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FDI for decades has been a significant contributor to Canada's economic performance. The stock of FDI in Canada is higher than in many of our competitors.53 Historically, FDI was the principal means of obtaining access to the Canadian market because of high tariff levels, creating what was called a "branch plant economy."
With tariffs now being relatively low through successive trade rounds and free trade agreements, many foreign-owned companies have rationalized production in Canada for North American and world markets.
The branch plant model has given way to the global value chain model, with R&D, design and production carried out in various geographic locations. Today and in the future, a key to a country's economic success will be to secure participation in global value chains managed by large multinational enterprises (MNEs), whether domestic or foreign.
It is particularly important for a country with a small domestic market like Canada's to participate in these global value chains. In this regard, there is growing evidence that MNEs, regardless of country of ownership, outperform domestic firms on a wide range of factors, including innovation, wages, productivity, exports and profits.
Many Canadian companies have been gaining this MNE advantage by investing abroad. However, for many Canadian firms, this advantage is gained through FDI. For small and medium-sized enterprises as well, once they achieve a certain size, the most attractive option, both for owners to realize value and for employees to expand their career opportunities, is often to become part of a larger corporate structure with global reach. The challenge for Canada, in regard to both its domestically based MNEs and to attract FDI, is to create an environment that can successfully compete for higher-value activities.
The Department of Foreign Affairs and International Trade markets Canada's advantages as an investment location of choice and provides services to potential investors. A network of investment officers in overseas posts promote investment in priority sectors in Canada from key markets.
Two developed countries offer worthy comparisons for Canada in developing policies to promote inward investment: Ireland and Australia.
Ireland's government has taken a proactive stance in reforming its economic policies to make the country more attractive as a location for investment. A key element in its strategy was a significant reduction in its corporate tax rates, seeking to attract foreign firms to Ireland on the basis of its competitive tax regime. The Irish have been very open in welcoming investment in their country, including actively seeking out foreign firms and investors. Recognizing that global corporations and investors look beyond any single national market, Ireland has also promoted itself as a location from which to access to the larger market of the European Union. As well, the Irish government placed a significant priority on investment in education and training, recognizing the importance of a skilled labour force. Since 1990, Ireland has improved its GDP per capita from one of the worst in the OECD to fourth overall.54
Australia, a country with many similarities to Canada, offers a second comparison, particularly as an example of a country that sought to strike a balance between attracting foreign investment while continuing the development of its domestic industry. From the mid-1990s onward, Australia has demonstrated a strong commitment to taking action on competitiveness issues, a commitment reflected not only in the federal government, but also at the state level. Structural and institutional reforms to its competition regime, as well as a focus on sustained and ongoing review and reform efforts, reflect Australia's dedication to adapting to a new global competitive environment. This structural reform effort is typified by the 1998 establishment of the Productivity Commission, which continues to make a significant contribution to the cause of Australian competitiveness, in terms of both process and advice to the government.55
How can Canada best compete on a broad basis for investment? Should Canada concentrate on investment primarily for the North American market? Since the implementation of free trade agreements almost two decades ago, Canada has not been the location of choice within North America. In fact, Canada's share of North American inward FDI stock has fallen from over 40 percent in 1980 to 16.3 percent in 2005.56 (Figure 12)
An important factor in the North American context is the signing by the U.S. and Mexico of bilateral trade and investment agreements with many countries, both within the hemisphere and outside it. As a result, both the U.S. and Mexico have the advantage of being investment hubs with radiating spokes to numerous free trade markets.
Still, in a North American context, with Canada representing only 10 percent of the Canada-U.S. market, investing in Canada with a view to exporting into the U.S. requires a compelling case of economic advantage to offset potential border risk. Unfortunately, in the post 9/11 world, that risk is higher than before, particularly in manufactured goods and their intermediate components. These challenges are exacerbated by border disputes that periodically arise between the two countries. An efficient Canada-U.S. border is an important factor in determining Canada's North American competitiveness.
Other factors that influence investment decisions include:
Both the Conference Board of Canada and the Institute on Competitiveness and Prosperity have identified many of these factors as important to a nation's attractiveness as a destination for investment.
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