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Canadian economist Donald Drummond says one of the key issues in manufacturing is that Canada is undercapitalized.Fred Lum/The Globe and Mail

Throughout his decade-long tenure as chief economist with Toronto-Dominion Bank, and more recently as the head of Ontario's Public Service Reform Commission, Don Drummond has been one of the country's most influential voices on economics and public policy.

He spoke to The Globe and Mail on Canada's inability to grow its small businesses, and on the seismic shifts in the manufacturing industry.

The number of mid-sized Canadian firms is shrinking, while 97 per cent of all our firms remain small businesses. Why are our small businesses not growing?

At Toronto Dominion I met a lot of small business clients who had a very deliberate strategy: stay small to take advantage of the small business tax rate. There's actually a pattern in the data: wherever the small business income threshold is, there's always a cluster of firms just below it. So it makes me think that small corporations are preventing themselves from growing.

Prior to 2000, there was definitely a disincentive to grow, because the top marginal corporate tax rate was higher than the top personal tax rate. Today that condition no longer exists, yet we still observe this cluster of firms just below the threshold. It fascinates me that companies are not allowing themselves to accumulate money in the corporation but instead are taking it out. They are actually paying higher taxes that way.

Is this a cultural problem, that Canadian firms aren't especially driven to grow?

I think it is. It may be corporate memory – "that's the way we've always done it." Sir John A. Macdonald created an economic union of highly protected industries, and we operated in that space for 100 years. Even if you are a 50-year-old businessperson in Canada, much of your business life came before free trade. And if you work in banking or transportation or book publishing you're still in a highly protected industry. So old policies may have engendered the culture, and it may take some time to change the culture again.

Do you think aversion to risk plays a role?

Sometimes I chalk it all up to Donald Trump versus Robert Campeau. Mr. Trump is a hero in the United States. He's gone bankrupt a few times and taken many people down with him, yet no one seems to hold it against him. Mr. Campeau [a 1980s Canadian entrepreneurial mogul] stepped over the line, went under, and had to hide out in Switzerland for 20 years. He came back and tried to start up again and he was ostracized. It's not a perfect analogy, but it relates to our differing attitudes toward entrepreneurship.

Mr. Trump could not exist in Canada. Mr. Trump goes bankrupt, gets up and starts over and people say, 'Attaboy Donald.' Mr. Campeau goes bankrupt and people say, 'You were a great business leader until you went under and now we're ashamed to call you Canadian.'

Manufacturers are beginning to "reshore" their plants from Asia back to North America. Can Canada compete with the United States to attract these jobs?

One of the key issues in manufacturing is that we are undercapitalized. The average Canadian worker has roughly half the stock of machinery and equipment to work with than a U.S. worker does. From 2003 to 2007, Canada had a golden opportunity to close that gap. We had unprecedented retained earnings beginning in 2003 – it was absolutely off the scale. And our dollar was appreciating while U.S. prices were coming down, so the price of U.S. machinery was depreciating by about 8 per cent a year. And Canadian businesses responded by flatlining their investment in machinery and equipment.

I could not help but wonder: If you were a Canadian manufacturer in 2005, how could you not come to the conclusion that if you did not make yourself more competitive – by bulking up on machinery and equipment and technology – then you'd absolutely be toast in the next five to 10 years? How could you not have seen that coming? But they didn't. Purchases of machinery and equipment are starting to pick up now, so maybe it just took a bit of a lag.

Can we catch up? Are we competitive on labour costs?

The global CEO of General Electric recently said that $17 an hour is the highest wage rate GE will pay anywhere in the world for skilled labour, and they can attract an infinite supply of skilled labour at that rate, including in the United States.

We saw a taste of that in Ontario with Caterpillar. That contract cost $33 an hour including benefits, and Caterpillar said "$16.50 an hour take it or leave it, and if you don't take it we'll leave the country." Most people assumed they would move to China or India, but they actually went to the United States. The going wage rate for that type of work is $16 to $20 an hour. Do the arithmetic on that. You're hard-pressed to get up to $30,000 a year. That's the reality in the United States. They are probably five to 10 years ahead of us in stripping out well-paid blue-collar jobs.

Will that have to happen here in Canada?

It will happen. I think it's unfortunate. I think it's going to be a huge sociological change that Canada will have to deal with. Obviously, if you have a productivity advantage, you can convert it into a higher wage rate. But we don't have a productivity advantage over many other places right now.

However, I don't think we should snub our nose at those jobs either. We can't abandon manufacturing. If we don't want the rock-bottom stuff, we will want the value-added manufacturing work that will exploit our highly skilled work force. But even then it won't be enough of an advantage to get us to the $55 an hour that we've been used to in auto assembly.

This interview has been edited and condensed.

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