An Econometric Model of Canadian-U.S. Trade in Automotive Products 1965-1971

In this paper I describe the construction and estimation of a simple model of Canadian-U.S. trade in automotive products during a period of the implementation of the historic Automotive Agreement (1965-1971). Two conditions of the Agreement - that the privilege of duty-free importation of parts and vehicles into Canada is restricted to bona fide manufacturers, and that these manufacturers accept a commitment to increase Canadian value added in production at a rate governed by the rate of growth of North American vehicle sales in the Canadian market - are viewed in the model as a means of providing an implicit subsidy to Canadian automotive producers. Given duty-free trade in automotive products over the Canadian border, one could say that, in principle, multinational corporations are maximizing profit subject to the side conditions imposed by the agreement. The implication is that exports and imports are simultaneously determined. Unfortunately, however, it was not possible to model the process in this way. Instead exports are first determined, and then imports are determined as a recursive function of exports. In this way I recognize (but do not attempt to explain) the fact that Canada has specialized in vehicle assembly under the terms of the agreement and has become a net exporter of assembled motor vehicles and a net importer of motor vehicle parts. In my final analysis several variations on two reduced-form equations have been estimated: ie, Canadian (1961) constant- dollar exports and imports are explained. The tentative conclusion reached is that the subsidy-growth nexus implicit in the terms of the agreement was a crucial determinant of the rapid rate of expansion and rationalization of the Canadian automotive industry during the period 1965-1971.