Canada-China trade: mixed signals pointing to an unclear 2022

Canada-China trade lost steam in the first quarter of 2022, after a quick recovery in 2021 from the alleged politically-induced dive in 2019. The CIUA’s recent Canada-China Trade Update shows a slump in Canadian exports to China from January to March, reversing its upward trend and pointing to a weaker restoration of trade relations between the two countries. The data from Statistics Canada showed that Canadian exports to China fell 15.17% from the same period in 2021. Nevertheless, the disappointing figures should not be over-interpreted as a deteriorating trade relationship between Canada and China. Canada is not the only developed economy experiencing a decline or slowdown in exports to China in the first quarter of 2022. According to the data from Chinese Customs, U.S. exports to China also fell 1.2% year over year, while Germany, the U.K., Japan and Australia all also saw declines to varying degrees. In addition, due to the Chinese New Year holiday, Q1 usually records less economic and trade activities compared to the remaining quarters of the year. Furthermore, there are also other internal and external factors, which together contributed to the plummet in Canada-to-China exports in the first three months of 2022.

What triggered the plummet?

The fundamental reason for the trade plunge in Q1 was weak demand from Chinese consumers, which was exacerbated by China’s new Zero-COVID policy. The current wave of Zero-COVID measures, starting at the end of 2021, halted China’s economic activities, including industrial production, retail sales, and foreign trade. NBS’s (National Bureau of Statistics of China) Q1 economic data showed that the GDP growth in the first quarter of 2022 was 4.8% year over year, falling well below the annual target of 5.5%. The first quarter also saw a slowdown in China’s foreign trade, especially imports. Chinese customs data showed that imports growth fell to a single digit in Q1, in contrast to 20.8% in the same period in 2021. Lockdowns in major cities, shutdowns of factories and stores, and disrupted shipping and logistics resulted in a dramatic decline in demand for imported goods and services. Canada’s top export categories to China, including bituminous coal, wood pulp, iron ore, and canola seed, all saw either contraction or slowdown in volume sold to China. If the price factor, due to soaring inflation, is taken into account, the quantity of goods exported to China was even lower.

Second, rising prices for major exported categories also hindered Canadian exports to Chinese markets. Bouts of geopolitical conflicts, particularly Russia’s invasion of Ukraine in February, significantly impacted global supply chains and trade in the first quarter. The war between two major energy and grain exporters, Russia and Ukraine, disrupted and reduced shipments of grains and energy in Europe and caused a shortage of these commodities in surrounding countries; it then drove up energy and food prices worldwide and further exacerbated inflation which had already been climbing since the beginning of the pandemic. These factors all weighed on the fragile recovery of global trade in 2022 which has been expected to grow by only 3%, versus the previous forecast of 4.7%, by the World Trade Organization (WTO). Canada-China trade was also inevitably affected by this situation as the two countries are key players in global supply chains. Prices for top export categories to China, including canola seeds, chemical wood pulp, and bituminous coal, all saw a hike in the first quarter of the year and may be a crucial driver of the decline in China’s purchase of Canadian goods.

Third, global central banks, led by the US, Canada, and the UK, are tightening policies to combat inflation, causing a significant shift in exchange rates. The Chinese yuan continued to tumble as the Canadian dollar strengthened, given Canada’s aggressive interest rate hike. Canadian dollar to Chinese yuan rose by almost 6% from early January to early June. The strong Canadian dollar may serve as a disadvantage to its exports to China.

Latest focus in Canada-China trade and their impacts

Canola Ban Lifted

After banning canola imports from two major canola exporters, Richardson and Viterra, for three years, China decided to resume canola imports from the two companies. China’s vast demand for vegetable oil and limited domestic supply of oil seeds made the country the No. 1 importer of Canadian canola seeds in 2018, the year before the Huawei feud, but purchases tumbled in 2019 due to the political crisis. In 2020 and 2021, driven by strong demand for vegetable oil from China, canola trade between the two countries started to recover. However, Canadian canola seed exports to China in 2021 was almost half its level in 2018.

With a self-sufficiency rate as low as 60-70%, demand for vegetable oil continues to increase in China and demand for canola oil has also remained strong, even during the pandemic. The Ukraine war further dragged on the supply of Russian rapeseed, as the country temporarily banned rapeseed exports. China’s domestic rapeseed price continues to rise in the first half of 2022, largely pushing the resumed canola seed trade with the two Canadian companies.

Despite a positive step in the Canada-China canola trade, there might not be a substantial change in canola seed exports to China in 2022, as canola production is subject to several constraints, including weather, demand from the U.S. and E.U., and the improved domestic crushing capacity in Canada. In the long run, however, Canadian canola producers will benefit from the increasing demand for canola seeds and oil from China.

Huawei Ban

Canada announced their decision to ban Huawei from its 5G network in May 2022, being the last Five-Eye country to do so after the US, the UK, Australia, and New Zealand. The decision is not surprising and is even deemed overdue by critics. In anticipation of the ban, Huawei and its partners have acted in advance to counteract the cost associated with the ban. Huawei has also made efforts to shift its business focus in Canada from 5G to R&D and consumer products, such as smartphones and laptops. As a result, Canadian companies, including telecommunication giants such as Bell and Telus, which have reportedly spent millions of dollars on Huawei telecom equipment, may have to pay the price. However, the Canadian telecom carriers have already backed out of using Huawei equipment and established partnerships with other telecom equipment providers of 5G networks, suggesting the loss may have been reduced to a minimum on the Canadian side.

The Huawei ban sent a negative signal for future trade and business relations between Canada and China, given the already frigid political relations of the past three years. Nevertheless, the impact of the incident on bilateral trade relations seemed limited, largely due to the complementary nature of the two economies. Despite the growing call for diversification, Canada still sees China as an essential market for agricultural and agri-food, metals and minerals, and energy; additionally, China is also highly dependent on Canada’s grains and oilseeds, wood products, minerals, and seafood. Therefore, the trade relations between the two countries in traditional sectors will likely remain fairly stable in the coming months, even years, whereas the collaboration in the high-tech sector is confronted with strong headwinds due to rapidly growing concerns regarding national security and data privacy among Western countries when doing business with China. Further disengagement in the high-tech and platform economy sectors such as telecommunication, video games, e-commerce, and social media may be inevitable in the coming years.

New developments and trends

The Ukraine War

The Ukraine war is the primary risk for worldwide economic growth, investment, and trade in 2022. Despite its geopolitical complexity on major economies, the changes it caused in global trade and investment are striking. The war disrupted supply chains for energy, agricultural and metal commodities, and their prices have soared to unprecedented levels in the past few months. Rising inflation impedes global trade and harms trading nations, including Canada and China.

China’s economy, which has already shown a significant slowdown since the second half of 2021, was hit by the effects of Western sanctions on Russia. In addition, the war in Ukraine will make energy, food and raw materials that drive China’s economy even more costly. The Producer Price Index (PPI), a gauge of factory-gate inflation, increased by 8.8% in the first quarter of 2022 from a year ago, pushing up consumer prices and further restraining China’s consumption and imports. For Canada, despite the exceptional boost to profits due to an associated spike in exported goods, the decline in demand for Canadian goods may outstrip the profit increase. The decrease in exports from Canada to China is one example.

On the other hand, Canada has no direct competition with Russia and Ukraine in terms of merchandise exports to China. The top products Russia sells to China are oil, natural gas, coal, and agricultural products, which are differentiated by quality from Canadian goods. China mainly purchases rice, wheat, and corn from Ukraine, compared to canola seeds, wheat, wood pulp, coal, and iron ore from Canada. Although China reportedly increased staple food imports, such as wheat and barley, from Russia in 2022, Canada remains dominant in wheat export to China due to its advantages in quality and price, and experts see little chance that Canada will be replaced by Russia in exporting agricultural staples to China. However, global economic recession and high inflation fuelled by the war may restrain demand from China and is therefore likely reduce imports from Canada, which has already been reflected by first quarter trade statistics. Overall, the impact of the Ukraine war on Canada-China trade is notable.

The Pandemic

The pandemic-induced lockdowns and restrictions appear to have had a more significant and direct impact on Canada-China trade than the Ukraine war. China's new dynamic, zero-COVID, in 2022 is controversial. The new strategy is characterized by aggressive mass testing, localized containment, and shorter quarantine periods to reduce infection. Under the zero-COVID policy, China's domestic consumption, business operations and factory activities are suspended or confined to a minimum level. Notably, domestic consumption took the hardest hit due to the strict COVID measures such as lockdowns, stay-at-home quarantine and aggressive testing. The recent NBS data showed that retail sales contracted by 0.7% in the first six months of 2022 from a year ago. Shanghai, a city with a population of 25 million, was completely locked down. Retail sales plunged 48.3% from a year earlier in April and dropped 36.5% in May. In contrast, Beijing's retail sales slumped by 25.7% year on year in May, from a fall of 16.1% in April. The shrinking domestic spending in China also dragged on the demand for imported products, and Canadian exports to China were inevitably affected. Moreover, although the Shanghai lockdown was lifted, it left a massive dent on the country's supply chain, as production and logistics will take time to get back to normal, especially when the dynamic zero-COVID strategy is still in place. China’s ongoing COVID restrictions may continue to slow the recovery of global trade and economy, especially when China is attempting to shift away from a traditional heavy reliance on external demand and markets.

US-China trade

U.S.-China trade relations are at the centre of global trade and investment and are a barometer of future international trade patterns. The US-China confrontation in trade seemed mainly at a standstill in the first half of 2022. However, a litany of trade-related issues came along, albeit with no further deterioration of the current US-China trade relations. The trade war was stalled after the signing of the Phase One trade agreement with a commitment from China to purchase USD$200 billion of American goods and services in 2020 and 2021. However, the outbreak of the COVID-19 pandemic among other factors impeded China’s fulfilment of the agreement over the course of 2020-2021, and China purchased only 57% of the agreed amount of US goods and services. This casts a shadow on US-China trade relations, which are already tense. Data showed that US-China trade registered a slowdown in the first three months of 2022. Canada replaced China as the US’ largest trading partner. Confronted with these disappointing facts, The United States Trade Representative (USTR) doubled down on competition with China in its 2022 Trade Policy Agenda and 2021 Annual Report released in March. Highlighting a raft of well-known issues, the report did not provide constructive solutions to any of these, yet, the US was reported to likely lift tariffs on some Chinese goods to combat soaring internal inflation. 

As a longstanding ally of the US, Canada’s trade with China is significantly affected by US-China trade relations. After President Trudeau took office in 2015, Canada-China trade was expected to enter a “golden era”, but the bilateral trade relationship seemed to have changed direction, due to the failure of the Canada-China free trade negotiation in late 2017. Shortly after, the US-China trade war and Huawei feud in 2018 fuelled the downturn. Recently, the US vowed to continue to increase its competitiveness vis-à-vis China and used its influence on the international stage to urge other countries to do the same. It is a strong signal that the US-China competition is now mainstream and may continue for a long period of time. The complexity brings new challenges for middle-power countries like Canada in maintaining trade relations with China. The effectiveness of Canada’s attempt to maintain a balance between the US and China remains to be seen.

Looking ahead

As competition and economic and political decoupling continue to intensify between Western countries and China, Canada-China trade relations remain challenging. This trend is even more prominent in the first half of 2022, as the new US Indo-Pacific strategy was being promoted. The substantive effect is difficult to evaluate for the time being, just as with other geoeconomic initiatives such as CPTPP and B3W (Build Back Better World) aiming to counter China’s impact on the global economy. However, this disengagement will likely hinder economic growth, increase manufacturing costs, and eventually raise prices for everyone.

Canada appears to be less aggressive than other Five-Eye countries in decoupling with China. Although the public opinion on developing trade with China has soured, trade relations were on a steady recovery track in 2020 and 2021, and the total value of Canadian exports to China surpassed the previous record set in 2018. The decline in exports in the first quarter of this year largely resulted from shrinking demand from China driven by new lockdowns and the price hikes due to disruptions in global supply chains, however, the data shows that Chinese imports from Canada rebounded in June as factory and business activities resumed. Looking ahead, we can also see the potential to push Canada-China trade back on track, as both countries appear more open to engagement on trade and other issues after the Huawei spat. Also, in response to the US’ Indo-Pacific Economic Framework (IPEF), some are calling for a more constructive relationship with China to mitigate worldwide challenges such as climate change and advance economic interests for Canadian stakeholders in its own Indo-Pacific strategy. Additionally, given the poor economic performance for the first half of 2022, China is facing the pressure of missing its growth target and continuously elevating commodity inflation. This may prompt a quick restoration in foreign trade with its major trade partners, including Canada.  

For Canada and China, the major political impasse seems to have been resolved and trade is climbing back on track, but risks still hang over bilateral trade relations between the two countries. Bouts of trade conflicts were observed in the past few months of 2022. An even larger obstacle is the damaged public opinion among Canadians toward China and the hardening attitude towards Canada-China trade relations. It may take time for the confidence of the public as well as political and business leaders to return. In the meantime, however, it would be in the interest of both countries to find common ground to maintain or even expand trade.