How Canada copes with its own variant of ‘Dutch disease’ will determine whether its equity market will remain a favored investment among asset allocators once the commodity bull market has been exhausted.

A  decade-long resources boom and rising currency have hurt the Canadian goods-producing sector much less than many perceive. The bulk of lost manufacturing output has come at the expense of non-durable goods sectors such as clothing, textiles and paper. These industries have been unable to cope with intense price competition from emerging markets and have been undergoing secular declines – long before the start of the resources boom.

The rising exchange rate has merely exacerbated the decline.

In addition to declining output, decaying employment is the second channel in which traditional Dutch disease manifests itself. Manufacturing employment fell by roughly half a million jobs over the past decade, but the shifting of excess labor to other industries has not been confined to the mining, oil and gas sectors. Canada’s flexible labor market has mitigated the impact of persistent manufacturing employment losses, with the service sector gaining the lion’s share of newly created jobs. Thus, resiliency of the labor market is not consistent with an economy that has been severely maimed by Dutch disease.

Bottom line: Investors should maintain a positive structural stance on Canadian equities.

Source: http://blog.bcaresearch.com/canada-and-the-dutch-disease