Canada might be headed towards a recession and people are blaming immigration policies.

So in today’s Finshots, we explain why Canada might be finally putting a squeeze on its immigration policies.

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The Story

A decade or so ago, Canada realized that it was facing a double whammy.

Its economic growth was anaemic. And some people blamed it on a lack of competitiveness. The country was quite dependent on its natural resources — stuff such as gas and uranium that it didn’t focus on innovation. For instance, ‘high-tech’ exports of computers and drugs were only 4% of exports for Canada. But for other members of the Organisation for Economic Co-operation and Development (OECD), it was nearly double that.

Another problem was that Canada’s demographic dividend was waning. Or put another way, the ratio of senior citizens who couldn’t contribute to the workforce was rising and it would hurt productivity. While there were 7 workers to 1 senior in the 1970s, that number had fallen to 3 workers to 1 senior.

So when Justin Trudeau came into power in 2015, his idea was to add an artificial sweetener to growth — immigration. He felt that if you expand the population and workforce, it increases the potential growth rate.

How’s that, you ask?

Well, for starters think of the potential growth rate as how much the economy can grow without adding to inflation. And if you want to drive growth you need three basic ingredients — capital, productivity, and labour.

And here’s how the Deputy Governor of the Bank of Canada explained this last month:

Every year during the holidays, my brother makes tourtière [A French-Canadian meat pie] to give to his friends and family. Think about potential output as the number of tourtières my brother can make in a day. If he wants to make more people happy, he needs to be able to make more tourtières than he does now.

He can boost his tourtière output — or increase potential — in three ways:

• through capital — he could buy a second, bigger stock pot to make more of his meat filling;
• through productivity — he could rearrange part of his kitchen and set it up like a production line to assemble the tourtières more quickly; or
• through labour supply — he could get his kids to help out.

The kids in this analogy are the immigrants. They come in and help make more of these meat pies and it boosts economic output without adding to inflation.

And like we said, Canada’s demographics weren’t looking good. 1 in 5 Canadians were close to retirement. That’s a problem because it could result in a shortage of workers for critical tasks. Also, the dependency ratio or the number of people who rely on the working population will rise. It could result in financial strain on the economy.

So Canada needed outsiders to give a jolt of fresh energy. And it worked. The economic growth jumped and started to keep pace with its big neighbour, the US.

But what about the impact of all these immigrants on the inflation then?

Well, it all depends on the type of immigrants coming into the country and which sectors they end up working in. For instance, let’s say that a fair portion of the immigrants are lower-skilled workers who end up in manufacturing plants. The supply of labour at a lower cost could be then passed on as lower prices for the goods being made.

Also, it looks like immigrants are more sensitive to price fluctuations too. If retailers increase prices, immigrants cut back on consumption quite significantly. So in order to benefit from more sales, retailers often end up keeping prices lower just to attract immigrants too.

Then there’s the matter that many immigrants end up moving to the country to save up and send money back home to family. As a consequence, these folks spend less than the average Canadian.

And when the Canadian central bank put all this into perspective, they found that the ‘newcomers’ — that’s how they referred to immigrants — have less than a 0.1% impact on inflation.

So yeah, the idea seemed to work. And immigration turned out to be quite a boon to the economy.

But wait…this growth was hiding two things. Two things that are making Canadians quite unhappy now.

For starters, the International Monetary Fund (IMF) pointed out that the growth didn’t necessarily improve the living standards of the average Canadian. They said that since 2016, the GDP per capita had grown by only 2.4%. In comparison, the US saw a rise of 11.7%.

So the benefits of these new policies or immigration didn’t really trickle down to the masses. Or as economist David Rosenberg put it, “You can create this mirage of economic prosperity, but in the end that’s what it is, a mirage”.

Secondly, while immigration didn’t affect broader inflation, it might have decimated the housing market.

See, irrespective of the kind of immigrant moving to Canada, they need housing. And the issue here is that Canada hasn’t been able to keep pace with building new homes. The demand for homes is far outstripping its supply.

The end result?

The vacancy rates — or the units available — collapsed. From over 7% in 2015 to a little under 4% today. In fact, it’s at a historic low right now with everyone vying for a roof over their heads.

As a consequence of this mismatch, rents are shooting up too. In fact, rental inflation is at a four-decade high.

Now let’s say someone had enough of these exorbitant rents. They decide that buying a house is better because that way at least they’ll have an asset in their hands. Well, without enough new housing to go around, things are even more dire for buyers. Canada’s price-to-income ratio or how much homes typically cost when compared to average income is at whopping 9.6 times. For context, it’s at 4.2 times in the US.

So yeah, you can see why Canadians might be inclined to blame immigration for all its woes. Even if it’s not the entire cause.

So what can the country do now?

Well, for starters, they need to urgently fix the housing issue urgently. See, while Canada does have an immigration policy to welcome qualified construction workers, it hasn’t moved the needle by much. Only 0.1% of annual Permanent Residence (PR) permits were issued to this segment. So they need more people who can help boost this construction work now.

But more than anything, Canadians might need to realize that it’s not immigration that’s the problem. It’s probably the shaky corporate foundations that don’t encourage innovation. Canada just needs to look at its neighbour, the US, again for this — immigrants are 80% likelier than native-born folk to launch a company. And maybe that’s the kind of competitive spirit Canada needs to breed if it wants sustainable growth.

Until then…

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