A conversation with Simon Kennedy, Deputy Minister of Innovation, Science and Economic Development

At a recent Public Policy Forum event on the future of innovation, Edward Greenspon, PPF President and CEO, had a compelling fireside chat with Simon Kennedy, Deputy Minister of Innovation, Science and Economic Development. This is a transcript of their conversation, edited for length and clarity.

Edward Greenspon: On Sept. 3, 2019, you become deputy minister. Six months later, you have a pandemic, parts of the economy are shut down, health becomes a security issue. After that, Russia breaks the post-Cold War order. We’re disentangling ourselves to some extent from China; the optimism of the Glasgow COP; the United States goes full industrial policy on us with the CHIPS Act and the Inflation Reduction Act. What does all this mean for Canada and Canadian policymaking? Where does that leave the plan?

Simon Kennedy: I was in the department in the sort of number two job, a decade or more ago. And now I’m back and running the place. Even before the pandemic, there had been a sea change in how people in this town think about economic policy. There was kind of a prevailing orthodoxy that the government’s role was to set basic rules – good macroeconomic environment, good regulatory frameworks, good frameworks for competition and intellectual property and so on ­– and then everything else was the job of the private sector. Even before the pandemic, that was starting to change. With climate change and big pressing problems facing society, there was a legitimate role for the government to be more engaged on industrial policy. And I think the pandemic really just took this nascent sense that maybe frameworks weren’t sufficient, and it’s turbocharged that. Not just in Canada, but around the world. My ministry was a big player in the first year of the pandemic in attempting to source vaccines, talking to the various pharmaceutical companies internationally, working to try to get sources of personal protective equipment. If we had just been a knowledge economy without any manufacturing capability, we would have been in real trouble; when we couldn’t get personal protective equipment internationally, having Canadian capabilities to pivot to make some of the stuff turned out to be really important. The pandemic brought to life that there are certain kinds of industrial capabilities that it would be a really good idea to have ­– not complete self-sufficiency, because we do live in a global world and Canada is only 40 million people – but having some of this stuff domestically is probably really important. And if you just leave it all to the market, maybe that’s not going to be sufficient.

EG: I guess the government of Canada didn’t really think that we didn’t have manufacturing capacity. So when you made that discovery, was that surprising? Was that shocking? And did we have things to trade in the international system, and are we going to have tradeables in the future?

SK: Canada is relatively small, we’re not going to be able to have every capability in Canada, even the United States doesn’t have every capability. You want to have a measure of self-sufficiency in certain areas that are critical, but also if you’re going to be well integrated into some of these supply chains in a way where you have some leverage, then you have to have certain domestic capabilities. We did have capabilities, we had quite a bit of capacity in our universities, in our research community. We have very, very prominent scientists and scholars and people at our top universities who knew all of the key players at these international companies. So we had enough firepower in the scientific community that if we needed to get hold of people, it was like one degree or two degrees of separation. We didn’t necessarily have the manufacturing capacity, but we certainly had a lot of relationships and we had the ability to get to people and have the right kinds of conversations. Then when the government needed advice, we were able to turn to people who knew something. And if you look at the advice we got from our independent task force on vaccines, and you look at what they recommended we buy, and you look at the hit ratio of how many of those became successfully commercialized and worked, it’s like five out or six. I mean, if you brought these guys to Vegas, you’d leave with a lot of money because they made a lot of really good bets. In the end, Canada managed to get the supply in an environment where we didn’t have a lot of manufacturing capacity. So, we were lucky, but we also benefited from having certain capability. You know sometimes because of fog on a highway you have a 400-car pile-up – everything’s working really well until the first car hits the brakes. And then if the cars aren’t properly spaced, you have this chain reaction. Everything can be fine until there’s a condition that suddenly demonstrates that everything is not fine.

EG: Why did the first car hit the brake?

SK: If you think of the pandemic, it’s like just-in-time supply chains that have very little friction and very little redundancy and depend extensively on very nuanced and sophisticated data management. That all just goes to shit when you have an international crisis and it’s every country for itself. We hadn’t had a demonstration of that in a very long time and the pandemic was a demonstration that maybe it’s a good thing if we have some of these capabilities domestically and don’t rely entirely on one factory on the other side of the world. The war in Ukraine and the increasing geopolitical concerns about Asia-Pacific are just adding to that. And if you look at the U.S. Inflation Reduction Act, the United States is concerned about climate, but it’s also concerned that most of the lithium hydroxide and most of the components for electric vehicle batteries are coming from China. Or the CHIPS Act, it’s all these semiconductors we rely on are coming from one or two places in a neighborhood that may be increasingly of concern. There are geopolitical worries driving some of what our allies are doing. In some ways, I don’t think it’s a whole lot different than us.

EG: I’m going to go to geopolitics in half a second. I just want to stay with pandemic and the term ‘health security’; suddenly health became a national security issue. If there’s a next time, perhaps people will close borders to the export of products. Perhaps with friendshoring, we’ll find that our friends aren’t as close friends as we hope they will be. Do we know what kind of industrial strategy we need to put ourselves in a position where we have some leverage, or something to offer?

SK: We may want to have certain kinds of baseline capabilities domestically. For example, the ability to make enough for a two-dose regimen of a vaccine for a pandemic, flu or other kind of illness, that might be a good thing to have domestically. There may be other sorts of things, therapeutics, other kinds of interventions that would be really important in a health emergency, but you might not need all of those domestically. The idea that you have every single possible combination is maybe, for a country of Canada’s size, not realistic. A lot of the COVID vaccines were not manufactured at scale in the countries that developed the vaccine, they were manufactured at scale in third countries. A lot of the way this industry works now is you have the development and clinical trials, but the at-scale manufacturing can be done by a contractor. If you had across the street here in Ottawa a CMO that can make 500 million doses a year, that would be hugely interesting in a pandemic to not just Canada, it would be of interest to countries all over the world. Some of this is about having capabilities that you would want domestically, and some might be you want to have trading cards if you like, or capabilities that are useful so that you have something to offer. You can be a player; you’re not just asking for something. You have something to offer.

EG: So, you started talking about geopolitics, let’s go down that difficult road. It seems that the nature of the post-Ukraine war, the nature of what’s happening with China draws us evermore into a U.S. orbit. We have a geography and a trade relationship and value system that puts us there, but the U.S. hasn’t been an extraordinarily reliable partner over the last number of years. The midterms might have given people some kind of relief, but it may be temporary relief. What kind of situation does that put us in strategically? And is there a way to hedge our bets?

SK: Our destiny is inextricably tied up in what goes on in the continent. We have free trade agreements with 60% of the world’s GDP, so we have lots of potential opportunities in terms of markets abroad, but it is true that a lot of our exports go to the U.S. and that’s our biggest trading partner and our closest ally. Our future is bound to some degree with being successful in North America. Some of these important supply chains are being refashioned right now for a whole bunch of reasons. In my world, automotive is really interesting, there’s a complete reordering of supply chains in automotive. Most of the OEMs (Original Equipment Manufacturers) are moving very aggressively to low carbon or zero carbon vehicles. Well, the entire automotive supply chain is built around the internal combustion engine. We have a cluster in North America that employs hundreds of thousands of people. It’s all built around a technology and we are very, very rapidly pivoting to a different technology. And not only that, we have to build an entirely new supply chain because the battery requires critical minerals, and so that’s mining and processing; for a whole bunch of reasons, that’s not likely to be a far-flung international supply chain. Batteries are very heavy, shipping these things across the Atlantic makes zero sense. These are going to be located near the assembly facilities. Canada has all sorts of minerals. We have all sorts of clean electricity. We have a highly skilled workforce that’s familiar with automotive. There are huge opportunities in a completely transforming supply chain to have a lot of this localized and done in Canada. The U.S., as you mentioned in the IRA, are putting in big supports to transition their own automotive industry and to build a whole battery supply chain. They’re putting in a lot of support for their own industry. The (Canadian) government is aware that what’s happened there and is going to be responding. They made a commitment in budget 2023. They’re going to look at this. Vehicles made in Canada and shipped and sold in the U.S. are going to benefit from the (IRA’s) consumer subsidies. There’s nothing in the legislation, certainly none of the headline moves, that are overtly protectionist in the sense that they don’t want stuff from Canada.

EG: Is there going to be a North American approach, and are we going to be inside it? Or is there going to be an American approach? In the IRA, the consumer subsidy counts as long as the critical minerals come from a country that has a trade agreement with the United States. That would be us. I think the bad news is a battery production credit for batteries that are manufactured in the United States. So, are we going to be inside that or outside that? And how do we defend ourselves?

SK: I think those are the kinds of issues the government has noted in the Fall Statement they’re going to be looking at for the budget.

EG: You were just in Korea and Japan recently. What do you hear from Korean and Japanese automakers? What do they say about these kinds of issues?

SK: They’re curious to know what Canada is going to do. Canada says that we’re going to maintain a level playing field, that’s the wording in the Fall Statement, and they’d like to know what that’s going to mean. They’re intensely interested in Canada, that’s not a marketing slogan; I was just in Tokyo and it’s striking, it’s not just polite. These big corporates know these supply chains are going to be localizing in North America. They know Canada has the skill set, they know we have the minerals, they know we have clean energy. There’s a real interest in understanding how they can do business in Canada. I wouldn’t dismiss the challenge, and automotive is not the only industry, of having to make this big pivot to low carbon. There’s also the energy sector and the aviation sector. This is the transition to a digital economy and a low carbon economy and a more resilient and secure economy – green, low carbon, resilient, secure, digital and automated, those would be my bumper stickers. That’s a big deal. That’s going to be a huge transition, and it’s underway right now. And companies are staking their claim. I have never seen the speed at which investments are being made and decisions are being made in some of these sectors that are early movers. Automotive is a great example. When I was last in the ministry, Canada had one or two agreements with car makers. It typically would take six months to a year to go back and forth. Now every OEM is rushing because they need many, many gigawatts of electricity to power these battery electric cars which they’ve all committed to switching to in the space of a decade.

EG: Your department has been promoting the hydrogen industry as an important possibility in the energy transition for Canada. There are big subsidies for hydrogen in the U.S. and the Europeans are concerned about investment going there from their countries. If our strategy is to fortify a fortress North America and not just a fortress America, what might we have to be offering the United States? Are we going to have to bring our defense spending up to 2%? Are we going to have to have joint Arctic defense? What kinds of things are going to be necessary to make this a real NAFTA? Because the Inflation Reduction Act is very protectionist.

SK: I know there’s this perennial worry about where we stand. If I look at what the U.S. has done in the semiconductor space, for example, there’s actually money in there for the U.S. to partner with allies on semiconductors, they put money into the bill to work with allies together in this space. We have real capabilities in this space and the Americans are interested. They’re making massive investments because they want to reshore this stuff, but they’re also interested in working with allies. Originally this was about innovation, and everybody’s wringing their hands. When people ask me ‘how do you build an innovative economy’, what I’ve always said is I believe people are inherently kind of smart and they respond to the incentives. We have been lucky in many ways: we’re right next door to one of the largest and most dynamic markets in the world; we have huge amounts of natural resources and energy; for decades after the Second World War, we had a young and growing population. To be frank, we didn’t really have to innovate, we were able to generate a pretty good bottom line in this country for a very long time without being constantly trying to figure out how to generate new and novel products. We had a resource-based economy. We had a huge market next door. We had a lot of growth that was generated by the entry of large numbers of people in the labour force. And the challenge today, quite apart from this U.S. thing, is every one of those are running in reverse. Our population is getting older, not younger. We’re living in a world where there are going to be increasing constraints on carbon, on energy, on use of resources. We have a total reordering of supply chains. I think some of the innovation problem will correct itself because there is going to be a lot less labour. When I grew up in Nova Scotia, ACOA (Atlantic Canada Opportunities Agency) was worried, there weren’t enough jobs for people, it was all about job creation. Now, ACOA is trying to figure out how to help these companies in rural Nova Scotia find workers and how to automate, because there aren’t enough workers. We’ve gone from a surplus of workers to a scarcity of workers. But the bottom line is we have a huge paradigm shift going on with massive implications for almost every part of our economy. It’s not just us, but it’s all of our allies. Just setting some good rules of the road and assuming it’s all going to work out, nobody thinks that that’s the way to go anymore. We’ve had these experiences lately to suggest that thinking deeply about what kinds of competencies you have as a country and what kinds of capabilities might be good to have, it’s at least an exercise worth doing. It doesn’t mean we’re going to invest in every single one of them, but we should be thinking about what’s our competitive advantage or comparative advantage. What are the kinds of policies that try to make sure that happens?

EG: Thank you very much for that discussion.