OTTAWA – The weak loonie will almost certainly do more harm than good to the Canadian economy, argues a paper from a respected former Statistics Canada analyst that stands on its head conventional wisdom about currency impacts.
The loonie has seen its value deteriorate more than 10 per cent from near parity with the U.S. over the past several months, with many economists expecting a further slide to the 85-cent U.S. range this year.
And the paper suggests that what some have interpreted as a deliberate strategy by Bank of Canada governor Stephen Poloz to talk down the dollar will not only be ineffective, but possibly counterproductive.
The central bank has been hoping for a so-called “rotation” in the economy toward more export-based activity, which in theory is boosted by a lower currency since it makes Canadian products more competitive in foreign markets. As well, when companies repatriate their foreign earnings, they pocket more loonies.
But Philip Cross, the former chief economic analyst for Statistics Canada, says while the reasoning may have had merit in the 1990s, when the Canadian dollar was plumbing new lows in the 63-cent range, manufacturers have since adapted to the stronger currency and won’t gain as much this time around.
Exporters of natural resources and tourism do benefit, but not enough to overcome the sectors of the economy that will lose.
A weak loonie means Canadians pay more for all kinds of goods, particularly energy, companies pay more on inputs and imported machinery and equipment that help boosts productivity, and governments pay more on foreign-denominated debt.
“I can’t put a percentage on it, but to me it’s not a close call … we lose more from a weak currency than we gain. It’s not the first time conventional wisdom has been wrong,” said Cross, whose paper was released by the Fraser Institute.
Cross says the “myth” of the economically damaging strong loonie is imbedded in the models used in economic forecasts, but the problem is that while they capture the export effect, they have more difficulty quantifying the “subtle and indirect benefits” on prices and interest rates.
TD Bank deputy chief economist Derek Burleton said he agrees with some of the report’s points, but still believes the currency is an important factor in the health of Canada’s export sector, and that is key to the economy as a whole.
“My take is when the Canadian dollar was at parity, it was overvalued and it was a negative for the economy. Now that it is more in line with fair-market value it is good for the economy,” he said.
The TD issued Thursday its quarterly outlook for the economy predicting growth of 2.3 per cent this year and 2.5 per cent next, citing improved demand from the U.S. and the lower currency as key to the improving picture.
Jayson Myers, president of the Canadian Manufacturers and Exporters group, also said it would be a mistake to underplay the benefits of a weak loonie.
“It’s not as positive as it was 10 years ago, but it’s still pretty positive,” he said. “My members are telling me a lower dollar is giving them more breathing space, more cash and a better sense of optimism.”
Cross says too much credit or blame is given to the loonie. Since 1995, the ups and downs in Canada’s export levels track almost precisely with the Bank of Canada’s foreign activity measure of global demand, he points out. Notably, it shows exports rising even as the dollar was appreciating from 1995 to 2007, after which the recession struck.
In addition, a weak currency over an extended period can lead an economy down the garden path, Cross says, as occurred from 1992 to about 2000, a gilded era for Canadian manufacturers. Low-wage industries such as clothing, textiles and furniture saw employment rise 29 per cent.
Except it was fool’s gold, he says.
When the dollar strengthened, they disappeared.
“In retrospect, one can only look back with wonder and astonishment that governments and firms in Canada thought our future lay in investing in low-wage industries predicated on a chronically low exchange rate,” Cross said. “It was a business model doomed to fail.”
Cross said there is one sector that is an unequivocal winner from a low dollar — the natural resources industries, particularly oil producers, that have minimal foreign inputs.
Meanwhile, consumers are paying the price, he says.
For instance, gasoline prices in Canada rose 4.6 per cent in January as the dollar was falling, and only 0.1 per cent in the U.S. As well, fresh fruit and vegetable prices rose 4.1 per cent in Canada, while they fell south of the border.