Executive summary

View the most recent version.

Over the past three decades, tariff barriers have fallen significantly, leading to an increasing integration of Canadian manufactures into world markets and especially the U.S. market. Much attention has been paid to the effects of this shift at the national scale, while little attention has been given to whether these effects vary across regions. In a country that spans a continent, there is ample reason to believe that the effects of trade will vary across regions. In particular, location has a significant effect on the size of markets available to firms, and this may affect the extent to which firms reorganize their production in response to falling trade barriers.

Utilizing a longitudinal microdata file of manufacturing plants (1974 to 1999), this study tests the effect of higher levels of trade across regions on the organization of production within plants. In particular, it examines how three characteristics of industrial structure—plant size, plant specialization and the length of production runs—were related to the degree to which regions are integrated into North American markets.

These three structural characteristics help to determine a plant's productivity. Larger plants can take advantage of economies of scale. Plant specialization is a function of the number of products produced. Small plants hiding behind tariff barriers may produce a large number of products, despite scope diseconomies, to try to expand the plant's size in order to exploit plant scale economies. This can lead to suboptimal production runs.

Many Canadian economists have argued that trade barriers lead to suboptimal plant size, or to excessive product differentiation, or to production runs that are too short to fully exploit the economies of production-run length. Trade liberalization was seen to be a solution to these perceived problems. Increased access to U.S. markets was seen to be a way of more fully exploiting scale economies—either through increased plant size, or fewer product lines and the concomitant increase in production-run length.

Most studies on the impact of trade liberalization on the Canadian economy have focused only on the national impact, which belies the fact that Canada is composed of a distinct set of regional economies, whose ties to the North American and global economy are often quantitatively and qualitatively different. An examination of the response at the national level misses differences that may exist at the regional level. The ability of regions to take advantage of trade liberalization and the nature of their trade with the rest of the world depends, at least in part, on their location relative to North American and world markets.

In this paper, we seek to determine how Canada's integration with the world through trade has differentially affected regional economies. To do so, we ask how plant specialization, plant size and production-run length—three characteristics of industrial structure that affect productivity— have changed as manufacturing plants in different Canadian regions have integrated themselves into world markets. The data that are used for the analysis cover the period from 1973 to 1999. Over this period, tariff rates declined steadily, first with the Kennedy Round, then the Tokyo Round, and then with the Canada–United States Free Trade Agreement and the North American Free Trade Agreement.

Even before trade liberalization took place, cross-regional differences in the industrial structure stood out. The Canadian region that is the largest and closest to the centre of the North American market, Ontario, had large plants and longer production runs. This was also the region that started with the highest level of product diversity at the beginning of the period under study— where product packing to achieve economies of scale was most evident.

The effect of integration, though it increased exports, has not been felt equally across all geographic regions or in the same way. It was in Central Canada—primarily Ontario—where plant scale increased the most, where product diversity declined the most and where production- run length increased the most on average. It was here that the relationship between higher levels of export intensity and plant scale, or production-run length, was the strongest. And the reason for this comes from the fact that some aspects of industrial structure reacted more to export change (increased integration into North American markets) than elsewhere. Changes in plant size reacted more to changes in export intensity over time in Ontario than elsewhere.

The paper also examines differences in reactions of exporters and non-exporters by region to changes in trade intensity brought about by trade liberalization. In Canada, non-exporters experienced a reduction in plant size, while exporters increased their plant size and the length of their production runs. But the reactions of the two groups differed between Canada's industrial heartland and other regions. Outside the heartland, non-exporters saw their plant size reduced more in response to increases in trade liberalization, and exporters experienced less of an increase in plant size in response to increases in trade liberalization. Non-exporters outside Ontario saw their length of production runs fall by larger amounts in response to increases in trade liberalization, while exporters saw their length of production runs increase by smaller amounts in response to increases in trade liberalization.

The regional perspective adopted in this paper provides new insights into the underlying effects of trade. The effects of trade are not the same in all locations. And the variations that we observe over space are not random. Instead, we observe patterns that point to the importance of location relative to markets as a key variable determining how trade affects regional economies. Given the geographic diversity of the Canadian economy, taking into account differences related to geography improves our insights on the effects of trade on the economy.