Great Lakes ; North American Free Trade Agreement ; Canada ; Manufactures

David A. Oppedahl

Loula S. Merkel

William A. Testa

English

Research Papers in Economics

ESSAYS ON ISSUES THE FEDERAL RESERVE BANK MAY 2000
OF CHICAGO NUMBER 153
Chicago Fed Letter
The binational Great
Lakes economy
The Canada-U.S. Free Trade Agree-
ment (FTA) of 1989, recast in 1994
to include Mexico, predictably
strengthened the Great Lakes region’s
binational integration. The region,
comprising Ontario in Canada and
Ohio, Michigan, Indiana, Illinois,
Wisconsin, and Minnesota in the
U.S., has long rivaled any binational
region in the world in size, economic
importance, and the degree of its inte-
gration. This Chicago Fed Letter reviews
the region’s features and progress to-
ward integration as a path to success
in the emerging global economy.
Population and work force
Ontario comprises close to two-fifths
of Canada’s population. On the U.S.
side, the six states of Ohio, Michigan,
Indiana, Illinois, Wisconsin, and Min-
nesota, comprise 18% of the much
larger U.S. The Great Lakes states’
share of national population declined
from 21.5% to 18% from 1971 to 1999.
Over the same period, Ontario’s
share of Canada’s population edged
up slightly from 37.4% to 37.8%.
Immigration between Canada and
the U.S. is the exception rather than
the rule. Canadian and U.S. citizens
do travel frequently between the coun-
tries for work and leisure, but they
generally prefer to maintain their
citizenship. Instead, both countries
have drawn significant streams of im-
migrants from other countries. In
1996–97, Ontario attracted 52.9% of
Canada’s immigration. In the Great
Lakes states, immigration has helped
to offset net domestic out-migration
to the southern and western U.S.
However, the net flow of immigrants
to other U.S. regions outpaces that
to the Midwest.
One concern about immigration in
the U.S. centers on fiscal losses arising
from the potential deficit in taxes
paid by immigrants, net of the bene-
fits they draw from government pro-
grams. Such losses may arise owing to
the skill deficiencies of many recent
immigrants to the U.S. A rising trend
of immigrants from Central and South
America accounts for a pronounced
erosion in skill levels of successive
groups of immigrants. This trend also
raises concerns over downward wage
pressures on low-skilled U.S. workers,
and perhaps adds to widening income
disparities among households.1 How-
ever, new immigrants also create new
patterns of spending and new income,
which may not skew the existing pat-
tern of wages at all.
In contrast, recent immigration to
Canada is often seen in a favorable
light. Highly skilled Asian immigrants
have provided a stopgap to the alleged
“brain drain” of technical workers
from Canada to the U.S.2 In part, the
alleged brain drain derives from a
roaring U.S. economy that is short
of labor, especially in high-tech sec-
tors. Also, the economic recoveries
of Canada and Ontario have been
unfolding later than those of the U.S.
and the Great Lakes states in the
1990s, leaving a larger pool of un-
tapped labor in Canada.
As a result of differing degrees of labor
market tightness across the region’s
borders, one might expect to observe
greater flows of workers from Ontario
to the Great Lakes states and other
U.S. regions. Immigration and cross-
border work and travel barriers are
breaking down while, at the same
time, there is a potential imbalance
between the demand for skilled
workers in developed parts of the
world—Japan, western Europe, the
U.S., and Canada—and developing
countries in eastern Europe and Asia,
where population and educational lev-
els continue to climb. Of course, giv-
en the recent tendency of trade flows
to favor services rather than goods
(such as software development), the
need for immigration and personal
business travel may actually wane
rather than rise. Comparative advan-
tages in producing such high-tech
services may shift to locales with an
abundance of skilled labor.
Regardless of these forces, the U.S. and
Canada have tried to make business
travel easier. NAFTA (North American
Free Trade Agreement) facilitates
cross-border work for three categories
of workers: 1) professionals 2) intra-
company transfers; and 3) traders and
investors. More than 26,000 Canadians
obtained NAFTA visas in 1996, com-
pared with 2,600 similar arrangements
ten years earlier.3 Cross-border trips
by Canadians and U.S. citizens run
from 80 to 90 million per year (for all
purposes). Overnight person-trips in-
creased by 29.1% from 1979 to 1995;
day trips have increased by 40%.
Manufacturing bulwark
Ontario and the Great Lakes states
represent the manufacturing core of
their respective countries (see figure
1). Ontario accounts for about 55%
of Canada’s manufacturing output,
while the Great Lakes states account
for about 25% of U.S. manufacturing.
Although their share of manufactur-
ing output has declined over the past
30 years, these states comfortably re-
main the manufacturing center of the
U.S. Meanwhile, Ontario has main-
tained its share of Canada’s manufac-
turing output.
Industry sectors in Ontario tend to
be more labor and resource intensive,
whereas in the Great Lakes states they
tend to be more capital and technology
intensive.4 For instance, an index
of employment concentration forOntario
Source: Authors’ calculations based on gross state product data
from the Bureau of Economic Analysis and Statistics Canada.
1. Index of manufacturing intensity
0.0
0.5
1.0
1.5
2.0
index, national average = 1
Great
Lakes
IL IN MI MN OH WI
National
average
nonelectrical machinery (an impor-
tant capital-intensive industry) scores
0.60 for Ontario (only 0.47 for all of
Canada) but 1.88 for the Great Lakes
states in 1996.5 Ontario’s apparent
deficit of capital goods production in
an otherwise manufacturing power-
house tends to be filled by exports
from the Great Lakes states. Imports
of machinery to Ontario from the
U.S. side of the Great Lakes exceeded
exports by CN $6.3 billion in 1998.
One common industry sector looms
large, however. The Great Lakes
region—Ontario included—dominates
North American assembly of motor
vehicles, though the Great Lakes states’
share of U.S. assembly declined from
66.7% in 1986 to 56.4% in 1997. This
decline is primarily due to the drop
in Michigan’s share of light vehicle
assembly from 40.7% to 25.4% in 1997.
(One notable offset is Indiana’s gain
in share from 4.8% to 9.5% over the
decade.6) This trend follows a shift
of the auto belt southward toward
Kentucky and Tennessee, which has
been led by the Japanese automakers,
with lesser participation by U.S. com-
panies.7 However at the same time,
auto production has centralized from
the east and west of the U.S., along
the I-65/I-75 auto corridor in the Mid-
west. Meanwhile, Ontario continues
to assemble more than four-fifths of
the vehicles produced in Canada.8
All in all, the auto sector has long
been the region’s most integrated
industry, dominating its export and
import traffic.
Trade and investment
linkages
Strong trade and invest-
ment linkages among
the Great Lakes states
and between the states
and Ontario have long
been an archetype for
cross-border integra-
tion. More recently, this
highly integrated bina-
tional economy has
served as a building
block toward growing
trade with the rest of
the world.
Canada is both the
U.S.’s and the Great
Lakes states’ largest trading partner.
The total volume of exports and im-
ports within the Great Lakes region
amounted to over U.S. $100 billion
in 1999.9 Great Lakes states’ exports
to Ontario in 1999 accounted for
88.6% of the states’ exports to all
of Canada and around 35% of the
U.S.’s total exports to Canada.
This tight relationship is encouraged
by physical proximity and has been
strengthened by various efforts at lib-
eralizing the cross-border flow of goods
and services. The signing of the Auto
Pact in 1965 established freer trade be-
tween Canada and the U.S. in autos.
The Canada-U.S. FTA in 1989 provided
for the elimination of tariffs in most
other products and services. And more
recently, NAFTA brought Mexico into
the FTA’s free trade zone. As we would
expect, U.S.-Canada trade has grown in
the aftermath of these agreements.
U.S. exports to Canada were 44%
higher in 1999 than in 1994 (figure
2). Likewise, exports from the Great
Lakes states to Canada have grown by
36.8% since 1994 when NAFTA went
into effect. While these figures are
substantial, other export destinations
are growing at a faster rate than Can-
ada–namely, Mexico and Central and
South America. While the Great
Lakes states’ exports to Canada grew
at an average annual rate of 9.2%
over 1989 to 1998, these markets
posted growth rates of 21.4% and
18.9%, respectively. Exports to Mexico
and Central and South America from
the Great Lakes states and Ontario
combined grew at an average annual
rate of 16.9% and 11.4%, respectively,
from 1995 to 1998.
Because the majority of the region’s
trade is comprised of heavy manufac-
turing and natural resources, vast
north–south rail and road networks
have developed to accommodate it.
Transportation avenues have histori-
cally been at the heart of the bination-
al relationship. The Great Lakes-St.
Lawrence River system formed a nat-
ural trade and transportation route.
Recent examples of efforts to create
a “seamless” transportation system
include the merger of Canadian
National and Illinois Central and the
one proposed by Canadian National
and Burlington Northern Santa-Fe,
which would create a rail network to
link Canada, the U.S., and Mexico.
Improvements in highway infrastruc-
ture and telecommunications tech-
nology (such as global positioning
systems), as well as manufacturing’s
needs of flexible and timely delivery,
have also made trucking a favored
form of transport across the border.
Trade linkages of the binational Great
Lakes region have also been reinforced
of late by foreign direct investment
(FDI) flows. In 1987, U.S. direct in-
vestment in Canada represented 70%
of total inward FDI flows and the U.S.
was the destination for 66% of Cana-
dian direct investment flows abroad.
One potential incentive to invest in a
foreign country is to avoid trade bar-
riers. Consequently, one might expect
to see a decline in investment between
the U.S. and Canada after the FTA in
1989. To the contrary, FDI and trade
flows do not appear to be acting as
substitutes, but rather as complements.
The stock of Canadian investment in
the U.S. increased by 82% from 1994
to 1998. There is some evidence, how-
ever, of a diversion of investment to
other countries. While FDI levels have
grown, the U.S. share of Canadian di-
rect investment abroad declined
from 66% in 1987 to 52% in 1997.
And while the U.S. remains the largest
host country of Canadian FDI, the
UK and other countries are increasing
in importance.
The trend is similar in outward flows
from the U.S. U.S. direct investment
capital flows to Canada in 1999 were
more than double the amount in 1994.1994 ’95 ’96 ’97 ’98 ’99
-200
-100
0
100
200
billions of U.S. dollars
Source: Statistics Canada.
2. Canada/U.S. and Great Lakes trade
Great Lakes states
exports to Ontario
Great Lakes states
 imports from Ontario
U.S. exports
to Canada
U.S. imports
from Canada
200
100
100
200
Canada’s share of the stock of U.S.
FDI, however, has undergone a long-
term decline in the past 20 years,
owing to the soaring growth of U.S.
investment in emerging markets and
Europe. In 1978, Canada represented
22% of the stock of U.S. direct invest-
ment abroad; in 1998 this figure had
fallen to 11%.10 More broadly, Canada’s
importance as a host country for world-
wide FDI has declined significantly
over the last decade. Its share of the
world inward FDI stock dropped from
9% in 1985 to approximately 4% in
1996, while both the U.S.’s and
Mexico’s shares of global FDI inflows
have increased.11 This falloff became
one of the arguments in favor of Can-
ada’s entry into the FTA and NAFTA,
in the hope that it would stimulate
inward FDI, i.e., as a means for firms
from around the world to secure ac-
cess to the world’s largest market.
The close U.S.–Canada investment
relationship is evident at the Great
Lakes regional level as well. Within
the U.S. Great Lakes region, employ-
ment by Canadian affiliates increased
from 106,000 people in 1987 to 115,000
in 1997. Even so, FDI in the Great
Lakes states by non-Canadian compa-
nies has been larger, so Canadian
affiliates’ share of Great Lakes states’
employment by non-U.S. companies
declined from 17.6% in 1987 to 12.4%
in 1997. The main force behind this
appears to be Japan’s surging FDI.
Since the 1980s, many Japanese auto
manufacturers have set up operations
in the U.S. and the auto intensive
Great Lakes states. Japanese invest-
ment in the automotive parts industry
has unfolded in Ontario as well, and
since 1980, 16 of the
20 Japanese-owned
auto supplier plants in
Canada have opened
in Ontario, adding
over 5,000 jobs.
Multinational corpo-
rations are typically
the conduits for both
investment and trade
flows. In a recent
survey of over 1,900
Midwest firms, respon-
dents indicated that
the top three coun-
tries where they are
likely to expand in the
next five years are Mexico, China,
and Canada.12 Thus, while the Great
Lakes region will continue to increase
its links with the rest of the world,
the binational relationship is likely to
remain strong.
Conclusion
The binational Great Lakes economy
stands as a prototype of what eco-
nomic regions will increasingly look
like in the “global economy.” The re-
gion has a long history of highly in-
tegrated markets, linkages between
its industries, and cooperation among
its people. Lower barriers to trade
and investment have recently inten-
sified trade between the U.S. and
Canada (and Mexico), but the Great
Lakes economy had already achieved
these linkages years before, so that
the boosts to Ontario-Midwest inter-
regional trade and investment have
been less impressive than elsewhere.
Even so, trade and investment among
Great Lakes companies expanded
rapidly during the 1990s. At the same
time, the region is showing signs
of evolving into a more integrated
global economy, beyond its histori-
cal binational character. For this
binational region, closer integration
has become a successful path to full
globalization.
—William A. Testa,
Vice president and director
of regional programs
—David A. Oppedahl
Associate economist
—Loula S. Merkel
Associate economist
Michael H. Moskow, President; William C. Hunter,
Senior Vice President and Director of Research;  Douglas
Evanoff, Vice President, financial studies; Charles
Evans, Vice President, macroeconomic policy research;
Daniel Sullivan, Vice President, microeconomic policy
research;  William Testa, Vice President, regional
programs and economics editor; Helen O’D. Koshy,
Editor.
Chicago Fed Letter is published monthly by the
Research Department of the Federal Reserve Bank
of Chicago.  The views expressed are the authors’
and are not necessarily those of the Federal
Reserve Bank of Chicago or the Federal Reserve
System. Articles may be reprinted if the source is
credited and the Research Department is
provided with copies of the reprints.
Chicago Fed Letter is available without charge from
the Public Information Center, Federal Reserve
Bank of Chicago, P.O. Box 834, Chicago, Illinois
60690-0834, tel. 312-322-5111 or fax 312-322-5515.
Chicago Fed Letter  and other Bank publications are
available on the World Wide Web at http://
www.frbchi.org.
ISSN 0895-0164
1George J. Borjas, 1998, “The labor market impact of
immigration,” paper presented at Workforce 2020
Conference, Hudson Institute, Indianapolis, Septem-
ber 24.
2The Gazette, 1997, “Brain gain issue,” Montreal,
November 8, cites research suggesting the brain
drain to the U.S. is significant, but the offsetting gain
from the rest of world is much greater. For a contrary
view, see Don DeVoretz and Samuel A. Laryea, 1998,
“Canadian human capital transfers: The U.S.A. and
beyond,” Simon Fraser University, mimeo, June 7.
3Rosanna Tamburri, 1998, “Canada frets high-tech
‘brain drain’,” Wall Street Journal, May 12.
4David R. Allardice and Steve Thorp, 1995, “A chang-
ing Great Lakes economy: Economic and environ-
mental linkages,” U.S. Environmental Protection
Agency, SOLEC, Chicago, working paper, No. EPA
905-R-95-017, August.
5Ratio of industry’s share of total employment in the
geographic area to its share of total employment in
Canada and the U.S.
6Calculations using gross state product data from the
U.S. Bureau of Economic Analysis (BEA).
7Thomas H. Klier, 1999, “Agglomeration in the U.S.
auto supplier industry,” Economic Perspectives, Federal
Reserve Bank of Chicago, First Quarter, pp. 18–34.
8Allardice and Thorp, op. cit.
9David R. Allardice and William A. Testa, 1991,
“Binational economic linkages within the Great Lakes
region,” in The Great Lakes Economy Looking North and
South, William A. Testa (ed.), Federal Reserve Bank
of Chicago, pp. 1–20.
10Calculations are based on data from the BEA on a
historical cost basis.
11Industry Canada, 1998, “Canada’s relative invest-
ment performance,” in Micro-Economic Policy Analysis
Branch Bulletin, Vol. 4, Special Issue, Spring, p. 8.
12Financial Times and Arthur Andersen, “International
business survey, Midwest results,” 1999.P
u
b
l
i
c
 
I
n
f
o
r
m
a
t
i
o
n
 
C
e
n
t
e
r
P
.
O
.
 
B
o
x
 
8
3
4
C
h
i
c
a
g
o
,
 
I
l
l
i
n
o
i
s
 
 
6
0
6
9
0
-
0
8
3
4
(
3
1
2
)
 
3
2
2
-
5
1
1
1
R
e
t
u
r
n
 
s
e
r
v
i
c
e
 
r
e
q
u
e
s
t
e
d
F
E
D
E
R
A
L
 
R
E
S
E
R
V
E
 
B
A
N
K
 
O
F
 
C
H
I
C
A
G
O
C
h
i
c
a
g
o
 
F
e
d
 
L
e
t
t
e
r
The Chicago Fed Midwest Manufacturing Index (CFMMI) rose 0.3% from
January to February, reaching a seasonally adjusted level of 137.6. Revised data
show the index had risen 0.8% from December to January. In comparison, the
Federal Reserve Board’s Industrial Production Index (IP) for manufacturing
also increased 0.3% in February, after rising 1.0% in January.
Light truck production increased slightly from 6.9 million units in February
to 7.0 million units in March and car production remained constant at 5.6
million units in both February and March. The Midwest purchasing managers’
composite index for production increased to 61.8% in March from 59.6.%
in February. The index increased in Chicago, Detroit, and Milwaukee. The
national purchasing managers’ survey for production increased from 61.3%
to 61.8% from February to March.
Sources: The Chicago Fed Midwest Manufactur-
ing Index (CFMMI) is a composite index of 16
industries, based on monthly hours worked and
kilowatt hours. IP represents the Federal Reserve
Board’s Industrial Production Index for the U.S.
manufacturing sector. Autos and light trucks are
measured in annualized units, using seasonal ad-
justments developed by the Board. The purchas-
ing managers’ survey data for the Midwest are
weighted averages of the seasonally adjusted pro-
duction components from the Chicago, Detroit,
and Milwaukee Purchasing Managers’ Association
surveys, with assistance from Kingsbury Interna-
tional, LTD., Comerica, and the University of
Wisconsin–Milwaukee.
P
R
E
S
O
R
T
E
D
F
I
R
S
T
 
C
L
A
S
S
 
M
A
I
L
U
S
 
P
O
S
T
A
G
E
 
P
A
I
D
C
H
I
C
A
G
O
,
 
I
L
P
E
R
M
I
T
 
1
9
4
2
Manufacturing output indexes, 1992=100
Purchasing managers’ surveys:
net % reporting production growth
Mar. Month  ago Year ago
MW 61.8 59.6 59.6
U.S. 61.8 61.3 58.0
Motor vehicle production
(millions, seasonally adj. annual rate)
Mar. Month  ago Year ago
Cars 5.6 5.6 5.6
Light trucks 7.0 6.9 6.7
IP
CFMMI
Manufacturing output indexes
(1992=100)
Feb. Month  ago Year ago
CFMMI 137.6 137.2 130.4
IP 147.5 147.0 139.3
1997 ’98 ’99 ’00
115
125
135
145
155
Tracking Midwest manufacturing activity

The binational Great Lakes economy

http://www.chicagofed.org/digital_assets/publications/chicago_fed_letter/2000/cflmay2000_153.pdf

The binational Great Lakes economy

Abstract

Similar works

Full text

Available Versions

Research Papers in Economics