BUSINESS

THE DOLLAR DEBATES

PATRICIA CHISHOLM October 31 1988
BUSINESS

THE DOLLAR DEBATES

PATRICIA CHISHOLM October 31 1988

THE DOLLAR DEBATES

BUSINESS

During the free trade negotiations, government spokesmen, including chief negotiator Simon Reisman, consistently denied that Canada’s dollar was a subject of discussion. The issue was a sensitive one because the Canadian dollar is closely tied to its American counterpart, yet any suggestion that the dollar would be subject to direct American control casts doubt on Canada’s ability to manage its own currency. But according to American treasury department sources last week, the notion of fixing the dollar at a higher level was briefly raised at the same time that free trade negotiations were under way. The issue was discussed by Finance Minister Michael Wilson and American Treasury Secretary James Baker, who subsequently decided to drop the matter, sources say. But chief trade negotiator Simon Reisman again last week categorically denied that the exchange rate was considered during the negotiations themselves. Reisman told Maclean’s, “Currency is not a fit topic for trade talks.” He added, “It was not brought up at any time or at any level of the discussion.”

Any suggestion that consideration had been given to either fixing the Canadian dollar at a particular level or moving toward a common currency while free trade talks were taking place elicits controversy. Economists, business experts and federal government officials have strongly rejected either possibility as workable. At the same time, Canadian exporters, whose profits are highly sensitive to jumps in the exchange rate, express concern that Canada’s dollar—which has jumped to the current 83 cents from 77 cents in January—may move even higher under free trade.

Canada fixed its currency relative to the U.S. dollar between 1962 and 1971 to prevent its uncontrolled depreciation, but the dollar has been allowed to float since then. Economists point out that the exchange rate should move freely to reflect economic barometers such as changing capital flows, interest rates and productivity. Said Richard Lipsey, senior economic adviser at the C. D. Howe Institute in Toronto: “The rate of exchange is an adjustment tool—it just needs to be left free.”

As for a common currency, it would require a complete fusion of the Canadian and U.S.

THE CANADIAN DOLLAR WILL LIKELY REMAIN FREE TO FIND ITS OWN LEVEL OF STRENGTH UNDER FREE TRADE

economies, something that is not contemplated in the free trade agreement negotiated last year. Even in Europe, which is planning a fully integrated marketplace by 1992, there are no plans for a common currency. • Instead, exchange rate rules will ensure that European currencies trade in narrow ranges, similar in

value to one another. A move toward a common currency would require integration of such fundamental economic activities as production, labor and capital movements. Said Michael Miller, economist with The WEFA Group, an economic forecasting firm:

“It would lead to absorption.

We would be the 51st state.”

By allowing the dollar to fluctuate freely against the U.S. currency, Canada reinforces its own sovereignty, Miller said.

More than any other currency in the world, the Canadian dollar is linked to the much more powerful U.S. greenback. When the American dollar rises and falls against other world currencies, the Canadian dollar usually follows. In most cases,

Canada also benefits when the American economy is strong and suffers when it is weak; the dollar’s level reflects that close relationship.

Canadian exporters are also highly vulnerable to the changing levels of the dollar.

When the dollar is low, exporters thrive because of low prices for their products in the United States. As the dollar climbs, the price advantage gradually erodes. Conversely, American producers welcome a rise in the Canadian dollar. Under free trade, the removal of tariff barriers, together with a higher Canadian dollar, will contribute to the decline in Canada’s trade surplus, since Canada’s exports will become more expensive to purchase in the United States.

But any new agreement to fix the Canadian dollar at a particular level is viewed by some— including economists, businessmen and free trade critics—as interference with Canada’s sovereign control over its own monetary policies. Any loss of control, economists say, could hamper Canada’s ability to manage matters critical to the country’s economic health, such as inflation and interest rates.

The advantage enjoyed by Canadian exporters was even greater before free trade negotiations were entered into in the spring of 1986. But the dollar rose sharply from 77 cents last January to 83 cents last July, partly in anticipation of a free trade deal. Foreign investors, who view the deal as positive for Canadian business because of better access to the rich American market, began pouring money into Canada, helping to boost the dollar.

In talks with Michael Wilson earlier this year, James Baker made it clear that a low Canadian dollar was unpopular in Washington.

Wilson countered with figures on the large amount of Canadian capital flowing into the United States. But with the Canadian dollar moving sharply upward, Baker and Wilson concluded that more equal exchange rates would soon prevail because of the prospective free trade deal. Indeed, some Canadians say that a major incentive for the Americans to enter the deal is the likelihood of a higher Canadian dollar. Said Thomas Delaney, a Toronto financial consultant and spokesman for the Consumers Association of Canada: “Their trade deficit is one of the Americans’ biggest problems. We are one of their biggest trading partners. The major point of the agreement, to the Americans, is to address the enormous trade imbalance in Canada’s favor.”

Treasury department sources said, however, that if the free trade deal fails, discussions about the exchange rate may reopen. Formal controls, however, are unlikely. Said Charles Doran, director of Canadian Studies at the Johns Hopkins School of Advanced Internation-

al Studies in Washington: “No one is really in charge of the rate. The rate is a function of what the trading balance and the capital balance look like between the two countries.”

Yet Canadian exporters continue to express concern. They have applied steady pressure on the Bank of Canada to moderate the dollar’s recent climb. But they, now find themselves caught between two opposing forces. Most of them support free trade, citing better access to the American market where Canada sends 80 per cent of its $ 100-billion yearly exports. But under free trade, the dollar is likely to continue rising, perhaps to as much as 88 cents, as Canada’s trade surplus with the United States shrinks. And a higher American dollar could have impact on the export of manufactured goods in particular because their prices are highly sensitive to currency rate swings. The prices of natural resources are more influenced by world commodity prices.

But few exporters are willing to give up the benefits of £ free trade, even if the result g is a higher dollar. They now I talk of using productivity s gains, assured sources of supI ply and customer loyalty to I overcome profits lost to the “ narrowing exchange rate. Exporters also seem willing to accept a dollar that moves

according to market forces. Paul Langley, vice-president at Toronto-based Canada Wire and Cable (International) Ltd., said that free trade is “well down the list” of factors behind the value of the Canadian dollar. In the meantime, if the dollar does remain high, consumers will likely enjoy a cheaper and wider selection of imported goods. And, according to University of Toronto business professor Alan Rugman, that kind of gain in one area of the economy tends to counterbalance losses in other areas. “The net impact on the dollar will be zero,” said Rugman. “The dollar is a symbol of Canada’s virility—a strong dollar makes us feel macho. It’s nonsense, but it is one of the myths we live with.” Whether deserved or not, many analysts say that Canadians appear determined to view their freefloating currency as a symbol of national pride and strength, making it all but impossible to link the value of the Canadian dollar firmly to the greenback.

PATRICIA CHISHOLM