CANADIAN AUTO STRATEGY

UNCLAS SECTION 01 OF 03 OTTAWA 001140 SIPDIS STATE FOR WHA/CAN (NORMAN) EB/TPP/BTA/EWH (SHEEHAN) STATE PASS USTR FOR SAGE CHANDLER USDOC/IA/KIMBERLEY BULKLEY USDOC FOR 4320/OFFICE OF NAFTA; 3134/OIO/WESTERN HEMISPHERE E.O. 12958: N/A TAGS: ETRD EFIN ELAB ELTN CA SUBJECT: CANADIAN AUTO STRATEGY REF: (A) USDOC 01384 (B) 2002 Toronto 1916 (Auto Strategy) (C) Toronto 0985 (Ontario Budget cable) (D) Toronto 0246 (Capital Tax) -------------- Summary -------------- ¶1. An alliance of the Canadian federal government, Ontario provincial government, automotive sector manufacturers and labor unions are working to define and implement a long-term strategy to keep the Canadian automotive sector competitive (Ref B). At least one element of the multi-prong strategy, the elimination of the federal and provincial capital tax, has already been embarked upon. Implementation of the new strategy is expected to be a multi-year process with no firm timeline. It is, however, very clear from statements given by both the manufacturing sector and government that all elements of the nascent auto strategy will scrupulously comply with WTO and NAFTA ground rules. End summary. -------------- Scale of Automotive Industry in Canada -------------- ¶2. The importance of the automotive industry to the Canadian economy cannot be overstated. It is a major contributor to the Canadian economy, creating more than 550,000 jobs, and generates approximately 12 per cent of the manufacturing sector's contribution to Canada's Gross Domestic Product. The automotive sector also has seen the highest capital investment of all manufacturing industries. Between 1991 and 2001, capital investment averaged C$2.9 billion per year. The Canadian automotive industry is fully integrated into the North American market. In 2001, the automotive industry produced C$95 billion worth of motor vehicles - 90 per cent of which were exported, primarily to the United States. -------------- New Policy to strengthen automotive industry -------------- ¶3. The maintenance of this vital industrial sector is important to the federal government and to the Ontario provincial government, where most of the manufacturing capacity is located. It is, however, a collection of government, labor, and corporate interests that comprises the Canadian Automotive Partnership Council (CAPC) that is in the process of developing a long-term strategic vision for the industry to ensure its growth and vitality. Its membership includes the presidents of Canada's automotive assembly companies; senior executives from the parts, aftermarket, dealership and academic sectors; the president of the Canadian Auto Workers Union (Buzz Hargrove); and ministers of industry and/or economic development for the federal, Ontario and Quebec governments. The Council is co- chaired by Michael Grimaldi, President of General Motors of Canada, and Don Walker, President of Intier Automotive, one of Canada's most significant automotive components manufacturers. ¶4. CAPC members met in Toronto in mid-December 2002 and reviewed a series of papers drafted by working groups that address five key dimensions of the nascent strategy: human resources; innovation; trade infrastructure; fiscal and investment measures; and regulatory harmonization. These draft papers, and more about CAPC are available at the following URL: http://www.strategis.ic.gc.ca/SSG/am01451e.ht ml ¶5. The key questions raised in Ref A focus on fiscal and investment measures, the relevant CAPC proposals in this domain are outlined below. -------------- CAPC Fiscal & Investment Recommendations -------------- ¶6. The CAPC Fiscal and Investment Policy Work Group recommends that the federal and provincial governments: -- Eliminate the federal Large Corporations Tax (a.k.a. the Capital Tax) and provincial capital taxes to remove a key impediment (see paragraph 9). -- Establish an Investment Tax Credit to encourage investment in new manufacturing machinery and equipment. -- Continue and expand the Manufacturing & Processing (M&P) deduction (a 7% deduction exclusive to M&P profits which the GoC is considering abolishing) to reduce the effective federal and provincial rates to gain a competitive tax advantage in NAFTA. ¶7. The CAPC group makes clear that any effort to provide an investment incentive must be transparent, available to all on equal footing (unlike the exclusive "Autopact" arrangements) and consistent with WTO and NAFTA rules. -------------- What is the timetable for implementation? -------------- ¶8. On the question of a timetable, the message we received from Guy Leclaire, Director of Automotive Policy at the Department of Industry (Industry Canada) is that the Canadian Automotive Strategy is a work in progress and that there is no firm timetable for implementation. ¶9. Nevertheless, one major element has been embarked upon. The elimination of the federal capital tax proposed in the federal budget of February 18, 2003 implements a principal recommendation of the CAPC. ¶10. Both the federal and provincial governments in Canada levy taxes on the capital of corporations. Unlike income taxes, which are paid when a corporation has taxable income, capital taxes must be paid regardless of whether a corporation is profitable. The federal capital tax is levied on all corporations with more than $10 million of capital used in Canada; it is reduced by the income surtax paid by the corporation (Ref D). ¶11. The February 2003 federal budget proposed to eliminate the federal capital tax, as follows: - First, the capital threshold at which the tax applies will be raised, from $10 million to $50 million effective 2004. As of 2004 medium-sized businesses under the $50- million threshold will no longer have to pay the tax. Second, the rate of the tax will be reduced in stages over a period of five years so that by 2008, the tax will be completely eliminated. ¶12. At the provincial level, Ontario's 2003 budget (delivered in late March) also promised to eliminate the capital tax, though a 10% cut in 2004 and complete phasing out by 2008, in line with the federal government's plans (ref C). Ontario's decision to start phasing out capital taxes follows similar decisions in Alberta and the three Territories, where capital taxes already have been eliminated, as well as in British Columbia and Quebec, where concrete cuts have been announced in recent budgets (Ref D). ¶13. According to the GoC the elimination of the capital tax over five years will be fully legislated in order to provide businesses and investors with the certainty needed to factor the tax reduction into their business decisions. The GoC budget documents also allege that when the federal capital tax is eliminated in 2008, the average combined federal and provincial corporate tax rate in Canada will be 6.6 percentage points lower than in the U.S -------------- Comment -------------- ¶14. Leclaire emphasized that the Auto Strategy is intended to be more than simply a wish list for handouts from the government to industry. Rather, Leclaire expects it will be an effort largely to match, or refine, existing government efforts (provincial and federal) with industry requirements. For example, suggestions include eliminating regulatory impediments to investment (such as different manufacturing standards in USA and Canada); targeting more R&D funds to the automotive sector and making more auto R&D eligible for R&D tax credits; and providing more targeted investment in technical education to provide the workforce of the future. ¶15. Most significantly, there is no proposal for a local content requirement in any of the elements of the CAPC proposals. The musings of CAW chief Buzz Hargrove (Refs A,B) in this respect are not indicative of the eventual GoC policy direction, nor industry intentions. And although the CAPC does recommend an Investment Tax Credit to entice investment in physical plant, it remains simply a recommendation whose form is not elaborated and one that has not yet been seized upon by government. ¶16. The clear message we have received from GoC interlocutors, one which is reiterated by CAPC, is that whatever the eventual size and shape of the Canadian Auto Strategy it will comply scrupulously with WTO and NAFTA strictures. Cellucci