Canada is facing an unfortunate continuous decline in investor sentiment and there is tangible evidence that it is getting harder to get anything done in our country. This is reflected in the current level of the Canadian dollar vs the US dollar and the relative underperformance of Canadian vs US stocks. We would like to argue that a lot might change for the better in the next year. Remember as investors we are supposed to be looking to buy low when it is darkest before the dawn.
The current refrain “Canada is broken” needs a little nuance. Rather it should be more clearly stated that anything the Canada government touches is broken. The most alarming measure is that GDP per capita has stalled for over a decade and Canadians are now 40% poorer than the average American. With a potential change in government and a mandate to reform, there is a chance that our national institutions will encourage productivity and waves of investment.
Regulations and permit processes are stifling businesses and the buildout of infrastructure. For just one example, we are anticipating the electrification of our entire economy with mandates like there will only be electric vehicles for sale by 2035. This implies an increased demand for metals. However, where opening a new mine used to take 2 to 3 years to permit and build, it now takes 10 to 12 years. Any copper and lithium needed for all these electric vehicles will not be available until 2037 at the earliest. So, you start to see the cognitive dissonance. This example is for mining, but it can be extrapolated to manufacturing and construction.
This is fixable but the government must get out of the way. The levels of approval have to be simplified, and rules have to be standardized, and goal posts can’t be moved arbitrarily. This is all a big ask but it is possible.
Our Canadian taxes are too high, and the tax code is too complicated. This is not just an argument for lowering the 54% marginal income tax rate but also the proportion that the government consumes of our economic output. All levels of taxation now equate to about 43% of our national income. The government simply consumes this money while often misusing phrases like they are investing in the economy.
Let us use the Irish economic model. Ireland was historically a poor country tacked on to the side of the European Union. They get all the benefits of the open market, but it is still an obscure outpost, so they dropped corporate taxes to 12.5% in 2003 vs the European average of 21% (previously 26% prior to 2023). Using this template, to attract investment Canada needs to have a lower tax rate than the US which stands at 21%. Canada’s corporate tax rate is 26% but then makes it complicated by having a lower tax rate for very small businesses which discourages them from growing.
Irish GDP per capita was on par with Canada in 2003 but has grown to $104,000 in US dollars. This is even higher than the US average of $83,000. Canadian GDP per capita is now stalled at $54,000 in US dollars and shockingly on par with Mississippi, the poorest state in the US. But also, an important takeaway is that the Irish government is spending only 24% of their national income compared to Canada spending 43%.
In plain-speaking terms, Canada needs to return to business-friendly political institutions, and this may all start in this calendar year. At Avenue, we believe Canada is close to its lowest GDP relative to the US and it is possible for this to improve with political will.
However, as we have discussed many times in the past, the investment reality is that most Canadian TSX listed public companies are North American companies. Avenue is currently invested in businesses where their operations are 55% outside of Canada, mostly in the US. When we add Canadian resource businesses, that sell in US dollars to the US, our Avenue total US dollar exposure is 70%.