Exchange rates say Canada should be in recession…so why aren’t we?

The USD/CAD currency pair reserves a special place in our hearts—and our pockets. The relationship between the greenback and loonie influences American investment in our country, our exports to the US and many other countries.

The pair also affects our imports from the US and around the world, our cross-border shopping, including for real estate properties in southern states such as Florida, Arizona and California. The USD/CAD currency pair indirectly influences our employment level and our income.

The currency pair is on the move these days, due to a shift in fundamental and technical factors that have always influenced the relationship. However, in recent years, we’ve become more concerned about the value of the Canadian dollar and its impact on our economy and standard of living.

Due to our exporting relationship with the US, we’ve always used our southern neighbour’s economy as a buffer to weather the tough times. In the last 50 years or so, the USD/CAD pair has played a significant role in signalling where we are in the economical cycle.

Economic indicators such as high levels of unemployment, low corporate profits, high labour costs and low interest rates were a sign of tough times approaching for Canadians. The downturn was also signalled by the USD/CAD pair passing its range of $0.88 to $0.86 CAD/USD.

Using a simplistic point of view, when the exchange rate of the CAD/USD pair moved from higher levels down to about 0.88 to 0.86, Canadians knew the recession was coming. With the continuing recession, exchange rates went down to levels between $ 0.76 and $0.62 and stayed there a while, before leading economic indicators started to signal a recovery in our economy, pulled up by significant growth in the US.

The pair fluctuated from levels of $0.88 to $0.94 in the middle of March to the beginning of July 2014. Considering interest rates remain at their lowest levels, we should be approaching a recession, with lagging indicators clearly pointing to declining economic activity.

The question is: why aren’t we in a full recession?

Exports improve
Simply put, our economy improved after the decline of the loonie, from $1.04 CAD/USD in September 2012 to $0.88 at the end of March 2014.

When specialists evaluate currency positioning, they pay special attention to two major positions—the international trade balance and the international investment position.

The international trade balance is the difference between exports and imports, while the international investment position points to the difference between Canadian investment abroad and foreign investment in Canada.

The financial crisis in 2008 affected our trade balance significantly. In 2009 and 2010, our trade balance was about $-6.7 billion and about $-9.7 billion respectively. However, in 2008 our trade balance was approximately $43.7 billion.

In other words, we were doing fine until the financial crisis hit. In 2011 we temporarily improved our situation and posted a positive balance of $753 million. Unfortunately, in 2012 and 2013 we posted negative balances of about $-12 billion and $-7.3 billion respectively.

In 2012, we slid from a positive trade balance. That’s why the Bank of Canada started to gently lower our loonie in comparison to the greenback in September of 2012. It took the Bank of Canada about 19 months to lower our currency.

Considering the characteristics of the USD/CAD pair during the loonie slide, the Bank of Canada has exercised a perfect strategy in a very complex international Forex environment. If we consider more recent data ranging June 2013 to June 2014, we clearly see the situation is improving.

We posted exports of about $40 billion and $45 billion respectively. It means our exports have posted a healthy growth rate of 13.4 per cent between these dates.

From the other side, imports have grown from roughly $40 billion to about $43 billion respectively—substantiating growth of only 8.7 per cent. The recent data concludes we’re increasing our exports while decreasing our imports. Our dollar has also reacted to the good news and grown in value, up to about $0.94 in the middle of July this year.

Despite the low interest rates pointing to recession, our economic recovery—spurred by the dip in the Canadian dollar—is fostering healthy exports and a good international trade balance. The situation places manufacturers in a slightly improved position.

Darek Wozniak is president of JW Investrade , a currency exchange consulting firm in London, Ont. For more information visit www.jwinvestrade.com

—How is the currency pair impacting Canada’s exports and resources? Watch for Darek’s posting next week.