A foreign activity measure for predicting Canadian exports

The author constructs a measure of foreign activity that takes into account the composition of foreign demand for Canadian exports. It has a number of interesting features. First, the foreign activity measure captures both the composition of demand in the United States (by including components of U.S. private final domestic demand) and economic activity outside of the United States. Second, its coefficients have been estimated over the sample period 1981-2009 controlling for the effect of changes in relative prices. Third, compared with the Bank's previous U.S. activity index (introduced in the July 2009 Monetary Policy Report), the foreign activity measure provides some improvements for forecasting Canadian exports, especially at longer horizons. For instance, at eight quarters ahead, the gain in terms of forecast accuracy is as much as 22 per cent. Finally, the foreign activity measure helps to explain why Canadian exports dropped by 20 per cent during the global recession of 2008-09 and have only partially recovered since that time.