House of Commons CANADA Standing Committee on Finance FINA Ï NUMBER 004 Ï 2nd SESSION Ï 39th PARLIAMENT EVIDENCE Wednesday, November 21, 2007 Chair Mr. Rob Merrifield Also available on the Parliament of Canada Web Site at the following address: http://www.parl.gc.ca 1 Standing Committee on Finance Wednesday, November 21, 2007 Ï (1530) gets all the tighter as hedges run their course and contracts come due [English] for negotiation. The Chair (Mr. Rob Merrifield (Yellowhead, CPC)): I call the So what's driving the loonie? The first answer, of course, is the U. meeting to order. S. dollar, which peaked in trade-rated terms—that's from the U.S. This is our second meeting on the rapid rise of the Canadian dollar perspective—in 2002. I put a figure in front of you, and I believe it's and its impact on Canada. been distributed; thank you very much to staff. Spring 2002 is the peak of the purchasing power of the U.S. dollar in terms of world We'd like to welcome the witnesses to this committee. We have goods. Since then the U.S. dollar has edged steadily downwards two sessions. We are a little bit limited in time because of the bells through October 2007, losing roughly one-sixth of its purchasing and votes this afternoon, so we'll try to accelerate the proceedings as power in world markets. fast as we possibly can. This was predicted by many folks, and those predictions were We have with us the C.D. Howe Institute, the Canadian Centre for made clearly correct when savers and investors more recently cooled Policy Alternatives, the Centre for Spatial Economics, Centrale des their desire to hold U.S.-dollar-denominated securities. It had been syndicats démocratiques, and Confédération des syndicats natio- their previous willingness to hold U.S.-dollar-denominated securities naux. that held up the greenback in the face of remarkable stress on the U. We want to thank you for coming. We will yield you the floor at S. economy. Consider, if you will, that for calendar year 2007, the U. appropriate times and introduce you by name. S. merchandise and trade deficit will come in at nearly $800 billion. So the necessary balance of payments implication is that savers in We'll start with Finn Poschmann. The floor is yours. You have five the rest of the world need to send in about $2 billion a day in capital minutes. flows to the U.S. market in the form of portfolio stock and bond purchases or direct investment. As a matter of balance of payments Thank you. arithmetic, those flows must balance, and in a floating exchange rate [Translation] environment the currency will adjust until it does. So the first part of Mr. Finn Poschmann (Director of Research, C.D. Howe the story, of course, is a U.S. dollar story. Institute): Good afternoon Mr. Chairman and members of the It's no surprise that Canada's tight trade alignment with the U.S. committee. should expose our producers to U.S. currency risk. What is new is [English] the pressure on Canada and the world demand for commodities, energy in particular. I have a figure that shows what's happening in It's terrific to be here with a new Parliament. Thank you very energy markets and in commodities excluding energy, and you will much for having me. see a tremendous recent run-up in energy as distinct from other [Translation] commodities. My institute's policy analyst, Robin Banerjee, estimated what we fondly call the Bank of Canada equation, which I will be addressing you in English, shows that we are indisputably in possession of a petro loonie. This [English] means that after accounting for the interest rate differential between Canada and the U.S. and the price of other commodities, changes in going forward. the world price of energy explain most of the price path of the So on the loonie, the loonie has been flying high, stalling and loonie. falling, and flying high again, and Canadians have been asking non- stop, and are asking me non-stop, what is steering its flight, whether So energy prices and investor doubts about the outlook for the U. it's a problem, and if it is, what to do about it. S. economy explain much of the positive stress on the loonie. There is more, of course. Investors in the U.S. who are doubtful about the These are huge issues, and pointed ones for manufacturers and U.S. dollar outlook might choose to bet on the oil price as a hedge, others who sell into the world markets and bear costs that are priced right? They're going to buy oil futures. That would exacerbate the in local dollars but whose purchasing has not actually increased at upward pressure on the oil price, and on Canada's currency in home. This is the classic price-cost squeeze for exporters, one that particular. 2 FINA-04 November 21, 2007 How big a problem is all this for the Canadian economy? Clearly, As I said, the underlying factors are oil prices, but I think one for many Canadians this is a good news story, if not for businesses should be concerned about the speculative elements as well. I'm one selling into the U.S. market. There are bright spots, and this goes who actually supports the idea of a floating rate. I'm not pushing for beyond observing a trade that's been growing well in other markets. fixed, or pegged, or further integration, in any sense of the word. I do StatsCan figures from a couple of weeks back show that Canada's think there is some concern right now with the volatility. It does trade with economies other than the U.S. has been growing quite impact on decisions, and it impacts on the bottom line for a number sharply. So not everything is bleak. Of course, we are hugely of Canadian firms. dependent on the U.S. for our trade market, so that still is, as I say, a huge issue. In terms of how to address a problem that is of most concern to the manufacturing sector of central Canada, I have some data. At its The other bright spot I mentioned is that the price of oil is a good peak in 2000, we had manufacturing as a share of total employment hedge on the U.S. dollar. This helps Canadian manufacturers for at around 15.5%; it is down to about 12% right now. It has been whom energy is an important input. The rising loonie helps reduce or going down in a fairly substantive amount over a fairly short period. helps stop energy costs from rising as much as they might have been One should be concerned about what the economists have for Canadian producers. Otherwise, life would be a little more traditionally referred to as a kind of Dutch disease that is afflicting difficult than it is now. our industry. The other point is that the same strong purchasing power abroad makes capital equipment more affordable than otherwise, and this If indeed this sort of Dutch disease is impacting quite negatively puts in place the conditions for investment in plants and resources on much of our manufacturing sector, which I believe it is, there are that will make our labour force more productive, underpinning future certain things that ought to be done. I would like to propose that we job and wage growth in a non-inflationary environment. have a three-pronged approach on this. That brings me to my last point—what to do about the dollar. The One is that monetary policy is essential here. By that I mean that government and the Bank of Canada's agreement on the inflation interest rate policy should be addressed. A lot of people, especially targeting framework is an extraordinarily valuable thing. Clarity of from the manufacturing community, have been yelling and purpose helped keep financial markets stable, if not predictable, screaming about that. I think it's certainly of concern, especially in when the loonie hovered around the 60¢ mark, and so too will it help light of what I'm going to tell you right now. clarify thinking as we adjust to near parity. We have an extraordinarily resilient export sector, which, while under pressure If you look at certain indicators, for example, the overnight rate in in many markets, also possesses the skills and tools to respond Canada, which is pretty much under the control of the central bank, smartly to that pressure. I have no doubt that they will and that we when you adjust for inflation, in 2006 the CPI had reached a bottom. will succeed in doing so. It was pretty much like that until about the summer of December Ï (1535) 2007, with a gap vis-à-vis the U.S., which is the federal funds rate The Chair: Thank you very much. We appreciate that. adjusted for inflation, of about 50 basis points, so 0.5%. We'll now move on to Mario Seccareccia. It stayed like that for a while, but since the summer it has shot up, Prof. Mario Seccareccia (Full Professor, Department of and in the opposite direction. Now we're above the U.S. rate in the Economics, University of Ottawa, Canadian Centre for Policy order of about 87 basis points. Surely there's some room to Alternatives): Thank you. manoeuvre here, especially if you look at the inflation rates in the two countries.