The Canadian and American economies often move together, but the loonie is the latest sign that won’t be the case this time. The Canadian dollar has been plunging against the US dollar, a.k.a. Greenback. That loonie’s erosion was amplified this month as the two central banks diverged on outlooks for their respective economies, with the American economy set to outperform the Canadian economy significantly. This kind of weakness hasn’t been observed outside of the deepest global recessions, and with Canada prioritizing non-productive investments—relief may not be around the corner.
A Weak Loonie May Not Boost The Canadian Economy This Time
Currency strength is an important economic lever, with a weak loonie having pros and cons. Advocates of a weak loonie against the greenback feel this helps make investment more attractive. Foreign companies essentially get a discount on everything from land to labor. Historically, this has helped revive real estate investment, and created well-paying jobs—notably with US tech giants, the film industry, and banking. However, a weak loonie isn’t a free ride.
This time may be different. The US economy is looking to rebuild its domestic industry by re-shoring the industries that were sent overseas in the previous 30 years. It’s a bi-partisan priority that the outgoing president embraced, and the incoming president plans to ramp up during his 4-years in office. Creating jobs in Canada due to a weak loonie doesn’t further that strategy; it’s directly at odds with it.
The US dollar is the unofficial global reserve currency, impacting the cost of nearly everything. Most commodities, such as lumber, steel, oil, and wheat, are priced in US dollars. Even if we produce those items, the greenback is still the currency it’s priced in since domestic and global consumption compete. Prices can stall, but an erosion in currency is going to mean it’ll cost more. The boost to the cost of living will be felt even if CPI doesn’t capture it.
A weak currency may attract foreign investment, but it places a drag on domestic investment in productivity. Machinery and equipment are often imported and priced in US dollars, and become more cost-prohibitive for domestic firms. A weak loonie may attract more foreign investments, but it comes at the cost of reducing domestic investment in productivity. An issue that’s already reached a crisis, according to the Bank of Canada.
Canadian Dollar Plunges To One of The Weakest Levels On Record
The loonie has taken a historic bloodbath typically only seen during a deep recession. Today’s market opened with US$1 worth C$1.444 (C$1 = US$0.69), marking the weakest loonie since 2003. It’s worth noting that CAD has only spent roughly 4 years this weak (or worse) in the past 40+ years. Nearly two generations have only briefly seen this level of weakness.
Source: Trading View.
Canada’s Economy Is Significantly Weaker Than The US
There are many reasons behind the weakness, with yesterday’s move driven by the FOMC, aka the US Federal Reserve (the Fed). Yesterday, the Fed slashed rates by 0.25 points and signaled to the market that further rate cuts may not be needed. A robust economy with low unemployment and re-accelerating inflation doesn’t require stimulus.
The Bank of Canada (BoC) made a very different move a few days prior. Canada’s central bank made a “supersized” cut to its key interest rate, a move typically only reserved for serious economic emergencies. That sent mixed signals to the bond market, which now has very different trajectories forecast for inflation and thus yields.
“Rate spreads, which drive the vast majority of performance, have widened drastically, and a more hawkish Federal Reserve dot plot only hurt sentiment further,” explains Robert Kavcic, senior economist at BMO.
Adding, “It’s a good thing Tiff & Co. communicated toward a pause last week.”
The bank also sees “political uncertainty” as a driving force around trade and parliament. The US tariff threats are unlikely to be fully realized, but uncertainty remains until the issue is resolved. In any case, even a relatively minor policy change would hit the Canadian economy.
A strong currency also requires strong leadership, and the world isn’t sure that Canada has it. “This week’s surprise resignation by the Finance Minister just reinforces the fragility of the current parliament,” explains Kavcic.
It didn’t help that a less-than-flattering Fall Economic Statement followed the Finance Minister’s resignation. Political factions may think this is debatable, but the market doesn’t. They see a lack of clarity on where the country is heading.
Since oil is typically priced in USD, exports tend to help bolster the currency’s strength. “Oil prices have been neutral through this latest selloff, but aren’t the driver of the Loonie that they once were,” explains the bank.
Ultimately, the issue boils down to the fact both economies are very different, despite what many think. Bluntly put, the US economy’s focus on productive investment is paying off with a stronger economy. Canada doubled down on non-productive investment and household credit expansion, a short-term solution that’s led to a much higher unemployment rate and cost of living—which is a deadly setup for most economies.
English (US) · 