Column

CAREFUL WHAT YOU WISH FOR

Hopes for a stronger loonie could lead to dramatic job losses

DONALD COXE November 22 2004
Column

CAREFUL WHAT YOU WISH FOR

Hopes for a stronger loonie could lead to dramatic job losses

DONALD COXE November 22 2004

CAREFUL WHAT YOU WISH FOR

Column

DONALD COXE

Hopes for a stronger loonie could lead to dramatic job losses

AS OF 9 P.M. ON NOV. 2, most Canadians watching the U.S. election returns doubtless felt pretty happy. They were hearing that trends looked very good for John Kerry.

I was watching the results in Manhattan, mostly on Fox—a channel not yet available to Canadians. I was pretty unhappy. The conservative commentators on the show were glum, and the liberals were upbeat. Clearly, they all knew something that wasn’t obvious from the actual returns. The exit polls (which they were supposed to keep confidential) must have indicated a big win for Kerry. Jet-lagged from a trip to Europe, I decided to go to sleep.

At 3:30 a.m., I turned on the TV to discover that George W. Bush was apparently near victory. I flipped to CBS and watched Dan Rather in agony—and figured Bush was reelected. Few Americans had worked harder to beat Bush than Rather, and he was watching the outcome in stunned disbelief.

Kerry carried just 19 states and the District of Columbia. Apart from Vermont, they all border an ocean or a Great Lake. Bush carried the rest—most of which are dissed by the coastal elites in New York City, Washington, L.A. and San Francisco as “flyover states.” But so powerful was the trend to Bush that one of those boring states had the gall to vote out Democrat Senate Minority Leader Tom Daschle, one of Washington’s most powerful people.

Bush’s victory was historic: he won a majority of votes, both in ballots and in the electoral college, and gained seats in the Senate and the House. That’s the first time for a sitting president to be re-elected and gain seats in both houses of Congress since Roosevelt in 1936—and the first for a Republican since 1900. He got 3.5 million more votes than Kerry, the first time since 1988 that any candidate got more than 50 per cent of votes cast. Overall turnout was a record—11.4 million more votes than in 2000—and Bush’s vote count was up by 9.2 million. So Canadians must accept the fact that the nation whose purchases from Canada constitute 30 per cent or so of its GDP will continue to be led by someone they’ve been told is too stupid to take seriously.

But what if Bush isn’t a dummy, and what if he decides to reinvigorate his economy by driving down the value of his dollar?

During the years when the Ioonie languished, Canadians collectively lamented what they considered the national embarrassment—their currency. Many prominent Canadians, particularly in the business community, openly recommended scrapping it in favour of what was then the Clinton currency. The near-universal wish was for the Ioonie to be strong.

Well, Canada, you’re getting your wish. But you’ll recall the adage about being careful what you wish for. There’s a strong likelihood the Ioonie is headed to par on the American dollar. The greenback is in a major bear market, propped up by the willingness of China and Japan (with tacit acquiescence from Washington) to buy hundreds of billions of dollars’ worth of U.S. Treasury bonds. Otherwise, the Ioonie would already be trading in the 90-cent range.

But there are signs that those Asian powerhouses are reconsidering their currency strategies. By continuing to tie their currencies to the greenback, they’re forcing their manufacturers and utilities to pay the full U.S. dollar prices for commodities— notably oil and base metals. Raw materials prices are up by more than 40 per cent in the past year, whereas prices for finished goods are up just a few percentage points. So the inflation that’s worrying the bosses in Beijing is almost entirely commoditydriven. The best way to deal with that kind of problem is to let their currencies appreciate against the dollar. That would both lower their cost for imported raw materials and reduce the impact of price increases thereafter as global commodities continue their powerful bull market.

Once it becomes clear to global currency traders that Beijing and Tokyo aren’t prepared to spend unlimited amounts propping up the dollar, there will be a frenzy to buy Canadian and Australian dollars, euros and Swiss francs. Even if the Asians were to continue to buy Treasuries, albeit at a reduced rate, any signs of weakness of the American economy would put enormous pressure on the greenback, because traders know that the Federal Reserve would be severely limited in its freedom to raise interest rates to defend the dollar.

The U.S. trade deficit is a horrendous 5.7 per cent of GDP, while Bush’s budget deficit is another 3.6 per cent of GDP. Probably the only way Bush can get his economy moving at a clip that will cut his twin deficits is for his dollar to be devalued. It must fall far enough to shut down significant levels of competing production in foreign factories that rely on sales to American consumers. Think, for example, of auto parts plants in Ontario.

Bank of Canada governor David Dodge complains about Canada’s low levels of productivity compared with the United States. According to him, Canadian manufacturers have been happy to rely on the cheap dollar. They haven’t felt the need to invest heavily in labour-saving technology and machinery. But once they lose that protective umbrella of a cheap currency, they’ll be at risk from the full heat of American competitive forces.

For most Canadians, the loonie’s recent price surge is unalloyed good news—and it comes in time for Sunbelt winter vacations. But for Canadian manufacturers and exporters, the currency news is scary.

David Hale, an American economist, notes that all serious devaluations of the U.S. dollar came when a Texan was either president or secretary of the treasury. Historically, the South, a commodity-producing region, has wanted a cheap dollar to export its production. Wall Street has always favoured a strong dollar, because it’s good for bonds, and is usually supportive of stocks. The strong dollar policy of the Clinton era was the brainchild of former treasury secretary Robert Rubin, the New Yorker who had been cochairman of Goldman Sachs. He presided over a 45 per cent appreciation of the dollar against the European currencies and an 18 per cent rise against the loonie. While that lowered U.S. interest rates and inflation, it cost millions of American manufacturing jobs.

WHAT if Bush isn’t a dummy and decides to reinvigorate his economy by driving down the value of the U.S. dollar?

Bush knows a cheap dollar will restore American competitiveness, but he doesn’t dare talk publicly of driving down the dollar. That could produce the kind of dollar crash that occurred in 1987—which triggered the stock market crash. What he’ll try is a stealth devaluation, letting the currency markets do his work for him. If it reaches a competitive level by late 2005, the trade deficit would start to shrink in 2006 and the United States would be on the road back to global competitiveness in 2007.

In this election—as in all his previous contests—the media and his opponents have considered Bush too dumb to win. So he must, apparently, be very lucky. Canadian manufacturers facing a rising loonie must pray his luck has run out.

Enjoy your cheap winter vacation: it’ll be even cheaper next year.

Chicago-based Donald Coxe is Global Portfolio Strategist, BMO Financial Group. dcoxe@macleans.ca