by Kenny Fisher
The Canadian dollar looked sharp as we began 2013, but struggled badly late in the year, as the currency lost about five cents against the U.S. dollar in Q4. The Canadian currency began the year close to the parity level, but tumbled to three-year lows in December, as USD/CAD broke above the 1.07 level. The pair ended a disappointing year above the 1.06 line.
Movement of USD/CAD in 2013:
2013 Open - 0.9930 (January 1)
2013 Low - 0.9815 (January 11)
2013 High - 1.0737 (December 20)
2013 Close - 1.0645 (December 31)
Monetary Policy Decisions of the Bank of Canada:
There wasn't much movement from the Bank of Canada during 2013, as the central bank maintained the benchmark interest rate at an even 1.0%, where it has been pegged since 2010. With no movement on the rate levels, analysts focused on the bias in the Bank's monetary statements and economic projections. Under the stewardship of governor Mark Carney, the Bank presented an optimistic forecast regarding the economy and indicated a tightening bias in its monetary policy, leading the markets to believe that an interest rate hike was not far off. However, as the economy continued to show substantial weakness during the year, this "optimism bias" was removed by the new governor, Stephen Poloz. Instead, the central bank has adopted a "wait and see" attitude and adopted a neutral position regarding which direction interest rates will move.
What to expect in 2014:
The BOC says that it expects Canadian GDP to grow by 1.6% in 2013 (revised downwards from 1.8% in August) and that growth will jump to 2.5% in 2014 (revised lower from 2.8% in August). Inflation is projected to gain 1.1% in 2013 and increase to 1.8% in 2014. The figures are below the Bank of Canada's inflation target of 2.0%. However, some analysts say that if the global economy improves, we could see inflation push above the 2% threshold late in 2014.
The Canadian dollar did not impress in 2013, losing about 6.4% of its value against the U.S. currency. The loonie could continue to lose ground in 2014, with some analysts predicting that USD/CAD will push as high as 1.11. With the Canadian economy underperforming and the Federal Reserve starting its long-awaited QE taper in January, we can expect the Canadian dollar to remain under pressure in the new year.
Events in 2013
The Bank of Canada made a change at the very top when governor Mark Carney took over the Bank of England in July. He was replaced by Stephen Poloz. Under Carney's forward guidance policy, the Bank had maintained a tightening bias, leading markets to believe that the Bank would be raising interest rates. Under Poloz, the BOC dropped its tightening bias and instead adopted a neutral stance as to what monetary moves it would make. This hurt the Canadian dollar, which no longer benefited from an expectation for a rate hike.
In the U.S., the Federal Reserve announced in December it would begin tapering its QE program by $10 billion a month, commencing in January. This will reduce the Fed's asset purchases to $75 billion every month, comprised of $40 billion in Treasuries and $35 billion in mortgage bonds. The announcement came as somewhat of a surprise, as most analysts had expected the Fed to hold off on any QE reductions until early next year.
In its dramatic tapering announcement, the Federal Reserve was careful to separate tapering from rate hike expectations. Fed chairman Bernard Bernanke stated that interest rates are likely to remain low even after the unemployment rate drops below 6.5%. Previously, the Fed had stated that it would start to consider rate increases when unemployment fell below this level. Bottom line? With the U.S. unemployment rate at 7.0%, it could be a while before we see higher interest rates in the U.S.
Earlier in the year, Republicans and Democrats held the government hostage and played a dangerous game of brinkmanship that almost resulted in a sovereign default by the United States for the first time in its history. After weeks of finger pointing and political brinkmanship, Congress finally got its act together and voted to fund the government and raise the debt ceiling. The shutdown, which lasted for over two weeks and temporarily threw hundreds of thousand of federal employees out of work, is estimated to have cost the economy $24 billion. The cost of the debt crisis is harder to quantify, but has certainly eroded faith in the U.S. economy. This was underscored by a warning from Fitch Ratings, when the agency put U.S. debt on a negative watch. Fitch stated that the crisis had cast doubt over the credit of the United States and had undermined confidence "in the role of the U.S. dollar as the pre-eminent global reserve currency". The Republicans were the losers in this episode, as they failed to obtain any concessions regarding the Obama Health Care Act and were blamed by most of the public for precipitating an unnecessary political and fiscal crisis.