Study: Growth in real income in Canada and the United States

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In terms of income per capita, the Canadian economy grew significantly faster than the US economy between 2000 and 2006. Real income per capita in the United States grew by 9.1% during this period, while in Canada real income per capita grew 15.5%, nearly two-thirds faster than the US rate.

This is exactly the opposite of the situation prior to the turn of the millennium, when commodity prices were weak and the Canadian dollar was depreciating, according to a new study.

The study showed that a long downward trend in Canada's fortunes prior to 1999 was reversed in very short order. In three short years, real income relative to the United States returned toward levels not seen since the mid-1980s. And much of this "reversal of fortunes" has been due to Canada's resource economy.

In the two decades prior to 2000, the US economy tended to grow faster than the Canadian economy, regardless of whether labour productivity, real gross domestic product (GDP) per capita or real income per capita was examined. In fact, if real income is used as the yardstick for measuring performance, the Canadian economy fares worse than if either labour productivity or real GDP per capita is used.

The study found that between 1980 and 1989 and between 1990 and 1999, labour productivity, real GDP per capita and real income per capita all increased faster in the United States than in Canada. After 2000, labour productivity continued to grow faster in the United States than in Canada, while growth in real GDP per capita was similar between the two countries.

For real income per capita, however, the situation was reversed following the turn of the millennium. Between 2000 and 2006, real income per capita in the United States grew by only 9.1%. In Canada, the increase was 15.5%.

The study suggests that the Canadian economy's growth has shown the advantages of diversification coming from its resource base. A diversified economy has some of the same advantages as a diversified stock portfolio. Some sectors may decline slowly for long periods of time, only to experience a sudden and dramatic change in fortunes. Canada has had just such an experience.

All measures pointed to long-term relative decline in Canadian economy before 2000

Prior to 2000, all measures indicated a long-term decline in the Canadian economy relative to the US economy.

Those were the years in which Canada's resource economy was in decline. Resource output as a percentage of GDP was falling around the world. Relative commodity prices were declining. The earnings foreigners received from their investments in Canada were larger than those that Canadians earned from their foreign investments—and the difference tended to get larger each year. As a result, real income growth failed to keep pace with real GDP growth.

All that changed with the commodity boom that Canada experienced after 2003. Export prices rose sharply, the Canadian dollar appreciated and prices of imported goods fell. Canada's receipts of income from foreign investments increased dramatically relative to payments.

At the same time, China and India emerged as important players in the world economy, contributing to a dramatic increase in real income growth in Canada relative to GDP growth. This also affected comparisons between Canada and the United States.

Terms of trade improvements boost real income in Canada

An important ratio for determining how changes in commodity prices, imported consumer goods prices and the Canadian dollar will affect Canada is the "terms of trade." This is the price of exports relative to the price of imports.

When the ratio rises, it signals that the value of Canada's exports is increasing. Exports will now purchase more imports than they would have previously. A rise in the terms of trade indicates that the volume of goods and services Canadians can purchase with their earnings is rising.

The study found that Canada's terms of trade, spurred on by higher commodity prices, falling prices of imported goods and a higher dollar, were a driving force behind real income growth in Canada. The terms of trade rose noticeably, increasing the purchasing power of Canadian real incomes between 2002 and 2006.

At the same time, real income growth in the United States was held back by the rising commodity prices. As a result, Canadian real income growth significantly outpaced American real income growth after 2002.

Net income from abroad a factor in real income growth

The study also found that after 2000, international investment income contributed to real income growth each year, unlike during the 1980s and 1990s when it tended to detract from real income growth.

Between 1980 and 2001, the net amount of income sent abroad each year increased. In 1980, Canadians earned $8.5 billion less on their foreign investments than foreigners derived from their investments in Canada.

Over the next 20 years, the amount of income earned by foreigners from their investments in Canada increased at a faster rate than the income Canadians earned from their foreign investments.

By 1999, Canadian investments abroad were earning $33.2 billion less than foreign investments in Canada.

Beginning in 2000, and accelerating from 2005 to 2006, the income earned by Canadian investments abroad rose sharply. The earnings from foreign investments in Canada failed to keep pace, and the amount of money sent abroad each year became smaller. By 2006, it had shrunk to $10.8 billion, close to the same balance observed in 1980.

The research paper "Canadian and U.S. Real Income Growth Pre and Post 2000: A Reversal of Fortunes" is part of the Economic Analysis (EA) Research Paper Series (11F0027MIE2007048, free), now available from the Publications module of our website.

For more information, or to enquire about the concepts, methods or data quality of this release, contact Ryan Macdonald (613-951-5687), Micro-economic Analysis Division.