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Globe and Mail
26-05-2025
- Business
- Globe and Mail
The loonie's free-floating exchange rate should soften the blow of Trumpian trade chaos
Drowned out by the din from Donald Trump's tariff war is a second front in the president's obsession with eliminating his country's trade deficit: the U.S. dollar. Some of the administration's advisers want to devalue the greenback to bring manufacturing back to the U.S. Others want to reduce the dollar's role as the world's reserve currency. According to the IMF, the greenback accounts for almost 60% of all foreign currency reserves held by international central banks and other financial institutions. (A Belgian-American economist named Robert Triffin predicted this phenomenon in the 1960s, when he theorized that a country whose currency is used as a global reserve tends to have systemic trade deficits.) Regardless of whether the logic behind Trump's tariff-plus-dollar-devaluation strategy, dubbed the 'Mar-a-Lago Accord,' is economically sound, the question for Canadian policy makers is this: What are the implications for the loonie? After all, for a country that still depends on U.S. exports and a low Canadian dollar to power international demand for our goods, the Mar-a-Lago Accord poses what seems like an existential threat to the loonie, that (undeserved) butt of countless Canadian jokes featuring 'Monopoly money' in the punchline. For years, the Bank of Canada's approach has been to let the exchange rate float so it serves as a shock absorber against all manner of body blows, from roiling commodity prices to, well, trade wars. How does that work? Say next year's FIFA World Cup creates a surge of a million visitors to Toronto, all of whom buy Canadian dollars to spend here. This demand for Canadian dollars increases the loonie's value. Here's the shock-absorber part: The higher dollar will dampen that tourism to bring demand more in line with supply. 'Whenever you have a flexible exchange rate, it smooths the economy, so the economy is much more stable than otherwise would be the case,' says Walid Hejazi, a professor of economic analysis and policy at the University of Toronto's Rotman School of Management. Consequently, Canada's foreign currency reserves—a tool that some countries use to intervene in global markets to defend the value of their currency—tend to be low. Currently, our reserves stand at about US$126 billion, or roughly 5% of GDP, compared to an average of about 13% for other advanced economies. Heck, we don't even have a stash of gold bars. 'In contrast to some other central banks, the Bank of Canada doesn't hold a large war chest of reserves to keep the Canadian dollar from fluctuating against the U.S. dollar,' says Timothy Lane, a visiting professor in the Max Bell School of Public Policy at McGill University and a former Bank of Canada deputy governor. In fact, Canada hasn't intervened to stabilize the Canadian dollar for more than a quarter-century—neither during the 2008 credit crisis nor in the early days of the COVID-19 pandemic. Even now, with Trump's perverse threat to kneecap our economy to eliminate a trade deficit caused almost entirely by the inexpensive Alberta crude we ship to refineries in Illinois, the Bank of Canada has kept its foreign-reserve powder dry. 'The effect of the tariffs,' says Lane, 'is probably largely going to make our products less competitive, and some of that is going to be counteracted by the effect of a weaker Canadian dollar.' Hejazi says the Bank of Canada does have options. It could, for example, fix the exchange rate to the U.S. dollar—a move that would likely be politically untenable and, more to the point, relinquish control. He points to the BoC's spring interest rate cut, which contrasted with the U.S. Federal Reserve's unpopular decision to stand firm. 'If you have a fixed exchange rate, you lose flexibility,' Hejazi says. 'That would make us even more vulnerable to people like Donald Trump.' Some central banks take a Goldilocks approach, intervening in currency markets to manage their exchange rates within a desired band. For example, during the Obama years, China faced intense criticism about the artificially low value of the renminbi (a.k.a. the yuan) and allegations of currency manipulation. Chinese central bankers eventually responded by allowing the renminbi to appreciate, meaning more imports, but no more than 5% per year. 'What they were trying to do,' Hejazi notes, 'was get their businesses to adjust to this new reality.' With a central banker as prime minister, it seems unlikely that Canada will depart from an approach that has worked well (including when Mark Carney was head of the BoC). Yet Canadian policy makers have to contend with not just a new era of extreme uncertainty, but an administration that sends out wildly contradictory signals. Trump wants to vanquish the U.S. trade deficit, Lane notes, but is not prepared to allow the U.S. dollar to be dislodged from its prestigious role as the world's default currency. 'On the one hand, they want the U.S. to remain the dominant world currency,' he says. 'On the other hand, the logic of being the dominant world currency is that other people have to want to hold it, and for other people to be able to hold it, they have to get it. And the way they get it is by selling stuff to the U.S. and getting paid for it in U.S. dollars.' Indeed, at an IMF/World Bank conference held in April, U.S. Treasury Secretary Scott Bessent—who seems to have become the meat in Donald Trump's sandwich—was asked point blank whether the dollar's pre-eminent status was a privilege or a burden. 'I actually am not sure that anyone else wants it,' Bessent reportedly said, according to The New York Times. The Financial Times cast the question more starkly: 'Can the dollar remain king of currencies?' Hejazi stresses that while a floating loonie provides a necessary cushion against Trumpian chaos, the policy is not, in and of itself, sufficient. Like many other observers, he argues that the Canadian government needs to get serious about diversifying our international trade and bolstering private-sector productivity after decades of under-investment. He recently completed a paper, to be published later this year in Canadian Public Policy, showing that during the run-up of the Canadian dollar in the early to mid-2000s, the firms that prospered had invested in R&D to create more innovative and distinctive goods that still found offshore customers, despite the high dollar. There's a curious footnote to all the psychodrama about the U.S. dollar in the Trump era. Over the past several years, the Canadian dollar has quietly become more widely held in international currency reserves. These days, according to the IMF, it's sixth in terms of the size of all foreign reserve holdings, after the U.S. dollar, the euro, the yen and the pound, but ahead of the renminbi—despite the fact that China's economy is many times larger than ours. 'We're not a large economy,' Lane points out, 'but we still have some features that make for a good reserve asset. We have a pretty open financial system and reasonably liquid financial markets. We have the rule of law. We have a pretty stable political environment. We have a fairly predictable regulatory framework.' In short, in a world that's watching aghast as the U.S. scores one own-goal after another, our free-floating loonie looks a bit more like the safe currency harbour that the greenback was for all these decades. Maybe it's time to pack up the Monopoly money jokes, once and for all. Your time is valuable. 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Times
12-05-2025
- Business
- Times
The US may use the dollar but that doesn't mean it can control it
In 1960 Robert Triffin, an American-Belgian economist, testified to the US Congress about the impending implosion of the world's monetary system. More than 15 years into the Bretton Woods era, Triffin told the politicians that the arrangement of pegging global currencies to the dollar, which was backed by gold, was inherently unstable. This was because of a growing surfeit of US dollars in the world economy, which was outstripping the value of US gold holdings. To correct the imbalance the US could shrink its balance of payments deficit, but this would force the world economy into a deflationary spiral. Alternatively, the glut of dollars could continue but this would slowly erode confidence in America and cause a run on the greenback. A decade later, Triffin
