Canadian dollar's plunge could help Canada weather economic slowdown

By Kristine Owram, The Canadian Press

TORONTO - A number of factors combined to push the Canadian dollar below 80 cents US for the first time in more than three years Wednesday, but experts say the plunging loonie could actually help Canada weather a global economic slowdown.

Canada's manufacturing sector suffered as the dollar soared above parity with the U.S. greenback over the past year, making Canadian goods more expensive for other countries and hurting export-based industries, the auto sector in particular.

Now its drop may help protect Canada's manufacturing heartland - Ontario and Quebec - from the effects of a worldwide recession.

"It will help, but to the extent that the weak Canadian dollar is also a symptom of poor global economic growth, it's more of a cushioning of the recession rather than a cure for it," said Avery Shenfeld, a senior economist with CIBC World Markets.

A lower loonie is not a cure-all for manufacturers, Shenfeld said. The Canadian economy is too tightly intertwined with its American counterpart - reeling from the continued financial meltdown - for the currency alone to reverse its woes.

Canada's dollar traded as low as 79.71 cents US Wednesday morning but pulled up later to 79.95 cents, still down 2.44 cents on the day. The loonie - which hit its all-time high of 110.31 cents US almost a year ago, last Nov. 7 - hasn't been below 80 cents since mid-2005.

The dollar is considered a commodity currency, meaning the decline in commodity prices caused by shrinking global demand - crude oil was down $4.29 to US$67.89 Wednesday afternoon after losing more than half its value since its high in July - is a major factor in the loonie's drop.

But the relative strength of the U.S. dollar against other major currencies is also having a major impact, said Steve Malyon, a currency strategist with Scotia Capital.

"It is a bit counterintuitive to have all this U.S. dollar strength, given that the subprime crisis started in the United States, but I think the key observation is that it started in the United States but it didn't stop there," Malyon said.

"It's sort of an ugly contest in global currency markets. The U.S. dollar doesn't look terribly great, but neither do a lot of other places."

In fact, the loonie has fared comparatively well next to some of its peers, said Malyon, losing about 18 per cent of its value against its U.S. counterpart since the middle of the year, while the New Zealand and Australian dollars have lost 22 per cent and 30 per cent, respectively. The Euro has seen a decline similar to that of the Canadian dollar.

The U.S. dollar has also been given a boost by investors eager to buy the currency to pay back debtors, said Shenfeld.

"Investors that had borrowed in U.S. dollars and are now seeing losses on their investments are attempting to pay back their loans and are buying U.S. dollars in the process."

Inflation is another persistent worry when the dollar drops, as goods imported from the U.S. and other countries suddenly cost more. But this time a global slowdown in demand combined with lower input costs should insulate the Canadian economy from inflation this time around, said Malyon.

"The decline in commodities has been far greater than the decline in the Canadian dollar," he said.

"When you net it all out, we have a fairly significant disinflationary pulse that's going to work its way through the economy."

Malyon added that this should allow the Bank of Canada to continue cutting interest rates, at least in the short term. The central bank lowered its overnight rate by a quarter point Tuesday after a half-point cut on Oct. 8 in an attempt to stimulate the economy by encouraging borrowing.

George Davis, a senior technical analyst at RBC Capital Markets, said he expects the loonie to continue its decline in the short-run.

"Until we see credit markets stabilize, which would also imply some sort of stabilization in commodity and equity markets, I think that's going to imply weaker days for the Canadian dollar ahead," Davis said.

But Shenfeld sounded a more optimistic tone.

"In the near term, the continuing turmoil on financial markets is going to put some downward pressure on the Canadian dollar, but we likely have room for a substantial recovery when the global economy is back on its feet," he said. "I wouldn't expect this to last that long."

http://ca.news.yahoo.com/s/capress/081022/national/loonie