Here's two more articles by David bond.
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Is the Loonie a dead duck? Part I
Written by David E. Bond, Senior Consulting Economist to HSBC Bank
Canada, the Economic Bulletin is a weekly commentary on current
economic issues.
EB #99-031
Is the Loonie a dead duck? Part I
In academic circles there is a rather heated debate taking place about
the future of the Canadian dollar. In a recent publication from the C.
D. Howe Institute, Tom Courchene of Queens University and Richard
Harris of Simon Fraser University laid out the case for some form of
monetary union with the United States that would use a common
currency, not necessarily the existing US dollar.
The federal cabinet discussed the question during its recent two day
planning retreat. Although the Minister of Finance, during an
interview before that meeting, dismissed the question out of hand, the
question remains: Why even think about such a step? Many, though not
Quebec separatists, believe if you lose your monetary unit you lose
your sovereignty.
Courchene and Harris begin by enumerating all the problems that
result from the current flexible exchange rate system. Simply put,
imagine doing business where you have no certainty as to the final
price you will pay or receive when goods are paid for or sold. That in
essence is what is happening with our trade, which accounts for more
than 40% of all of our economic activity. When the exchange rate
changes, the landed price in either US or Canadian dollars changes for
one of the trading partners. Courchene and Harris state, among other
things, that by 1996 the international trade of the provinces were
about two and a half times the inter-provincial exports and growing
nearly a magnitude faster. Most of our trading takes place under
uncertain price conditions, hardly something to encourage the further
growth of commerce.
That uncertainty can be reduced with various strategies but they cost
money and therefore tend to discourage trade.
Were Canada to abandon its flexible exchange rate regime, the authors
believe it would have significant salutary effects, including:
1. It would give Canada a better chance of getting a fair share of
North American investment based on competitive advantage rather than
on size of market. Too often business makes a location decision in an
attempt to minimize the adverse impact of exchange rate fluctuations.
2. Our future will depend upon our ability to attract and retain
skilled human-capital employees in various highly mobile industries
within the North American market. When exchange rates get out of line
with fundamentals forces (and, they argue with reason, this has been
the case in the 1990s) those industries move to the bigger market to
avoid the problem. A fixed system would correct this.
3. They also point out that the lack within Canada of east-west
synchronization to business cycles raises the central issue of whether
or not Canada is an optimal currency area ? one where a common
monetary policy is desirable. They believe the evidence supports the
idea that external economic events tend to be north-south in impact
rather than east-west. Our degree of integration with the US exceeds
the degree of integration among the members of the 11 countries which
have adopted the Euro as their common currency.
4. It would substantially reduce both uncertainties and costs
associated with a floating dollar. Capital markets would be deeper
and interest rates spreads on government and corporate debt would be
reduced. Moreover, without exchange risk, Canadian equities would
become more attractive for foreign investors and consumers would have
better cross border price comparisons to formulate consumption plans.
Therefore, fixing the rate does have several attractive features and
the market seems to be heading that way whether or not we think it
wise.
Courchene and Harris detect an increasing tendency toward a defacto
fixed exchange regime in the advent of "market dollarization"
occurring in Canada ?quoting prices and maintaining books denominated
in the US dollar. Even though Canada has had stable prices and
responsible fiscal policy for the past two years, there has been
during that same time a substantial amount of variation in exchange
rates. It is to avoid the distorting impact these variations have on
earnings and costs that dollarization is taking place. This could
become even more widespread if the US dollar becomes the unit for "e
commerce" or if high level management insists on being remunerated in
US dollars .
Next week: How to get to the monetary union.
~
Economic Bulletin conomique, prepared by David E. Bond, Senior
Consulting Economist, HSBC Bank Canada, reflects his personal
observations and does not necessarily reflect the position of HSBC
Bank Canada or its board of directors. The Economic Bulletin
conomique is not intended to be a comprehensive review of all
developments nor is it intended to provide financial advice. Readers
should not act on information in Economic Bulletin conomique without
seeking specific advice from qualified advisors on particular matters
which are of concern to them.
This publication may be reproduced in whole or in part as long as
credit is acknowledged to the author and HSBC Bank Canada.
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