The Canadian dollar (CAD) has come under heavy pressure over the past few weeks in the wake of dramatic economic and financial developments, reaching a low of 68.1 US cents on Thursday, says a report released Friday by TD Economics.
“Investors flight to safety into $US-denominated assets and the dramatic decline in world oil prices have had a major impact on foreign exchange rates . . . The depreciation of the CAD has coincided with two related developments. The global economic outlook has rapidly deteriorated amid mounting concerns that the economic impact of COVID-19 could be deeper and more prolonged that originally envisaged,” said the report.
“The sharp decline in world oil prices resulting from the decline in global growth has been accentuated by the Russia-Saudi Arabia price war. The West Texas Intermediate (WTI) crude oil benchmark price closed at $20.4 per barrel on March 18th, surpassing the low of $26.2 reached in January 2016, before recovering to its current level around $25 (as of March 19th).
“While dramatic, these developments are not surprising given the CAD’s long-standing reputation. Crude oil currently has a weight of almost 50 per cent in the Bank of Canada commodity price index, up from 20 per cent in the late 1990s. The CAD has moved closely in line with world oil prices since about that time. The simple correlation suggests that the CAD will continue to trade at depressed levels if world oil prices remain at current levels (around $25 per barrel), similar to the situation in January 2016.”
The report said that In normal times, a 12 per cent depreciation of the CAD against the USD would be major news.
“These aren’t normal times, to be sure. The CAD has not been at the centre of the storm. On an effective basis (relative to Canada’s trading partners), the CAD has depreciated by 6.5 per cent year to date, while other commodity currencies, notably Norway, Brazil, Russia and Mexico, have depreciated by more than 15 per cent,” it said.
“With limited scope for monetary policy in many countries, fiscal policy will be called on to do the heavy lifting. From this perspective, the CAD stands to gain over the medium from Canada’s strong fiscal position. On the positive side, it is unlikely that the world price of oil will continue trading at current levels indefinitely. Breakeven prices based on operating costs for production of existing wells are well above current levels in most countries. Also, the USD is currently in high demand as a safe haven in the risk-off environment. As in past episodes, the heightened uncertainty will subside. Economic fundamentals will then play a more prominent role in the foreign exchange market.”
