rennae | death march, re: the Canadian dollar (Reply)

Many Canadians would fondly remember a few years back where the Canadian dollar was on par with the US dollar and hoards of Canadians would drive over the border to visit Canada's southern neighbour every weekend. Those times are over. For a long while the Canadian dollar (CAD) has been on a decline and just last week the CAD was trading below 69 cents USD for the first time since 2003 (2)

The failing strength in the Canadian dollar is a result of a great number of factors, many related to the strength of the American dollar as well as weak global market conditions for key commodity exports, oil in particular.

Canadian industries

Canada is unusual among developed countries in that primary industries such as logging, mining, and agriculture are very important to the overall economy. In fact, Canada is a world leader in the production of natural resources such as nickel, uranium, lead, forestry goods, and crude petroleum. Among them, forestry goods and crude oil are two of Canada's most important contributors to national GDP. Even though these sectors are becoming increasingly less important to the overall economy, they still account for 10.0% of GDP in 2014 (13). As a direct result of the importance of primary industries in Canada, secondary industries such as pulp and paper manufacturing flourish in the country.

Although Canada has a flourishing oil extraction industry in Western Canada, a large portion of the refineries and processing facilities are located in the USA leading to a loss of jobs and revenue for Canada. While some oil is refined locally in Western Canada, it is difficult to transport oil from Western Canada to Eastern Canada, thus eastern provinces much import the refined product from the USA at premium prices (14).

Thanks to the automobile industry and aircraft industry, Central Canada has a large manufacturing sector contributing to 10.62% of GDP (Canada's largest industry is the service-producing industries, clocking in at 69.50% of total GDP in 2014) (3). As expected, the United States of America is the largest trading partner that Canada has, accounting for about 73% of total exports and 63% of total imports

Stable growth in the Canadian economy is guided by inflation targeting strategies have been used in Canada since 1991. This allows the Bank of Canada to target investment by encouraging or discouraging the loaning of money by increasing or decreasing the interest rate (4). The conventional train of thought is that raising interest rates would curb investors looking to borrow money thus lowering inflation, while lowering interest rates accelerates the economy and would boost inflation. Criticisms of IFT include suggestion that this model would ignore unsustainable speculative real estate bubbles and would not allow banks to react quickly in times of emergencies.

strong Canadian dollar (golden days, was it all a dream?)

To talk about the previously strong Canadian dollar, the Financial crisis of 2007-08 has to be addressed, although this post will not get into any details from that time, please feel free to read up on it here.

What is important is that while it was an all-time low for the American dollar and the American economy was an absolute train wreck at the time, the Canadian economy was mostly protected from the most severe effects of this crisis due to more stringent application of inflation targeting. The low American dollar combined with the more stable Canadian dollar at the time created an illusion that the Canadian dollar was doing well.

It is clear that during that time the Canadian dollar seemed to be doing well against the American dollar (5).

It is also important to note that at the time, China was still undergoing heavy growth and thus imported much trade from Canadian resources (15).

crash and burn

While it was not entirely due to fluctuating global prices, global oil prices are a definite factor in deteriorating dollar strength. Other factors that were quoted by former Prime Minister Stephen Harper are the European debt crisis and China's economic slowdown (6).

The Canadian dollar felt a stronger tie to oil prices than before. Where previously there was an 80% correlation between fluctuations in the strength of the loonie with global oil prices, there is now a 94% correlation. Economic policies of the recently departed Conservative government emphasized on oil production and pushed Canadian economy to depend more heavily on oil prices. Simply put, there was a lot of emphasis expanding and developing the oil sands in Alberta at the cost of Canadian wilderness, waterways, and inhabitants even when global oil prices were steady dropping (7). The Canadian government’s neglect of other industries lead to a major weakening of the Canadian dollar when oil prices fell below profitable range of $65-$95 a barrel due to 2014-2015 oil collapse.

The 2014-2015 price collapse of oil occurred for several reasons; one is a global oversupply of oil, another is China's marked slowdown on economic growth, and also global trend of moving away from fossil fuels into renewable green energy (11). The global oversupply of energy was in part due to USA doubling their 2008 output levels due to new "fracking" technology, this lead to a sharp decline in USA oil imports and increase of exports into the global market. Chinese economy is also experiencing a deceleration leading to lower energy import requirements. OPEC, an organisation of 13 petroleum producing countries that makes up 40% of global oil production and 73% of the world's "proven" oil reserves, sets oil production limits for all of its members and thus has considerable influence on global oil supply and prices. As countries in OPEC have also exceeded their oil production ceilings, the success of USA's fracking technology and substantial increase in oil production set it at odds with countries in OPEC. But instead of setting lower production ceilings to reduce global supply and lower prices, OPEC has increased output in an oversupplied market in a bid to force higher-cost producers to scale back their operations. This is to put pressure on the USA fracking technology boom (USA is not part of the OPEC). So OPEC's strategy is to allow global oil prices to continue to lower (due to oversupply) by refusing to curb the current oil production in its members to push oil prices lower (apparently so Iran can recover from international sanitation, but also has the side effect of stopping oil rigs in USA as prices are not profitable enough to keep rigs open along with Canadian Tar Sand. In the long term, this means gain for OPEC members, loss in profit for all other players (i.e. USA, Canada) as they struggle to keep their rigs open.)

European debt crisis has had a relatively low impact on Canadian economy as Canadian banks have much less exposure to European banks and are financially sound and have healthy lending practices, thus Canada has been affected less by the European debt crisis than the U.S. and the rest of the world in general. However, Canada has still been affected through lower consumer confidence and lower commodity prices. Given that commodities are one of the main sources of export for Canada and a major component of the Canadian market, lower commodity prices could have had an effect on the Canadian dollar.

China has experienced high economic lower than previous years because China is leaving more and more development and manufacturing jobs to shift towards tertiary facilities China development crash from Aug 2015 to 2016 trading decline where trade dealing was briefly halted after the CSI 300 stock index fell 5%. Then when markets were re-opened, losses reached 7% within seconds. The Chinese stock market had lost about US$3 trillion of wealth by July 2015 when panicked investors sold stocks, which created declines in the commodities markets, which in turn negatively impacted resource-producing countries like Canada. Recall that about 10% of Canadian GDP is based on resource producing and China is Canada's second largest export partner, clocking in at about 4.3% of all exports. A paltry percent next to USA's 73%, but China is nevertheless Canada's second greatest trading partner thus this crash impacted Canadian economy (1).

There are many factors that can be attributed to the weak Canadian dollar and there just isn’t a magical fix. It is important to understand that while the combination of bad economic investment from the previous government of Canada and current global conditions are possibly reasons for the weakened state of the Canadian dollar, the strength of the Canadian dollar during 2013 was surprise that is unlikely to give a repeat performance in the near future.

(1) https://web.archive.org/web/20141114095317/http://www.ic.gc.ca/eic/site/cis-sic.nsf/eng/h_00029.html

(2) MCNeely, Allison. "Canadian Dollar Plunges to 71 Cents after One-two Punch from Fed and Oil." Bloomberg News. FINANCIAL POST, 17 Dec. 2015. Web. 18 Jan. 2016. <http://business.financialpost.com/investing/market-moves/loonie-resumes-plunge-falling-to-11-year-low-on-oil-decline-fed-rate-increase>.

(3) http://www.statcan.gc.ca/tables-tableaux/sum-som/l01/cst01/econ41-eng.htm

(4) Clinton, Kevin, et al. Inflation-Forecast Targeting: Applying the Principle of Transparency. No. 15-132. International Monetary Fund, 2015.

(5) data for graph pulled from http://www.canadianforex.ca/forex-tools/historical-rate-tools/yearly-average-rates

(6)After rate cut Canada PMs office says global woes hit economy, Daily Mail UK, 15 July 2015, retrieved 7 August 2015

(7) Sutherland, Scott. "Exchanging Oil Sands Expansion for Renewable Energy Growth in Canada."Student Pulse 7.01 (2015). <http://www.studentpulse.com/a?id=978

(8) http://www.macleans.ca/economy/economicanalysis/the-most-important-charts-for-the-canadian-economy-in-2016/

(9) Kalantari, Hashem; Sergie, Mohammed (2 January 2016). "Iran Says Post-Sanctions Crude Output Boost Won't Hurt Prices". Bloomberg News. Retrieved 16 January 2016.

(10) image from "http://www.forbes.com/sites/woodmackenzie/2016/01/19/us-lifts-the-ban-on-crude-oil-exports-when-might-it-matter-for-producers/#68560857328d48868471328d"

(11) "Our Mission". OPEC. Retrieved 16 February 2013

(12) "OPEC Won't Cut Production to Stop Oil's Slump". Bloomberg News. 4 December 2015.
(13) "Forests". Government of Canada. 2016-01-19. Retrieved 2016-01-21.
(14) Energy Markets Fact Book 2014–2015 July 2014 Retrieved 2016-01-21
(15) Canadian Trade and Investment Activity: Canada–China 12 June 2013 Retrieved 2016-01-21