The ‘Dutch disease’ story goes like this: an appreciating dollar increases the price of Canadian exports on world markets, and the resulting fall in the quantity demanded reduces export volumes as well as employment in export-oriented industries.
That’s good enough for all-too-many politicians and pundits: it sounds plausible, and -- perhaps more importantly -- it can be expressed in one sentence. But if you look more closely at this argument, it falls apart very quickly.
Firstly, the prospect of fewer Canadians making things for foreigners is to be welcomed: what matters for Canadian economic welfare is consumption by Canadians, not making things that will be consumed by non-Canadians.
The Dutch disease story also supposes that the employment losses in the export sector are not offset by employment gains in other sectors. This has clearly not been the case in Canada: the resource boom of 2002-2008 saw a steady reduction of unemployment rates to their lowest level since the Labour Force Survey started collecting data in 1976. Nor were these jobs systematically lower-paying: after stagnating during the 1990s, real median wages saw significant growth during the resource boom -- even in Ontario.
It is important to remember that wages are set at the national level, and not by sector: an increase in the demand for labour in one industry will increase all wages. As long as workers can move from one sector to another, employers in other industries will be obliged to pay higher salaries in order to retain their workers. They won’t be able to keep all of them of course; some workers will end up moving to the expanding sector.
A higher exchange rate forces employers to pay higher wages. Producers that serve the domestic market will generally benefit from the increased demand generated by the increase in Canadian wages and will be able to accommodate pay increases. But export-oriented firms outside the expanding sector will be faced with an exchange rate that provides lower prices in terms of the Canadian dollars they are obliged to pay their workers, and they will find it harder to compete in a labour market in which wages are rising.
Somehow, politicians and pundits insist on seeing a problem when employment in one sector falls in the face of a general increase in wages. Perhaps the best one-sentence explanation of the logic behind the Dutch disease argument is Yogi Berra’s. “Nobody goes there anymore,” he once said of a St Louis restaurant, “it’s too crowded.”