A debate about the dollar’s bold ascent

JOHN DeMONT July 4 1988

A debate about the dollar’s bold ascent

JOHN DeMONT July 4 1988

A debate about the dollar’s bold ascent

The Canadian dollar soared to a 6½-year high last week—a performance that drew applause in some economic sectors and expressions of alarm from others. Currency traders said that the dollar’s rise to 83.19 cents in terms of U.S. currency on June 23— compared with a low of 69.24 cents in February, 1986—reflects the growing international perception that Canada’s economy is one of the strongest in the world. As well, Canadian consumers welcome a higher Canadian dollar because they are paying less to buy American goods. But while consumers cheer on the dollar’s yearlong robust rise, many economists and businessmen are expressing concern that it has climbed too far, too fast. In fact, they say that unless the Bank of Canada acts quickly to curb the soaring dollar, Canadian exporters will lose their competitive position in the key U.S. market, where about 80 per cent of Canada’s exports are sold. Said Robert Dénommé, chief economist at the Canadian Manufacturers’ Association: “Our exporters are being squeezed.”

Exporters have been lobbying hard to convince Bank of Canada governor John Crow to soften his high-interest-rate policy, which has also helped to push up the dollar. Central bank officials have kept interest rates high to cool inflationary pressures, which they say could stop the booming central Canadian economy in its tracks. But those high interest rates are attracting increasing amounts of foreign money into Canada. That, in turn, adds to the dollar’s value. To offset that upward pressure, the bank has been selling Canadian dollars and buying foreign currencies. But that has not stopped exporters and others from complaining that the less competitive prices caused by the strong dollar could price Canadian goods out of the U.S. market. The exporters say that their U.S. customers will balk at higher prices and turn to other suppliers for such traditional Canadian goods as lumber and minerals.

Some exporters even suggest that Prime Minister Brian Mulroney has sacrificed the benefits of a weaker currency, which makes Canadian products cheaper in foreign markets, in order to secure the free trade deal with the United States. Before the signing of the trade pact, U.S. officials had voiced concern about the advantage that a low dollar gave Canada, and there had been calls for a rise in the currency’s value. But recently, Crow denied that there has been any secret understanding associated with the proposed free trade agreement. “There is no deal on the Ca-

nadian dollar,” Crow told a meeting of foreign correspondents before the economic summit in Toronto.

Still, Crow’s preoccupation with keeping interest rates high, and inflation low, has made the Canadian dollar the new darling among international investors. Since January, when Canada’s in-

flation picture began to look far better than that in the United States, currency traders and investors from all around the world have been buying up Canadian dollars—with the notable exception of the Japanese, who began buying dollars more than a year ago and are now starting to sell at a profit. Lately, the trading activity has been so frantic that the Canadian Imperial Bank of Commerce has added to the staff handling Canadian dollar trades on its foreign exchange desk. Foreign investors evidently appreciate the sizable interest-

rate differentials between Canada and the United States. Last week, the Canadian prime lending rate was 10.75 per cent compared with nine per cent in the United States.

Foreign investors also say that the Canadian economy looks strong—especially if the free trade pact goes

through. And last week’s economic summit, which focused the business world’s attention on Canada, also helped the dollar’s popularity. Said Merfyn Jones, the ClBC’s chief foreign exchange dealer: “There’s a whole new trading range for the Canadian dollar, with 80 cents U.S. as the downside.”

Canada’s popular currency is also generating strong interest in Canadian securities issued outside of the country. So far this year, 96 Canadian-dollar bond issues have been floated in Europe, at a total value of $9.75 billion compared

with 94 issues worth $8.1 billion during all of 1987. Said Robert Edge, head of European syndications for Wood Gundy Inc. brokers: “The market for Canadian paper is hotter than it has ever been.” But that has done little to console companies that live and die by exporting into the huge U.S. market. The appreciation of the Canadian dollar has left most exporters on the horns of a classic dilemma: either lower prices to offset the unfavorable exchange rate and see revenues fall, or keep prices where they

are and risk losing market share. The impact is already being felt by such companies as Lamford Forest Products Ltd., a New Westminster, B.C.-based cedar manufacturer, which calculates that the high-flying dollar has cost it an estimated $275,000 per month—or about seven per cent of its normal revenues. Said Lamford president Donald McMillan: “We get the distinct feeling that western Canadians are getting beaten to death because Ottawa wants to hold an umbrella over the Ontario economy.”

The soaring Canadian dollar is particularly hard on the forest-products industry, which has also suffered because of increased export taxes and stumpage fees. Charles Widman, president of Widman Management Ltd., a Vancouver-based forest industry consulting firm, calculates that

the increase in the value of the dollar since last May will cost the Canadian forest industry more than $1 billion in revenues this year. Added Widman: “What the government has basically done is wipe out most of the benefits of the free trade agreement.” And two weeks ago in Vancouver, Jack Monro, president of the Canadian branch of IWA Canada, one of the country’s largest forest industry unions, took time out during contract negotiations to attack Crow’s interest-rate policy, which he

said was devastating the forest sector.

But even some exporters who sell abroad in U.S. dollars are suffering because they earn less when they convert their U.S.-dollar profits. Fishery Products International Ltd. —Newfoundland’s largest private employer, which sells 80 per cent of its products in the U.S. market — calculates that each one-cent rise in the Canadian dollar against the American reduces its net income by $1.8 million. Meanwhile, Michael Ratuski, manager of economics at the Canadian Petroleum Association, says that at the current price of $16 (U.S.) per barrel, each one-cent appreciation in the Canadian dollar drops the price that Canadian producers receive for their product by 25 cents per barrel.

But the dollar’s gain does help some

sectors of the economy. Canadian consumers gain not only because imported goods are cheaper but because their vacation dollars go further when they travel outside the country. Also better off are some manufacturing companies that import components from the United States and sell the finished products in Canada. And the big commercial banks also win because the Canadian dollar’s strong rise against its U.S. counterpart has sliced as much as $1 billion from their Third World loan portfolios. The reason: although the Third World loans are in U.S. funds, the banks have set aside loan-loss reserves in Canadian currency in case the debts are never repaid. When the dollar rises, those reserves gain in value, giving the banks a thicker cushion. And the strong dollar also helps attract foreign investors into Canadian stock markets. Said Murray Grosner, director of research for the Toronto brokerage house Richardson Greenshields of Canada Ltd.: “Investors who think that the dollar will rise more will continue to buy Canadian stocks.”

Still, it is difficult to draw a firm conclusion about whether the Bank of Canada’s high-interest-rate policy helps or hurts the overall Canadian economy. Michael McCracken, president of the Ottawabased economics forecasting company Informetrica Ltd., said that keeping interest rates and the dollar high is a prudent approach when the economy is operating full out. But he says that such an approach is a mistake now when there is plenty of slack in the Canadian economy and when the national unemployment rate is a relatively high 7.8 per cent. Said McCracken: “There will be beneficiaries, but overall the net effect will be more lost jobs.”

The Bank of Canada is taking note. Earlier this month, it sent out a clear signal that it wants to narrow the interest-rate gap between Canada and the United States when it allowed one of its key lending rates—the overnight funds rate, which applies to short-term, overnight loans to the commercial banks—to slip to 87/s from 9 Vs. But the bank’s critics say that it may have to take even stronger action if the dollar continues its bold climb.