Saturday, November 03, 2007

Tracking the Loonie 2

By Michael J.W. Stickings

(Tracking the Loonie 1, with links to previous posts, is here.)

On the one hand, we rock. On the other hand, this is getting rather worrisome, no matter how proud and patriotic it makes us feel:

The loonie hit a record Friday, jumping 2 full cents after a stronger-than-expected jobs report dimmed the odds of an interest-rate cut.

The Canadian dollar, already the world's best-performing major currency this year, rose as high as $1.0717 (U.S.) Friday from Thursday's close of $1.0512. It settled Friday's session at $1.0704, up 1.92 cents.

The currency has soared 25 per cent this year against the greenback — and almost 7 per cent in the past month alone. The gains are most striking against the U.S. dollar, but the loonie is also stronger against every single major world currency this year, including the euro, the yen and the Brazilian real.

The latest flight took place after a report showed the economy added 63,000 jobs, far more than expected, sending the jobless rate to a 33-year low.

So -- an all-time high, or at least since records have been kept. Some currency analysts are setting a target of $1.10 -- and, not being a currency analyst myself, I have no reason to disbelieve them. However, some analysts, perhaps some of the same ones, are predicting that our dollar will fall back to parity, or perhaps just below it, in the second half of next year -- and, for all I know, they may be right, too. In other words, the Loonie may go up in the short-term, but it is, it would seem, overvalued, and a long-term (or medium-term, whatever) readjustment is likely.

The Canadian economy is exceptionally strong at the moment, but the strong dollar is hurting our export industry, among other industries that depend on foreign investment, or the inflow of foreign capital, such as tourism. And because of the employment situation alongside the strong economy, an interest rate reduction, which could force a currency readjustment, is unlikely over the short-term.

And yet, to a certain extent, the strength of both our economy and our currency is fragile. Employment gains have not come in private industry but in the government and social service sectors. And the rise of the Loonie owes a great deal to a similar rise in the price of oil.

All of which puts the Bank of Canada in a difficult position. What to do? What to do?

Sometimes, strength is a mask for weakness. Sometimes, it is a double-edged sword. I won't take anything away from what is genuinely a robust economy, one of the world's strongest, but good news is not always what it seems.

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