Does Canada’s lack of big companies affect the nation’s productivity?

Peter Josty is Executive Director of the Centre for Innovation Studies in Calgary.

The real key to standard of living and prosperity is GDP per capita. Canada’s GDP per capita has been slipping since 1980 compared with the U.S. and other advanced economies, largely driven by declining productivity (see graphic below).

Many reasons have been put forward for the decline in productivity compared with peer countries. These include:

• population growth (Canada’s population has risen much more than peer countries)
• low levels of investment in machinery and equipment and non-residential structures
• less spending on information and communications technology
• decline in research and development spending (particularly business spending on R&D)
• insufficient employee training
• a less competitive economy
• inefficient regulatory and tax policies, and more.

One topic that hasn’t been discussed so much is the lack of large firms in Canada. The graphic below shows the number of manufacturing companies (numbers in thousands) with more than 250 employees in OECD countries.

Manufacturing represents about 10 per cent ($174 billion) of the Canadian economy, but it is very important as it is a high value-added sector and accounts for 68 to 70 per cent of Canadian merchandise exports that – as University of Toronto political scientist and author Dan Breznitz points out – is a main determinant of Canada’s international competitiveness. Canada has the smallest number of large manufacturers among the 35 OECD countries surveyed (see  graphic below).

Source: CD Howe institute  

Why does size matter?

A few years ago, Rob Atkinson wrote a book titled “Big is Beautiful.” He is president of the Information Technology and Innovation Foundation, one of the most active think tanks in Washington D.C. (and a Canadian, born in Calgary). He listed some of the ways big firms outperform small firms in the U.S.:

• They pay higher wages, 28 per cent higher on average.
• They pay higher benefits (vacation, bonus, retirement plans, healthcare, etc.).
• They are more productive, by 17 per cent according to one study.
• They spend more on software and equipment.
• They spend more on R&D and file more patents.
• They create more sustainable jobs (small businesses create more jobs but they are often short-lived.)

A point Atkinson makes is that if you are going to compete with international giants like China you need large, sophisticated companies to do so.

How does Canada stack up?

A report by the Business Development Bank of Canada stated that in the United States, the productivity of small and medium-sized businesses is 67 per cent that of large businesses. In Canada, this proportion is reduced to 47 per cent.

The report also points out that the relative weight of small and medium-sized businesses is higher in Canada than the U.S. In Canada 53 per cent of GDP is produced by small companies, while in the U.S. it is 46 per cent. BDC defined small companies as having fewer than 500 employees and large companies as having more than 500 employees.

A study from the Bank of Canada showed that large manufacturing firms in Canada were 80 per cent more productive than small manufacturing firms. An all-industry comparison showed that, on average, large firms were about 30 per cent more productive than small firms. In business service the productivity differences were smaller.

The OECD ranked Canada 18^th among 38 OECD countries in GDP per hour worked, just behind the U.K., Australia, and Italy.

All the reports pointed out that while some small firms are more productive than large firms, the average difference in productivity is significant, with large firms having greater productivity.

Why are larger firms more productive?

Economies of scale are a major factor explaining the higher productivity of large firms. Size also allows them to recruit specialized expertise in areas such as finance, R&D, strategy development, etc.

Size also permits more effective lobbying, to tailor government programs to their needs. A recent paper by international researchers, including David Wolfe from the University of Toronto, published in the journal Science and Public Policy, concluded that government support programs were structured in such a way as to benefit large firms more than small firms because of the big companies’ better lobbying skills.

Why does Canada have so few large firms?

The reasons for this don’t appear to be well understood. A paper by the Business Council of Alberta speculates that there may be barriers – trade, financing, institutional, regulatory, or taxation, among others – limiting the ability of small firms in Canada to grow.

Canadian industry is only 78 per cent as productive as U.S. industry, on average, measured by GDP per hour worked. There are two main factors involved: 1) Canada has fewer large firms than the U.S., and 2) Smaller Canadian firms are much less productive than smaller U.S. firms. According to Statistics Canada these two factors explain much of the differences in productivity between the two countries.

Conclusion

There is a clear message from this analysis: Canada’s lack of big companies is badly affecting its productivity. In order to improve Canada’s productivity two things need to happen:

• More attention needs to be given to improving the productivity of small and medium- sized firms. What we are doing now isn’t working well enough. A good start would be to provide more incentives to adopt digital technologies,  machinery and equipment, and increase employee training.
• More attention needs to be given to identifying and overcoming barriers that prevent smaller firms growing to big firms. A good start would be to listen more to what the CEOs of small firms say they need to grow and structure support programs accordingly. 

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