Swoony Loonie: More in Store?
By Peter G Hall
Vice-President and Chief Economist Export Development Canada
Hey, pull the ripcord already! The Canadian dollar is plunging to earth at a faster rate than it ever has. If last year’s descent wasn’t enough, it resumed early in 2016, sinking to lows that were unthinkable just two years ago. Even last year’s low-loonie beneficiaries are alarmed, wondering along with everyone else about their relative wealth and the inflated price of their winter escape. This is no bad dream – it’s a full-fledged free-fall. What’s going on, and when is it likely to end?
The speed of movement isn’t the only shock. On the heels of the global economic and financial crisis, Canada was seen as something of an OECD-area haven. Our banks fared extremely well as others’ the world over teetered on the precipice; we were feted as exemplary managers of our public finances; domestic demand remained remarkably strong; and we had abundant resources in a world perceived to be running short of them. The late-2008 plunge of the loonie to US 80 cents was short lived; it zoomed back to parity in just over a year, and stayed there for almost three years. Pundits reasoned that when the world economy recovered, added demand for resources would boost prices, and with them the Canadian dollar. Businesses were bracing themselves for a parity-plus world.
How could that reasoning have been so wrong? Well, the drivers of analysts’ models were right. Few disagree that oil prices are a key driver of our currency. There is also broad assent that other commodities also influence the Northern Buck. Short-term interest rate differentials between ourselves and the United States are also influential – although during the Quiet Era for rates, this was sort of a non-issue. The greenback’s performance against all currencies, driven by developments stateside, also plays from time to time with the value of our money. And finally, there was a bit of a ‘halo effect’ brought on by Canada’s positive fundamentals. On this list, no real arguments among analysts.
If so, then to get the forecasts so wrong, analysts must have really botched the predictions for the drivers. It wasn’t hard to do; first, there was broad assent that commodity prices were sustainable at their high post-crisis levels. This was in spite of the fact that usage was down and inventories were swelling alarmingly. What would normally be a paradox persisted thanks to surplus liquidity, exacerbated by quantitative easing – and with the end of QE, the bubble burst. Then there’s the interest rate story. Canada’s economy is nowhere near as tight as America’s, so as rates head up stateside, they are forecast to be static here until at least early 2017. As for the halo effect, well, that seems to be vanishing along with resource prices.
The final factor is the greenback itself. How’s it doing against all the world’s currencies? On a trade-weighted basis, it’s up 20 per cent since the turbulence in financial market indicators began in mid-2014. While we’re fixated on the value of our currency, at the same time, most economies have had exactly the same experience. While the loonie has swooned 24 per cent against the USD, the Australian dollar is down 25 per cent, the Norwegian krone is off by 28 per cent, and the Euro itself is down 20 per cent. A host of other countries are in the same range, while at the extremes, Brazil and Colombia have seen more radical movement, and Russia – for obvious reasons – is off the charts. Asian currencies have been less responsive, but the standout is China which, even after devaluations last August and in January, is only off 5.7 per cent.
Clearly, Canada is not alone; this seems to be more of a US phenomenon that’s affecting the world broadly. Given that we are still just days into a new monetary regime, the uncertainty factor is likely weighing on all non-US currencies excessively, and we expect modest relief shortly. But it stands that the bulk of currency weakening will be with us for some time, as commodity markets remain in oversupply. Canadian exporters will need to adjust – but not get too comfortable, as renewed growth eventually revives resource supply concerns.
The bottom line? Recent depreciation is not just about the loonie; something larger is at play, and this is likely the worst moment. The ripcord will be pulled in the coming months, and with the end of the free-fall, we’ll get a better lay of the land.