What’s gotten into the loonie? Months of calm were shattered in late April as the dollar soared by 12 cents in 29 days. The swift increase would be shocking at the best of times, but this run-up is hitting exporters during the worst economic episode they have likely ever seen. What’s going on?
There has been no lack of drama on the dollar front in recent years. Nobody anticipated the loonie’s long march from 62.5¢ US in late 2002 to US $1.09 in the fall of 2007. And last fall’s tumble from parity to under 80¢ was a surprise to most. In hindsight, the movements generally made sense – the protracted increase coincided with a world economy in overdrive, the sharp decline with a freefall in global demand. But the recent movement is a more troubling show-stealer: it was the fastest 29-day increase on recent record, against a backdrop of global economic malaise.Movements like this take us back to basics. How have the Canadian dollar’s key drivers – world oil prices, non-energy commodity prices, short-term interest rate spreads and US dollar movements against all currencies – been behaving? Recent oil price movements support the loonie’s rise. In the past month, US crude has moved from US $50 to US $70 per barrel. Current prices would have to stick in order to have a full effect on our dollar, but costlier oil is good for a 4-5¢ jump.
As a group, other commodity prices have not moved as swiftly. Agri-food prices have seen some lift, and base metal prices are up from recent lows. But the forestry sector remains soft, with declines in pulp and paper prices adding to the woes of the wood products industry. The Bank of Canada’s non-energy commodity price index is up in recent weeks, but by a relatively modest 3.5%, barely enough to drive the Canadian dollar up by a cent.
Interest rate spreads have been more static, and as such have not been a factor in recent dollar movement. Policy rates have reached a nominal floor on both sides of the border, and the central banks have confirmed that they’ll stay there for quite some time. Short-term market rates have followed, so few expect this driver to move the currency much in the coming months.
That leaves us with the US dollar. Sentiment has soured on the greenback, as the sustainability of overactive printing presses and massive fiscal stimulus has come under international scrutiny. In the wake of renewed concern, the greenback has lost 8% of its value against all currencies in the past 14 weeks, exerting significant upward pressure on the loonie. But does USD-bashing make sense? A quick look at the improvement in the trade deficit – down sharply from 6.1% of GDP to 2.4% in 40 months, and falling – suggests not. And on the fiscal front, the OECD sees near-term deterioration in other industrialized economies that is just as bad or worse, and few economies have credible exit strategies from their stimulus programs. The US may be more visible, but is not necessarily worse off. So, why the USD gloom? A growing sense that the world economy is on the mend has likely sparked a retreat of hot money from US “safe-haven” assets – and the same sense has boosted commodity prices. With the global recession far from over, the mid-malaise euphoria probably won’t last.
The bottom line? The loonie’s recent surge looks temporary, as global economic weakness suggests suppressed commodity prices, low interest rates, and a renewed reliance on the US dollar.
