Oil is soaring, and metal prices are at record highs. What normally pushes the Canadian dollar higher does not seem to have the expected effect. So what is the Canadian currency suffering from?
“The Canadian dollar currently appears to be undervalued, at less than US$0.79,” notes Desjardins economist Hendrix Vachon, who estimates that the Canadian currency should instead be somewhere between US$0.80 and 0. US$.85.
Looking more closely, the economist finds that the price of oil no longer has as much influence as before on the value of the Canadian currency. Canadian oil is selling for more, but the oil sector is no longer attracting as much investment, he says.
The big oil companies are more cautious in their investments, explains Hendrix Vachon during an interview with The Press. They have even less appetite for Canada’s bituminous oil, which costs more to produce and has a bad reputation, in addition to having problems transporting it to market.
The price of metals, especially iron and aluminum, is also rising sharply, “which would justify a stronger dollar than it is now”, given that Canada is a producer and exporter of metals, underlines Hendrix Vachon.
“Even if the value of our exports increases, we don’t see the expected effect on the dollar either,” he notes.
According to him, the relative weakness of the Canadian dollar can be explained by interest rate expectations, which are stronger in the United States than in Canada. “A currency with higher interest rates is usually going to be more attractive than one with lower rates, which is currently benefiting the US dollar,” he said.
All things considered, the Bank of Canada injected much more money into the economy than the American Federal Reserve to limit the economic repercussions of the pandemic, also observes the economist.
“This additional supply of Canadian dollars could explain a weaker exchange rate. »
The US dollar is finally benefiting from the growing uncertainty in the markets and the risks of an escalation of the conflict between Russia and Ukraine. “The US dollar is a safe haven, which the Canadian dollar is not,” notes Hendrix Vachon.
Cushion against inflation
A weak currency is generally an advantage for an exporting country like Canada, because it reduces the price of exported products on the international market. But in the current context of high inflation, when global demand is very good for Canadian products, Canada’s economy would benefit more from a stronger dollar, believes the Desjardins economist.
A strong currency makes it possible in particular to reduce the price of goods imported and paid for in foreign currencies, such as oil. “The exchange rate acts as a stabilizer which limits inflationary pressures”, specifies Hendrix Vachon. Desjardins economists have already calculated that a 10% appreciation of the dollar reduces inflation by 0.7%.
The other benefit of an appreciation of the dollar is that it allows businesses to import the equipment and technology necessary to increase their productivity at a lower cost.
“A stronger currency could make it easier for businesses to invest as they face labor shortages and strong demand. »
The Big Mac Index
Comparing the price of a Big Mac in local currency around the world is an unpretentious exercise that The Economist every year since 1986, to find out if the currencies are correctly valued. It indicates that the Canadian dollar would be undervalued by 8.4% against the American currency.