World money wars

February 2 1987

World money wars

February 2 1987

World money wars


The bridge and tunnel linking Windsor and Detroit are jammed with trucks carrying furniture, steel car parts and other items of cross-border trade. On weekends American consumers flood into the Ontario city to hunt for deals on clothes, jewelry and even cars. But an international currency war, triggered by the U.S. determination to cut its trade deficit by letting the value of its dollar slide, could diminish the flow of Canadian goods into the United States—and to Europe as well. Last week, after months of slipping on international exchanges, the U.S. dollar crashed to record lows against the Japanese yen. At the same time, Treasury Secretary James Baker travelled to Ottawa for talks with Prime Minister Brian Mulroney and Finance Minister Michael Wilson.

Among his concerns: certain protectionist congressmen claim that Canada’s dollar is artificially low, and they may want it raised to stop the flood of cheap Canadian imports into the United States.

But whether Canada lowers or raises the value of the dollar, the country’s international trade may not escape a battering in the raging international currency war. Money traders in London, New York and Tokyo have dumped billions of greenbacks over the past two weeks. In response, the West Germans attempted to stay competitive with the United States by quickly slashing their interest rates to make their currencies less attractive, and the Japanese are expected to follow.

In Canada the Mulroney government continued its policy of using higher interest rates to maintain the Canadian dollar’s value against its U.S. counterpart. The Bank of Canada lowered its interest rate to 7.74 per cent last week— the first time it had dropped below eight per cent in almost 10 years. Still, Canadian lending rates remained roughly two percentage points above U.S.

rates. As a result, as the U.S. dollar fell quickly in January, the Canadian dollar actually gained in relative value, closing last week at $.7346 (U.S.)—up from $.7231 on Jan. 1. And while that marginally increases Canadians’ ability to buy U.S. goods, it makes Canadian products less attractive in the crucial U.S. market.

While confusion reigned on the

world’s money markets, there was clearly no significant loss of investor confidence in the U.S. economy. The New York Stock Exchange recorded a series of record gains thoughout the week, pushing the Dow Jones industrial average, the barometer of market activity, to an all-time high of 2,210 points, before it settled at 2,102.

Washington began reducing the greenback’s value in 1985, when the Reagan administration abandoned attempts to reduce the $148.5-billion foreign trade deficit through import agreements with the Europeans and Japanese. The so-called G-5 partners— the United States, Japan, Germany, Britain and France—held three months of secret negotiations, leading to the Plaza Accord of September, 1985, in New York. The accord’s strategy was simple: the central banks of the five countries would use U.S. dollars to buy

other currencies on world money markets. That would drive down the value of the greenback and, in theory, begin to correct the vast U.S. trade imbalance.

Since then, the depreciation of the dollar has continued. By the end of 1986 it had lost 34 per cent against the yen, 32 per cent against the mark and 25 per cent against the French franc, while higher interest rates in Canada pushed the Canadian dollar up marginally against its U.S. counterpart. But other hoped-for effects did not materialize. Imports were costlier, but Americans kept buying more in spite of that. And U.S. exports were more competitive, but sales did not increase enough to make a difference in the trade figures. Indeed, the U.S. trade deficits rose dramatically. The U.S. commerce department reported that the deficit in bilateral trade with Japan jumped to $66.3 billion in the first nine months of 1986 from $47 billion during the same period for 1985. For trade with Germany, the equivalent deficit figures were $15.5 billion, up from $11.4 billion. And the commerce department said that the deficit in bilateral trade with Canada increased in the same period to $25.5 billion from $22.4 billion. Those trends triggered its sudden drop in the money markets.

For their part, Statistics Canada and other Canadian sources, including the Bank of Nova Scotia, dispute the commerce department trade figures. According to their records, the Canadian surplus in bilateral trade with the United States actually fell in 1986—to an estimated $16 billion from $20.7 billion the year before. Indeed, in part because of different methods used in calculations, Canadian and U.S. authorities have long disagreed on the actual trade figures from year to year.

In any case, the upheaval has had mixed effects on the Canadian dollar and the economy. Michael McCracken, president of Informetrica Ltd., an Otta-

wa-based economic research firm, said that the federal government has managed to keep the Canada/U.S exchange rate steady by keeping Canadian interest rates about two per cent above those in the United States. As a result, the Canadian dollar has declined against the yen and the mark almost to the

Trading on a low-valued dollar

The two dollars’ drop against the yen LAU I U.S. dollar

I 1 Cdn. dollar

trade with the United States (In billions of Cdn. $)

same degree as the greenback. And that has made imports from Europe and Japan more expensive.

Interest rates in Canada have been dropping over the past six months, but not as quickly as some analysts say that they should. Carl Beigie, chief economist at Dominion Securities Inc., said that the Bank of Canada should stop trying to stabilize the dollar by keeping interest rates above those in the United States. By letting the rates drop more quickly, he said, Ottawa would stimulate investment by business and spending by consumers.

“The Canadian economy must have lower interest rates quickly,” said Beigie. “They are taking their sweet time getting interest rates down.”

Still, some influential officials with the chartered banks support the Bank of Canada approach. Douglas Peters, for one, chief economist with the Toronto-Dominion Bank, said that Wilson would ignite the anger of

protectionist U.S. congressmen if he let the Canadian dollar fall. Traclitional economic forces would lead exports to the United States to increase, Canada would be accused of unfair trade practices and the country could face a new round of petitions for duties on its exports, he said. The Bank of Montreal’s

chief economist, Lloyd Atkinson, said that it is imperative that federal policy strike a balance between stimulating economic growth and controlling inflation. Letting the dollar fall would be highly inflationary, Atkinson said, because import prices would rise and do-

mestic manufacturers would increase their prices accordingly.

In theory, Canada’s trade deficit with Japan should improve as the dollar falls against the yen. But like the United States, Canada has still not experienced any benefit. Canada ran up a $368-million trade deficit with Japan in 1985, the fourth consecutive year in which imports exceeded exports, said external affairs department official Louis Boisvert. And during the first six months of 1986, the deficit hit $800 million.

If the greenback continues to fall, the Canadian dollar will almost certainly have to follow it in order to maintain its roughly $7 billion in exports to the 12-nation European Common Market in 1985, said Roland Leuchel, chief foreign investments officer of Belgium’s Banque BruxellesLambert. But he added that the Europeans claim that the Canadian dollar is already undervalued against the greenback and that it may soon break its link with the U.S. currency on European money markets. That could lead to an increase in the value of the Canag dian dollar, in which case Canadians could buy ^ more for their money. And, in theory at least, that would encourage imports and vacations abroad, but discourage exports.

By week’s end, the ultimate destination of the Canadian dollar on world money markets was clearly linked to any U.S. commitment to slow the fall of its currency. But President Ronald Reagan’s chairman of the Council of Economic Advisers, Beryl Sprinkel, said that the United States had no intention of intervening. If that is the case, according to many economists, the Mulroney government faces two tough choices. It can either free the Canadian dollar to find its own level—and please the Europeans—or devalue along with the U.S. dollar and risk the anger of protectionist congressmen.

g —D'ARCY JENISH with IAN AUSTEN in Washington 5 and PETER LEWIS in 2 Brussels