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Our loony loonie was a pointless, destructive detour

From Monday's Globe and Mail

The retreat of Canada's once-mighty loonie gained stunning momentum in recent days. Our dollar had its worst week in four decades.

And by falling below 80 cents, the dollar passed through more than just a psychologically important round number. Our currency is once again officially "undervalued" in world markets. According to the experts at the Organization for Economic Co-operation and Development, the underlying fair value for our dollar (based on purchasing power) is around 80 cents (U.S.). Higher than that, and Canadian products look artificially expensive. (That's a major reason why 400,000 Canadian manufacturing jobs disappeared since the loonie took off in 2002.) By the same token, when the dollar's below 80 cents, Canada looks attractive once again as a destination for manufacturers, exporters and tourists alike.

The loonie's fall from grace is a silver lining to the financial chaos that has engulfed world markets. But it will provide little immediate relief to Canadian companies and factories. After all, the dollar's decline indirectly reflects the impacts of a global slowdown that is knocking the stuffing out of the markets for our products. We're once again highly cost-competitive — but nobody's buying.

Nevertheless, getting our currency back to sensible levels will make some difference in the dangerous days ahead. When global companies, grappling with a credit crunch and shrinking markets, start closing factories, Canadian plants suddenly look 20 per cent more appealing than they did in July. That will help some escape the axe, and aid our long-run recovery.

So the dollar's now back at a "normal" level (if there is such a thing for notoriously bipolar currency traders). Indeed, since 1975, our dollar has averaged 78 cents (U.S.), almost where it is now. We should reflect back on the roller coaster we've taken over the past six years: first rocketing up, then plunging down. Now that we're back where we started, what was that about, anyway? And more to the point, why did we let it happen?

The dollar's rise and fall reflected speculative financial pressures on two levels. World prices for resource commodities (especially oil) shot way up, partly due to strong demand but mostly because hedge funds were trying to profit from a new commodities bubble. Canada is a resource producer (though we shouldn't forget that resource industries account for a puny share of total employment and output), and so our loonie got carried along for the ride. Again, initially, there was some plausibility to the story: At first, our trade performance improved, and our resource companies were in hot demand (at home on the stock market, and globally in the eyes of foreign investors). But here, too, speculative markets badly overshot. There was no fundamental economic justification for our currency being anywhere near par with the U.S. dollar.

The key point is that neither the flight of commodity prices nor the corresponding flight of our currency was rooted in fundamental economic forces. Rather, they reflected fleeting, unsustainable, financial market pressures.

Yet, policy-makers endorsed the currency market's irrational exuberance as if it somehow constituted a legitimate judgment. The Bank of Canada celebrated the dollar's rise as proof we were "adapting to change." Finance Minister Jim Flaherty explicitly endorsed a dollar near par, toasting our so-called "fundamentals."

In retrospect, this was all nonsense. Our real fundamentals — our ability to efficiently produce high-value goods and services — were crumbling, while we hitched our wagon to the wild, pointless ride of our currency. Speculative greed has now turned to fear. The markets are likely to overshoot again, and we'll end up with a dollar that's artificially low (for a while, anyway). A two-year old kid is more rational and efficient than these markets.

In a 2004 report I wrote for the Canadian Auto Workers, I warned that, if the dollar stayed at or above 85 cents, Canada would lose 400,000 manufacturing jobs. And I predicted that, if policy-makers didn't moderate the currency (by cutting interest rates, limiting foreign takeovers, and other measures), it would eventually come crashing back to Earth — via a crushing recession in our non-resource export industries. Sadly, I was right on both counts.

One of the many lessons to learn from the current mess, therefore, is that we shouldn't trust speculators to determine the fundamental prices of our economy. We should make those decisions ourselves.

Jim Stanford is an economist with the Canadian Auto Workers union.

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