More Bad News for the Canadian Dollar?
The Federal Reserve has finally made good on its long-pending, albeit implicit, promise. At last, rates have been raised for the first time in almost a decade. So, what happens to the CAD to USD exchange rate? The Canadian dollar collapse is finally upon us.
Frankly, it doesn’t take an economics major to this figure one out. A rate hike in the U.S. simply means that investment dollars will start a flight out of Canada, heading south and translating into more demand for the U.S. capital and less for the Canadian dollar. The result? The “loonie” tanks! This is what the basic demand and supply mechanism predicts, albeit it’s not as simple as it seems.
This Could Send the CAD/USD Exchange Rate Plunging
The problem is truly magnified when you factor in all of the implications of the Fed’s recent decision on Canada’s economy.
Canadians must remember the good ol’ days, when the loonie was at par with the greenback. Today, it’s hitting lows not seen in over a decade. However, the rate hike is only one part of the picture; the disparity owes itself to a lot more than that.
Historically, rate hikes have not always translated into a strong dollar. Rate hikes of the late 80s and early 90s initially led the dollar downward. Even in the early 2000s, rate hikes didn’t initially bode well for the dollar. Practice has often refuted economic theory, so predicting the dollar movement was almost impractical.
Chart courtesy of StockCharts.com
But the Canadian dollar’s relative performance with its U.S. counterpart was relatively easy to predict. This is because of the evident current situation of the Canadian economy, which is why it won’t be wrong to say that the market started to factor in the rate hike three months ago, when the probability became almost certain.
If we were to single out the rate hike factor, the Canadian dollar wouldn’t have fared so poorly. The appreciating U.S. dollar, by itself, bore a good sign in some ways. Take, for instance, the Canadian companies that make a lot of their money in the U.S. Although only a handful in number, these companies will certainly report better numbers at home after repatriating profits from a more expensive USD to a cheaper CAD.
The Bottom Line for the Canadian Dollar
In other words, every dollar earned in the U.S., when brought back to Canada, will now convert into more Canadian dollars. Of course, as the Northern trading partner’s currency loses strength, it will become cheaper for the U.S. to step up its imports from the North.
The only problem is that Canada doesn’t have much to offer except commodities and resource prices are already getting crushed.
Chart courtesy of StockCharts.com
Natural resources have seen a decline. The Canadian exports of minerals and metals have been lackluster. The result? Canada is moving from the long-cited “technical” recession to almost a depression.
You can gauge the seriousness of the matter from the fact that while the U.S. is hiking rates, citing an improvement in economy, right next door, the Bank of Canada is considering negative interest rates. Yes, negative!
The analysts often throw around a lot of financial mumbo-jumbo, but even the average Joe can understand the implications of this rate hike. If I were to keep my outlook modest, without scaring my readers of an impending crash, I’d still say the future for the loonie looks bleak from where I stand.