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Canadian Dollar Reaches Parity with US Dollar Today

Canada's dollar reached $1.0001 this morning.  At its low point in 2002, the Canadian dollar traded for $0.6179.  According to an article in the Globe and Mail: "parity is the new reality."  This is because "The currency is riding a wave of popularity with investors as oil prices hit 18-month highs, economic releases top forecasts and expectations grow that the Bank of Canada will hike its key lending rate this summer, well before the U.S. Federal Reserve makes a move.... Add to that a stable banking system and a more solid fiscal position and 'it makes Canada stand out,' said Matthew Strauss, senior currency strategist at Royal Bank."  It is also good news for US investors that own Canadian dividend stocks.

Candian Dollar up against US Dollar

The Canadian dollar is nearing parity, with the US dollar again.  Click chart left to enlarge.  It is trading today at 0.983 cents, the highest level since summer 2008.  In the mid-1950s when the US was in a tough  recession, the Canadian dollar peaked at $1.061 (1957).  For most of the 1960s, the Canadian dollar was below $1 US, but when the US had another recession in the mid-70s it reached $1.0444.  It hit a low in 2002 at $0.618, only to rebound to $1.102 in late 2007.  The Bank of Canada produced a history of the Canadian currency exchange rate, beginning in 1858:

Canada's New Money Can Be Laundered

Because paper notes will be replaced with plastic.  Starting in 2011, the current paper notes (cotton based) will be replaced with synthetic polymer notes that will last significantly longer.  Similar notes have already been introduced in Australia.   From the Globe and Mail: "These far-hardier bills won't be indestructible - a flame is still a threat, for instance - but they will be virtually waterproof, meaning Canadians need worry no longer if their bank notes go through the washing machine by mistake."

The Demise of the Euro? Unlikely.

"Bigger tests than Greece"...The Financial Times has a front page opinion piece from George Soros on the the trouble with the Eurozone and its currency, the euro.  According to Soros, the root problem is one of design; a currency needs both a "central bank and a treasury." Of course the Eurozone has the central bank in the ECB, but there are at present 16 different treasuries.  The Greek treasury does not seem able to rescue the country's finances and there is no central EU treasury to do so.  Other member states, like Germany, are not keen on a bail out.  I personally think that, while there may also be financial problems in Italy, Portugal and Ireland, it is ultimately in the best interest of all the Eurozone countries to keep the union in tact.  Not doing so will be perilous to the currency, and that will hurt the prosperous states as well.  In the long run, I remain bullish on the euro.

Below is a historical graph of the euro-dollar exchange rate.  The currency hit bottom in October 2000, at  €1 = $0.84.  It reached a peak in July 2008 at €1 = $1.58.  The current exchange rate is €1 = $1.36.

Will the Pound and Euro Reach Parity?

The prospect seems likely.  The pound is currently trading at about €1.11, after previously reaching a low of €1.02, about one year ago.   If it does reach parity, it will create more diuffiulties for UK citizens paid in pounds, but paying thier mortgages in euros on homes in Spain, France or any EU member state.  Per the Financial Times, the root of the problem is Britain's £178 billion budget deficit:

"Douglas McWilliams, the chief executive of the Centre for Economics and Business Research, said that the British economy was walking 'five yards away from the edge of the cliff' and could be toppled by an “unexpected gust”...'If I had to bet, I would bet on the side of parity being broken,' said Mr McWilliams...“There is still a pressing need on whoever is Chancellor after the general election that is due by mid-2010 to be much more transparent on public spending cut details and tax rises in order to win credibility over the long-term recovery of the UK’s public finances,” said Howard Archer, chief UK and European economist at IHS.

US Dollar: Reserve Currency No More?

There is need for a new global monetary system, one that does not use the national currency of any one country (i.e., the US dollar), according to the UN Conference on Trade and Development (UNCTAD), in its September 7 meeting in Geneva.  A new global monetary system would help promote macroeconomic stability and "level the playing field for international trade."  If you remember, the BRIC countries called for a new global reserve currency earlier this year.  Per UNCTAD, the problems with the US dollar-based system include that it is:

"...dependent on monetary policy decisions by the central bank that issues that currency, decisions that are taken according to national policy needs and preferences; they do not account for the needs of the international payments system and of the world economy. Another disadvantage of such a system is that at times of current account disequilibria it imposes the entire adjustment burden on deficit countries...Only deficit countries that issue a reserve currency, as the United States, are under no obligation to adjust to growing current-account disequilibria."

The benefits of a global currency, according to UNCTAD would be the following:

What's in Store for the Dollar in 2008?

   New York Times recently had an article entitled: "Could It Be the Year of the Rising Dollar?"  The story is here.  The short answer is "No, probably not." The next Federal Reserve meeting is January 30 and 31.  Given the recent jobs report and the struggling economy, it is a foregone conclusion that the Fed will cut rates, and probably by 50 basis points. 

   Meanwhile, the ECB's Governing Council will meet in Frankfurt on Jan. 10.  It is widely expected that the ECB will keep its benchmark rate at 4 percent when it convenes.  This will move the dollar lower against the euro in the short term, likely breaking through the $1.50 level.  Inflation in the eurozone remains a problem.  In December it was 3.1 percent for consumer goods and producer costs were up 4.1 percent.  The target rate for inflation in the eurozone ios 2.0 percent. The money quote from ECB President Jean-Claude Trichet's January 5 meeting in Weisbaden was:  "The ECB's Governing Council stands ready to counter upside risks to price stability."  Translation: no near term rate cut and the possibility of increases.  The Bank of England is more likely to cut rates at its next meeting. The economy in Britain has been struggling with the many of the same credit issues as the US and there are mounting fears of a recession (although arguably, many of the problems were exported to Britain from the US). The results of the Bank of England meeting will be announced Thursday morning at 7 a.m.  The money quote from the minutes of the bank's prior meeting: "On balance, the Committee thought that the downside risks to the economy and inflation in the medium term from the deterioration in financial market conditions outweighed the potential upside risks to inflation from short-run cost pressures.  So while the pound may devalue wit the dollar in the short term, the euro is likely to go the other direction.

The Ever-Dwindling US Dollar

It is almost a foregone conclusion that the Fed will lower rates on October 31.  Either 25 or 50 basis points.  I think they will go 25, to leave some room for another cut, near term.  The European Central Bank (ECB) is poised to go the other direction, however. The ECB recently warned that it expects inflation to grow toward the end of the year, and inflation in the largest economy, Germany, was recently measured at 2.4%, well above the ECB's 2% target.  The next ECB Council meeting is November 8.

So what does all this mean for the US dollar near term (pictured above versus the euro)?

Five Economics Tests for UK and the Euro

According to HM Treasury, only one of Gordon Brown’s five economic tests (for the UK to go on the Euro) has been met.  Therefore “…a clear and unambiguous case for UK membership of EMU (the Euro) has not at the present time been made, and a decision to join now would not be in the national interest.”  The five tests really hinge on only two of the tests: economic flexibility and “convergence.”  The government’s argument is that everything else will fall into place if these two tests are satisfied, with the main concern being the low ECB interest rates, compared to those of the Bank of England. The rationale behind each of the tests follows after the jump, below. On the right, Bank of England. 

Bullish on the Euro

When you hold a currency, you are holding de facto shares in the "corporation that is that country."  The dollar continues to devalue against the Euro, partly because financing the US deficit through debt increases its risk.  In 2006, the US current account deficit was 6.5% of GDP.  In theory, interest rates need to increase to get investors to finance the deficit, but the Fed seems unlikely to do this now. Alternatively, lowering rates will decrease demand for the dollar and therefore its value.  When the Euro was launched in January 1999, the price of one Euro was $1.17 or £0.67; today it is $1.3436 and some countries prefer to hold reserves in Euros.  The EU’s Stability and Growth Pact limits its members’ current account deficits to 3% of GDP and long term debt to no more than 60% of GDP.  These fiscal limitations may prevent governments from capital spending to stimulate the economy during a recession, but they do promote a sound currency.  We expect the Euro to strengthen further this year and to rise above $1.36 by the end of summer, if the Fed leaves rates unchanged.  Importantly, a stronger Euro increases dollar returns on EU stocks.