Weak U.S. Economy Should Negatively Impact the Loonie

The euro has risen nearly 7% versus the U.S. dollar so far in 2008 (the yen is the only major currency to gain more against the greenback), and has climbed more than 18% in the past year. However, the euro has been meeting resistance at $1.58 in recent weeks and has been unable to break through decisively, according to National Bank Financial.

As a result, the euro has either peaked or is very close to doing so, chief economist Clément Gignac told clients in a note. One of the reasons behind this forecast is the expectation that the European Central Bank will have to follow the U.S. Federal Reserve in cutting interest rates, which it has done more sharply in the past six months than ever before. The Fed has slashed the fed funds rate by three percentage points to 2.25%, while the ECB has kept its rate unchanged at 4%.

Mr. Gignac said:

The Fed may ease a bit more, but all signs suggest that the end is near. And with the U.S. trade deficit showing strong improvement, it is monetary policy that now seems to be calling the tune of exchange-rate movements.

As for the Canadian dollar, he points to IMF forecasts for global growth of just 3.7% in 2008, with a 25% chance that it will dip below 3%. If growth falls below the long-term trend, demand for commodities will be affected as well as for cyclical currencies like the loonie and Australian dollar, National Bank predicted.

Canada will also see a greater impact from the U.S. recession, the market for 30% of its GDP, Mr. Gignac said, adding that the “loonie will thus face multiple cyclical headwinds in the months ahead.”

He also noted that the loonie has shown no identifiable uptrend for the first time since 2003. Nor has the currency once branded a “petrodollar” gained from the rising price of crude oil in 2008. And cyclical factors are to blame as “investors who see a slowdown coming will want to shrink their exposure to Canadian currency,” Mr. Gignac said.

Comments

[sandyb:]

This author is forgetting that Canada with its massive natural resources has more than oil & its export are broadening to India, China & other countries which may forestall a weakening of the loonie. As a part time resident of Canada, we see an endless progression of trucks & trains laden with lumber, coal, nat gas etc which is not likely to lessen anytime soon & lets not forget the massive amount of grains they produce. They have a SURPLUS in their budget every year & its not caused exclusively by what the US is buying, but what the international community is buying also.

2008 Apr 12 11:57 AM