Firm hand needed for Canada's foreign investment strategy

Since the start of the conflict between Russia and Ukraine, the global economic outlook has become uncertain. It has also pushed investors to make different choices about where they place their money. In 2023, for example, money flowed to the United States, Brazil, Mexico and Canada, which tied for third place among OECD countries for foreign direct investment (FDI). Yet there is no sign of any real improvement in Canada’s position in terms of attracting capital. Our country continues to have a negative FDI balance, meaning that Canadian direct investment abroad still exceeds foreign direct investment in Canada. This is neither new nor unique to our country: more developed economies are richer and sometimes invest more abroad. The United States, with its balanced FDI position, is one of the few countries not to follow this trend. 

This trend is especially apparent when it comes to taxpayers and pension funds. In 1996, Canadian direct investment abroad was equal in value to foreign direct investment in Canada. Since then, Canadian investment abroad has increased by a factor of 11, while foreign investment in Canada has increased by just a factor of seven. As for pension funds, they have diversified. While Canadian assets (excluding bonds) accounted for 80 per cent of the portfolio in the 1990s, they now represent less than 50 per cent. And for the Canadian share of equities, the difference is even more marked: over the same period, it has fallen to scarcely 23 per cent from 74 per cent. 

It's clear that Canada is not attracting enough money from multinational corporations, taxpayers or pension funds. That shortage of capital can result in productivity declines and can make Canadian investments even less attractive, creating a vicious circle. 

Attracting capital 

In theory, the solution is simple: either we make Canadian investments more attractive—and therefore more competitive—or we make sure to stand out on the international stage. The devil, however, is in the details.  

To make investments more competitive, there are several economic development approaches available. I personally favour systemic approaches that target the business environment (like lower tax rates and agile but responsive regulations). While it’s still in practice, the classic Canadian approach of attracting large, multinational companies with generous subsidies seems to me to be a relic of the past. It is too expensive and promotes the development of business ecosystems that are dependent on those multinationals. Then, in order to keep that company in Canada, we are sometimes forced to turn the initial aid a permanent subsidy. 

The other approach is to make Canada stand out internationally to attract investors—through our political positioning or ESG considerations, for example. As a producer of fossil fuels, Canada is well positioned to receive investments—and those investments will be very welcome. As it stands, the fossil fuel industry is investing as much as it did before the pandemic, not counting inflation, while investment from abroad is lower.  

But, when it comes to environmental issues, the picture is less rosy. Our economy is partly based on natural resources, and our low population density generates a heavy environmental impact when it comes to transportation. 

\And we simply cannot compete with the U.S. solely based on returns: the TSX almost systematically underperforms the S&P 500. That’s where our ESG performance comes in, providing Canada with the opportunity to compete in other spheres. In the area of corporate governance, our performance is comparable to or even better than that of the U.S. A similar observation applies to the social component of ESG. Income and wealth inequalities are not only lower in Canada, but they are not increasing at the same rate as in the U.S. The Global Social Mobility Index ranks Canada higher than our neighbour to the south. The same is true within Canadian companies, where the pay gap between CEOs and employees is smaller and there are fewer low-wage workers. 

That said, Canada needs to quickly stand out in terms of the transparency and quality of information available to investors. Things are moving in the right direction, however, as the Canadian Sustainability Standards Board is working with its international counterpart to implement international and Canadian standards.  

In its 2023 economic update, the federal government also promised to increase the transparency of pension funds. This is a good start. I wouldn’t mind also seeing governments introduce economic development mandates to increase the impact of our money here at home. The Caisse de dépôt et placement du Québec already does this with no negative impact on its returns. In other words, repatriating investment to Canada will be well received, provided we avoid two sectors that are already overheating: real estate and infrastructure.