Current account deficit: Keep it small and carry on

'Deficit' became a dirty word in Canada long ago, but economists aren't jazzed up about the gap in the country's current account, even though they expect it to persist through 2012 and possibly beyond.

The current account is the broadest measure of Canada's trade performance, since it represents the difference in outbound and inbound financial flows from trade, investment income and cash transfers. A surplus can indicate a country is too reliant on exports for economic growth, while a deficit can mean a country is too dependent on debt-financed domestic spending.

In the first three months of 2012, Canada's current-account shortfall was $10.3-billion, Statistics Canada reported Thursday, a slightly wider gap than the previous quarter's $9.7-billion but amounting to just 2.3 per cent of gross domestic product, which is better than last year's average of closer to 3 per cent. (For some perspective, before the financial crisis -- which was exacerbated by the mismatch in trade patterns between the world's biggest economies, the United States and China -- the U.S. current-account deficit was worth 5.1 per cent of GDP, and China's current-account surplus was a whopping 10.1 per cent of GDP.)

Economists and policy makers generally agree that a deficit or surplus of more than 4 per cent of GDP, especially for major economies, is an impediment to the rebalancing of global growth that many view as crucial to blunting the impact (or even preventing) future crises. So, Canada is far from that level and, in any case, Canada's economy just isn't big enough to upset the global economy on its own.

Even when Canada's shortfall was approaching that level in early 2011, Bank of Canada policy makers flagged the fact that it was reaching a 20-year high, while stressing that the gap was in large part a product of the healthy domestic spending that pulled the economy out of recession -- i.e. spending on imports eclipsed income from exports -- so not a completely bad thing.

Nonetheless, Canada's current account was in surplus for many years before the crisis, and is now expected to remain in deficit indefinitely.

The main reason? A currency at parity with the U.S. dollar means Canadian exports are at a disadvantage and will be for some time. Indeed, until companies do more to improve their efficiency to offset the effects of the higher loonie, they'll remain at a competitive disadvantage. Bank of Canada Governor Mark Carney has highlighted this point for more than a year. In a January, 2011, forecast paper, he noted that Canada's competitiveness has suffered in part because labour costs -- when adjusted for exchange rates and inflation -- are higher than in the United States, a phenomenon he attributed mostly to the loonie's rise ascent 2005, but also to "productivity underperformance."

A narrower global trade surplus was behind the slightly wider current-account gap in the first quarter, although the surplus with the U.S. actually rose to the highest since 2008 thanks to sales of energy products. Still, unless and until the U.S. starts growing a lot faster, boosting Canadian exports, or unless and until companies start realizing massive efficiency gains, economists say it's hard to see the current account moving back into the black any time soon.

In the grand scheme of things, though, there's little reason to worry much about the current account being in deficit for a while, as long as the gap doesn't get much bigger.

Plus, as much as the currency is restraining competitiveness, the alternative -- a weakening loonie as a result of dramatically escalating global turmoil which pushes investors to more established safe-haven securities like the U.S. dollar, and guts demand everywhere -- is probably worse.