting their trends very difficult. The biggest difference seen in the respective volatility is the greater magnitude of the shifts in the Mexican real interest rates. This possible partly because of the smaller size of the Mexican economy, in comparison to Canada but more importantly the United States, but it is primarily a result of the emerging nature of the Mexican economy. Investors take on much more risk and cost when investing in emerging markets like Mexico. During crises, these investors are more likely to flee to quality than domestic investors (Bain & Levin, 2013). Unemployment rateTrends in unemployment in Canada and Mexico are relatively correlated through most of the past decade, until the 2008 financial crisis (World Bank, 2013)1, as seen in Table 6 and Figure 6. The financial crisis and resulting recession caused a large spike in the unemployment rate in both countries. The unemployment rates diverge between Canada and Mexico in the latest recovery. In Canada, the unemployment rate peaked in 2009 at 8.3% and has been declining since. For Canada, this decreasing unemployment means improving economic conditions. In Mexico, the unemployment rate rose to 5.2% in 2009 and has been consistent and slowly rising since then (World Bank, 2013). While the data from the world bank ends in 2011, The Economist reported as recently as December 2013 that Mexican unemployment was approximately 5% (Haver Analytics, 2013). This means that Mexico is experiencing a jobless recovery with consistent unemployment with rising GDP. This means possible negative economic conditions in the future for Mexico, as the Mexican economy may be held back without the benefit of growing household income from wages.The most interesting contrast between Canadian and Mexican unemployment over the past ten years is looking at the unemployment since the 2008 financial crisis and resulting recession. Many of the previously examined economic indicators show a strengthening Mexican economy, and a growing but slowing Canadian economy. The unemployment data does not correlate with what would normally be expected given the previously examined indicators. Trade deficitThe trends in the trade deficits of Canada and Mexico near parity at the end of the period analyzed coming from very divergent beginnings ten years ago, as seen in Table 7 and Figure 7. The trend in Canada began with multi-billion US Dollar trade surpluses from 2000 to 2008 (OECD, 2013). Those surpluses ended with the financial crisis of 2008 and the following recession. Since recession, Canada has had only one small trade surplus and the most recent numbers show a growing deficit in net trade in goods (OECD, 2013). These recent deficits are the result of the ever strengthening Canadian Dollar and uncertain foreign export markets (Reuters, 2013). This means difficult economic conditions for Canada. Mexico has experienced an increase in exports, primarily to the United States (USTR, n.d.). The trend in Mexico over the past ten years has been a reduction in the trade deficit that is now a tenth of what it was a decade ago. Other than the distortion of the 2008 financial crisis and following recession, this has been a steady linear trend. If this trend continues with the strengthening U.S. economy, then this trend means improving economic conditions in Mexico.Contrasting the trade deficit in Canada and Mexico is interesting because at the present time the two trade deficits are near parity, compared to where they started ten years ago; however, while the current deficits are near equal, the trends tell a very different story. Canada went from a strong exporter to current increasing deficits, while Mexico has gradually increased exports in competition with Asian low labor cost manufacturers.Strengths and WeaknessesBoth Canada and Mexico are relatively free economies. The Heritage Foundation ranks Canada sixth, and Mexico Fiftieth on the Index of Economic Freedom (2013). The strengths and weaknesses of Canada and Mexico correspond closely to their state of development in the shadow of the United States.CanadaCanada is distinguished by its mature and diversified economy and high-tech industrial society (CIA, 2013). GDP growth over the past decade, and five decades for it, was fueled by growth in manufacturing, mining and petroleum, and service sectors (CIA, Canada, 2013).The maturity of the Canadian economy and stability of governance and society is a strength of the Canadian economy. This strength is quantifiable in stability of interest rates over the past ten years (World Bank, 2013). The Canadian economy also gains strength from recent reductions in unemployment. While unemployment is higher in Canada today than it was ten years ago, the rate has been trending downward after the latest recession (World Bank, 2013).Canadas economy is showing weakness in GDP growth. Canada is a victim of its own success, years of growth have made Canada very efficient and productive. Further growth is running into the law of diminishing returns (Mankiw, 2009). This weakness is compounded by the strength of the Canadian Dollar which represents a weakness to Canadas large export sector (CIA, 2013). While a strong currency depresses foreign demand, weak inflation signals slow growth to domestic demand. These factors together contribute to negative net exports for Canada, which had a multi-billion dollar trade surplus ten years ago.MexicoThe output of Mexicos economy is 168% of what it was ten years ago (World Bank, 2103) as measured in GDP. This strength in GDP is a result of acceleration of GDP growth in Mexico as the nation diversifies its economy and increasingly competes with overseas firms for U.S. business (Natarajan, 2013). The foreign exchange rate of the Mexican Peso has also been a strength to the Mexican economy. The peso has gradually weakened against the U.S. Dollar over the past ten years, supporting Mexican firms production through lower prices to consumers in the U.S. economy (FXTOP sarl, 2013). Stable inflation in the 4% range has increased domestic demand contributing to GDP and GDP growth.Mexico maintained a trade deficit throughout the entire ten years examined (World Bank, 2013); however, Mexicos trend in net trade is a strength as the country has decreased its trade deficit to less than a tenth of what it was ten years ago. In light of the other strengths of the Mexican economy, its net trade deficit is likely to turn to a net trade surplus in the near future.Mexico is an emerging market, and is much less stable than mature economies and nations such as Canada. Shifts in policy, violence, and external factors such as global investor flight to quality, in U.S. assets, have all played a part in the volatility of Mexican short-term interest rates during the past ten years. This volatility in the price of money is a key weakness to the Mexican economy that can discourage foreign direct investment and frustrate domestic developers and entrepreneurs (Bain, 2013). This lack of access to capital may be a factor in the continued elevation of the unemployment rate in Mexico since the recession of 2009. The steady level of unemployment in Mexico since the recession has been called a jobless recovery. This will damage the development of Mexican service sector and movement to a consumer-led mature economy.ConclusionIn conclusion these two economies show promise for the future, if they are able to overcome their structural challenges. Canada is a mature, productive, and efficient economy that faces challenges continuing growth. Mexico is an emerging economy that faces challenges promoting stability, investment, and full employment. Canada and Mexico are not unique in their strengths and challenges; instead they are the archetypes of mature and emerging economies. These structural challenges face nations across the world, and are compounded by the economic events that can cause a sea change in an economy, for better or worse.The 2008 financial crisis the most striking example of this type of transformative event that occurred during the ten-year period examined. The Crisis and following recession had an affect, usually significant, on every indicator examined in the scope of this paper. While some of the indicators such as GDP, GDP growth, and interest rates experienced closely correlated trends through the crisis and recession, other equally important indicators such as inflation and net trade had negative correlations throughout the past five years since the collapse of Lehman Brothers.In this paper and all macroeconomic studies it is important to differentiate normative statements and predictions between mature and emerging economies. This is important when examining policy problems during crises and recessions, but also during recoveries and more normal business cycles. For instance the weakness now seen in the Mexican unemployment rate did not appear until a few years into the current economic recovery coincident with accelerating GDP growth (World Bank, 2013). Different economies in different stages of development, and under each nations unique circumstance require tailored application of economic principles when formulating economic and political policy.This is especially true in the new normal described by Ian Davis as a combination of less financial leverage and more government (2009) in an era of lower growth.In short, the economies of Canada and Mexico express the complexities of macroeconomics that exist throughout the globe. Economists study a limited, but expanding, set of indicators that help track economic trends; however, because of unforeseen events and the complex behavior of humans seeking the use of scarce resources which have alternative uses (Sowell, 2007) the macroeconomic study of economies will never be complete.

ReferencesBain, B., & Levin, J. (2013, May 16). Mexico Peso Drops on Speculation Fed to Consider Easing Stimulus.Bloomberg News. Retrieved December 10, 2013, from http://www.bloomberg.com/news/2013-05-16/mexico-peso-drops-on-speculation-fed-to-consider-easing-stimulus.htmlCentral Intelligence Agency. (2013, November 21). Mexico.The World Factbook. Retrieved December 10, 2013, from https://www.cia.gov/library/publications/the-world-factbook/geos/mx.htmlDavis, I. (2009, March). The new normal.McKinsey Quarterly. Retrieved December 10, 2013, from http://www.mckinsey.com/insights/strategy/the_new_normalFXTOP sarl. (2013, December 7). Historical rates.Historical Exchange Rates from 1953 with Graph and Charts. Retrieved December 7, 2013, from http://fxtop.com/en/historical-exchange-rates.php?MA=1Haver Analytics. (2013, December 7). Output, prices and jobs.The Economist. Retrieved December 10, 2013, from http://www.economist.com/news/economic-and-financial-indicators/21591235-output-prices-and-jobs%20Heritage Foundation. (2013). 2013 Index of Economic Freedom.Index of Economic Freedom: Promoting Economic Opportunity and Prosperity by Country. Retrieved December 10, 2013, from http://www.heritage.org/index/Ho, S. (2012, December 5). Canadian dollar seen strengthening in 2013 as risks dissipate, rates rise: Reuters pol.TORONTO (Reuters). Retrieved December 10, 2013, from http://ca.reuters.com/article/businessNews/idCABRE8B40PZ20121205?sp=trueKliesen, K. L. (2003). The 2001 Recession: How Was It Different and What Developments May Have Caused It?Federal Reserve Bank of St. Louis Review,85(5), 23-38. Retrieved December 10, 2013, from http://research.stlouisfed.org/publications/review/article/3679Mankiw, N. G. (2009).Principles of macroeconomics. Mason, OH: South-Western Cengage Learning.Natarajan, P. (2013, July 26). Mexican Peso Leads Decline in Emerging-Market Currencies.The Wall Street Journal. Retrieved December 10, 2013, from http://online.wsj.com/article/BT-CO-20130726-709176.htmlOrganisation for Economic Co-operation and Development. (2013, December 7). OECD Statistics.OECD.Stat Extracts. Retrieved December 7, 2013, from http://stats.oecd.org/Reuters. (2013, April 09). Canadas trade deficit doubles as exports drop, importsrise.Financial Post. Retrieved December 10, 2013, from http://business.financialpost.com/2013/09/04/canadas-trade-deficit-doubles-as-exports-drop-imports-rise/Sowell, T. (2007).Basic economics: A common sense guide to the economy(4th ed.). New York, NY: Basic Books.U.S. Trade Representative. (n.d.). Mexico.Office of the United States Trade Representative. Retrieved December 10, 2013, from http://www.ustr.gov/countries-regions/americas/mexicoWorld Bank. (2013, December 7). World DataBank.World Development Indicators. Retrieved December 7, 2013, from http://data.worldbank.org/indicatorYeyati, E. L., Ghezzi, P., & Broda, C. (2009, October 16). The new global balance Part II: Higher rates rather than weaker dollar in 2010.Vox. Retrieved December 10, 2013, from http://www.voxeu.org/article/why-us-dollar-may-strengthen-2010

Footnotes1The unemployment data for Mexico from the World Bank originates from an agency of the Mexican Federal Government, the Insituto Nacional de Estadistica Y Geografia. It is not reasonably credible that the real unemployment rate in Mexico is two percentage points lower than in the United States or Canada. Further investigation of the true unemployment rate and underemployment rate in Mexico is beyond the scope of this paper; however, it is important to note the possibility of inaccurate data.TablesTable 1Real GDP (Billion Current USD)2000200120022003200420052006200720082009201020112012

CAN7257157358669921,1341,2791,4241,5031,3381,5771,7781,821

MEX5816226497007608499521,0361,0928841,0351,1581,178

Note: Data compiled from The World Banks World Development Indicators (WDI) DataBank (2013). No data available for 2013.

Table 2GDP growth (annual %)2000200120022003200420052006200720082009201020112012

CAN5.231.782.921.883.123.022.822.200.69-2.773.212.531.71

MEX6.60-0.160.831.354.053.215.153.261.19-5.955.283.893.92

Note: Data compiled from The World Banks World Development Indicators (WDI) DataBank (2013). No data available for 2013. Data rounded to three significant digits for table legibility.

Table 3Exchange Rate (to USD)YearCAD to USDMXN to USD

20000.6735390.10566

20010.6459240.106825

20020.6371580.103492

20030.7153560.092128

20040.7694380.088636

20050.8257340.091837

20060.8818290.091795

20070.9358220.091548

20080.9436320.090482

20090.8801760.074211

20100.971030.079194

20111.0117290.080738

20121.0005320.07605

20130.9733520.078475

Note: Data compiled from fxtop.coms historical exchange rates data set (2013).

Table 4Inflation, consumer prices (annual %)2000200120022003200420052006200720082009201020112012

CAN2.722.532.262.761.862.212.002.142.370.301.782.911.52

MEX9.506.365.034.554.693.993.633.975.135.304.163.414.11

Note: Data compiled from The World Banks World Development Indicators (WDI) DataBank (2013). No data available for 2013. Data rounded to three significant digits for table legibility.

Table 5Real interest rate (%)2000200120022003200420052006200720082009201020112012

CAN3.014.643.081.360.791.083.062.820.604.41-0.33-2.521.31

MEX4.306.531.17-10.03-1.494.930.771.832.232.761.23-1.031.07

Note: Data compiled from The World Banks World Development Indicators (WDI) DataBank (2013). No data available for 2013. Data rounded to three significant digits for table legibility.

Table 6Unemployment (% of labor force)2000200120022003200420052006200720082009201020112012

CAN6.807.207.707.607.206.706.306.006.108.308.007.40

MEX2.602.502.903.003.703.503.203.403.505.205.205.30

Note: Data compiled from The World Banks World Development Indicators (WDI) DataBank (2013). No data available for 2012 and 2013. Data rounded to three significant digits for table legibility.

Table 7Net Trade in Goods (Current USD)2000200120022003200420052006200720082009201020112012

CAN3.153.282.522.683.613.823.183.343.86-0.41-0.390.09-0.60

MEX-0.69-0.80-0.64-0.48-0.73-0.63-0.51-0.84-1.44-0.39-0.25-0.120.00

Note: Data compiled from The Organisation for Economic Co-operation and Developments StatExtract data set (2013). No data available for 2013. Data rounded to three significant digits for table legibility.

Figures

Figure 1. Representation of the data in Table 1.

Figure 2. Representation of the data in Table 2.

Figure 3. Representation of the data in Table 3.

Figure 4. Representation of the Data in Table 4.

Figure 5. Representation of the data in Table 5.

Figure 6. Representation of the data in Table 6.

Figure 7. Representation of the data in Table 7.