With the loonie already sputtering this year, Chrystia Freeland’s surprise resignation as the finance minister was the last thing the Canadian dollar needed.
For the first time since the early days of the global COVID-19 pandemic, the Canadian dollar dipped below 70 cents (U.S.) this week, in the wake of Freeland’s scathing resignation letter, which left the government reeling, and left opponents — including some Liberals — calling for Justin Trudeau to step down as prime minister.
It was the last thing the loonie needed, said Shaun Osborne, chief currency strategist at Scotiabank.
“Markets absolutely hate uncertainty,” said Osborne. “And this is more uncertainty at a time when there were already a lot of headwinds against the Canadian dollar.”
The loonie started out 2024 at 75.10 cents (U.S.), and had already taken a beating since the Bank of Canada started cutting interest rates. This week, Freeland’s resignation knocked it even further down. By 11:30 Wednesday morning, it was trading at 69.79 cents (U.S.)
U.S. president-elect Donald Trump’s threat to impose a 25 per cent tariff on Canadian imports is another source of damage to the loonie’s prospects, said Osborne.
“Trade wars are bad for open economies that depend on trade, and we’re one of them,” said Osborne. “There’s a weak economy, aggressive easing by the Bank of Canada, the threat of tariffs by our largest trading partner, and now uncertainty over the government.”
With interest rates higher in the U.S., investors looking for better returns park their money into U.S. investments, fuelling demand, and price, of the greenback, CIBC chief economist Avery Shenfeld explained.
“It’s the flow of funds. People are looking for those higher yields,” said Shenfeld. “They just look more attractive.”
The Bank of Canada’s key overnight rate was cut five times in 2024, to its current 3.25 per cent from five per cent.
The U.S. Federal Reserve’s fed funds rate — the American equivalent to the Bank of Canada’s overnight rate — is currently set at a range of 4.5 to 4.75 per cent, meaning the spread between Canadian and U.S. rates is as high as a 1.5 percentage points.
A year ago, before the Fed and the Bank of Canada started cutting to stimulate their respective economies, the overnight rate was at five per cent, and the Fed Funds rate was set at a range of 5.25 to 5.5 per cent, meaning the spread was as low as a quarter of a percentage point.
The Bank of Canada raised interest rates 10 times between March 2022 and last summer in a bid to wrestle inflation down to its two per cent target. Inflation peaked at 8.1 per cent in June, 2022 as the Canadian economy opened up from COVID-related restrictions. In October, Canada’s annual rate of inflation was at two per cent, right in the middle of the Bank’s one to three per cent target range.
The theory is that by making it more expensive to borrow money, consumers and businesses will spend less, driving down prices and slowing the economy.
Now, as the economy slows and inflation has been heading mostly downward, the Bank is taking the reverse approach, trying to stimulate growth by cutting rates.
