Resource development is our niche
Was Innis wrong? This question — asked by Simon Fraser University’s Nancy Olewiler in the lead article of the latest issue of the Canadian Journal of Economics — is more controversial than it sounds. Harold Innis may not be a household name today, but he was one of Canada’s most influential economists in the 1930s and 1940s, and he’s still honoured for his role in establishing many of the institutions supporting economic research in Canada.
Perhaps more to the point, Innis is credited with developing the “staples thesis” of economic development, a class of arguments warning of the dangers of relying on natural resource wealth — “staples” — as a driver of economic growth. The fact that the staples thesis was never developed in a formal axiomatic framework — this is why it’s called a “thesis” instead of a theory — was not considered to be a fatal flaw in Innis’ time, and it continued as a basis for an active branch of Canadian scholarship after his death in 1952.
The s t andard s t aples thesis narrative has an obvious starting point: economies like Canada’s that are rich in natural wealth have a comparative advantage in resources, so commodities will form the bulk of our exports. But specialization in resources carries risks. For one thing, commodity prices are volatile, and result in destabilizing cycles of booms and busts. Moreover, if economic development is driven by capital accumulation and technical progress, and if those are more likely to occur in the manufacturing sector than in the resources sector, the prospects for long- term growth are weakened. And if the profits from resource exports are captured by foreign investors, then commodity exporters would have very little to show for their natural wealth. Such an economy would be caught in a “staples trap,” unable to export anything but resources, and unable to use resource export revenues to finance economic development.
There are many “ifs” in that paragraph, but these themes have resonated for decades in Canadian public policy debates. They’ve also been used to make the case for encouraging manufacturing over resources. But while sometimes — most of the time? — these measures amount to little more than pork- barrel pandering to a populous province with an important manufacturing sector, that’s not what Innis had in mind.
Innis’ thinking was motivated by the collapse of wheat prices in the 1930s and the economic devastation it inflicted on Western Canada, particularly in Saskatchewan. To give some idea of the scale of the crisis, Saskatchewan was the third most populous province in 1931, but lost 10 per cent of its population over the next decades. It didn’t recover its lost popula- tion until the 1960s, a period in which the population of Canada as a whole increased by 70 per cent. Innis can hardly be blamed for trying to figure out a solution.
But to come back to Nancy Olewiler’s question: was Innis wrong?
Innis was certainly right about boom-and-bust cycles in resource prices, but his solution — reduce the importance of the resource sector — doesn’t hold up very well. Innis was writing in the 1930s and 1940s, and we’ve since learned more about how exchange rates work. When exchange rates are fixed — and the gold standard is a form of fixed exchange rates — a reduction in the prices of Canada’s exports leads to an outflow of reserves in order to balance Canada’s payments. In effect, this forces Canada to respond to a downturn by contracting the money supply, amplifying the effects of the original negative shock. Many of the problems that Innis identified can be put down to bad choice for an exchange rate policy. A depreciating currency can go a long way to mitigating the effects of a bust, and to moderating a boom.
More importantly, many of those “ifs” in the staples thesis narrative don’t fit the data. Or perhaps it’s better to say that they fit too many data points, and not just the resources sector. Indeed, you can take a typical staples thesis argument, substitute the word “manufacturing” for “resources,” and get a fairly convincing argument for why it’s dangerous to overspecialize in manufacturing. “The manufacturing trap” is as good a way as any to describe the fate of the former industrial heartland in the U. S. Midwest and in southwestern Ontario.
It’s also clear that the income generated by resource exports has been broadly shared, or at least as broadly as the income from manufacturing exports. This was not inevitable, and much of the credit can go to Canada’s culture of governance. In countries with weaker governance, resource revenues are usually expropriated by well- connected elites, but Canada’s political culture has avoided that. To be sure, the income generated by (say) Alberta’s oil wealth during the last boom was not uniformly distributed across Canada, but it did show up as increased tax revenues for the federal government, and all households benefited from the increased purchasing power of the Canadian dollar.
Olewiler concludes — as do many of the studies she cites — that Harold Innis did get it wrong: resource wealth has contributed to Canada’s long-term economic growth. She qualifies this conclusion by noting that environmental concerns about resource development have since become more pressing — but then again, so have concerns about the environmental effects of the manufacturing industry.
This won’t settle the debate, of course; the manufacturing sector continues to have a powerful hold on the imaginations of non- economists — and of politicians. But it’s still a point worth remembering: even the best of us can get things wrong.