"Canada's energy industry is increasingly in the spotlight,
between the high-profile debate over pipeline construction,
decade-low natural gas prices, the double-discount on crude
exports, and rapidly rising oil sands production. While the latter
has raised loose talk of Canada becoming an energy superpower, the
evidence is a bit more nuanced, and the economic and financial
impact of the energy sector is far from clear-cut. Indeed, Bank of
Canada Governor Carney just last week suggested that "it is far too
simplistic to talk about the Canadian dollar as a commodity
currency, let alone a currency that moves consistent with one
commodity." While it may be simplistic to consider the loonie a
petro currency, there is little doubt that oil is now the single
most important commodity for the Canadian economy, and commodity
wealth is what differentiates Canada from most other industrialized
countries.
"The net merchandise trade surplus on all forms of energy
totaled $61.4 billion over the past year, or roughly 3.5% of GDP
over that period. While certainly significant, the energy trade
surplus in fact averaged 3.4% of GDP from 2000-
2011, so recent trends are consistent with the past decade. The
big break occurred around 2000, when the energy trade surplus took
a step up from a 20-year trend of just over 1% of GDP to around its
current level, as both oil
and gas prices ramped up. Taken as a whole, the energy sector's
importance for the broader economy has increased markedly from the
1980s and 1990s, but hasn't really changed much from the 2000s. For
comparison, Russia's net energy trade surplus is about 17% of GDP,
while the U.S. energy deficit was just over 2% of GDP in the past
year.
"Yet, there is little doubt that the Canadian dollar is heavily
influenced by the direction of oil prices. We have long contended
that the currency tends to move by 3-5 cents (US) for every US$10
move in oil prices. The wide divergence
between Brent, WTI, and Western Canadian Select (WCS) prices in
the past 18 months has seen the relationship temporarily weaken,
compounded by heavy capital inflows. Still, in the long term, we
find that WTI provides the best fit
with the currency, with a correlation coefficient of more than
0.90 on week-to-week moves in the loonie.
"No doubt, WTI is currently not an accurate gauge of oil's
impact on Canada, with most of our consumers effectively paying
Brent prices, and many of our producers receiving the low-end WCS
price. The Bank of Canada estimates that
this spread is costing the Canadian economy 0.1% of GDP (roughly
$2 billion) this year. The spread between Brent and WCS has
exploded to about $43 barrel on average so far in 2012, up from $33
last year and just under $15 in 2010. While rising export and
falling import volumes have expanded the oil trade surplus, a
narrower price gap would clearly be extremely beneficial to Canada.
Indeed, if
all exports were sold at Brent prices, Canada would reap an
additional $19 bln annually (roughly a 4% increase in total
exports). However, the gap is expected to be transitory, as new
pipelines improve product flow in North America and
Mid-East tensions ease. In the event, the high correlation
between WTI and the loonie will likely re-emerge.
"The other dampening issue on Canada's energy sector is the deep
dive in natural gas prices. One key shift in the past decade has
been the reversal of fortune between oil and gas. Net crude oil
exports are now running at $42.9
billion per year (or 2.5% of GDP), while natural gas sales have
dropped to just $12.5 billion (0.7% of GDP, the lowest since the
early 1990s). Indeed, due to the incredibly mild winter and the
upswing in U.S. production, Canadian
gas exports dropped below $700 million in February, onethird of
the 10-year trend and just 1.7% of all merchandise exports, the
lowest since the mid-1970s. Until 2006, oil and gas exports were
running almost hand-in-hand, but
now they are on different planes altogether. Also note that
trade in coal, electricity and refined petroleum products have all
been in small surplus
positions over the past year but, combined, account for little
more than 0.3% of GDP.
"Weak gas prices and the discount on Canadian crude have
undercut our overall commodity price basket and have trimmed the
terms of trade. While well above the
2009 lows, neither measure has progressed since 2005 2006."
Bottom Line: "There is much more to Canada's economy than
commodities, and there's much more to commodities than oil.
However, crude oil has become the single most important commodity
for Canada and, arguably, our single
most important product. Crude oil exports alone are now larger
than all exports of autos, trucks and parts, whereas they were
one-seventh of auto sector exports in the 1990s. Crude oil exports
are also now larger than agriculture and
forest product exports combined. It may seem simple that
Canada's currency and economic outlook will be heavily influenced
by the fate of oil output and prices, but the simple explanation is
often also the best."