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“Adjusting to a Higher Canadian Dollar”. Presentation to a conference organized by Global Insight Toronto, Ontario 13 September 2005. John Murray Adviser to the Governor. OUTLINE. Putting the appreciation in perspective Economic factors underlying the appreciation

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“Adjusting to a Higher Canadian Dollar”

Presentation to a conference organized

by

Global Insight

Toronto, Ontario13 September 2005

John Murray Adviser to the Governor


Outline
OUTLINE

  • Putting the appreciation in perspective

  • Economic factors underlying the appreciation

  • Effects of higher energy prices on the dollar

  • Regional and sectoral adjustments

  • Implications for monetary policy


Putting the appreciation in perspective
Putting the Appreciation in Perspective

  • Movements in the Canadian dollar over the last 30 years (Chart 1)

  • Movements of the Canada dollar relative to other currencies (Chart 2 and 3)

  • Bilateral versus effective exchange rate measures (Chart 4)

  • The importance of the Can-US dollar exchange rate to Canada






Economic factors underlying the appreciation
Economic Factors Underlying the Appreciation

  • Canada as an important commodity producer and exporter

  • The “magic” Bank of Canada exchange rate equation

  • Recent forecast errors and the role of energy (Chart 5)

  • Other factors that might be at play – global imbalances and productivity

  • Simulations with modified specifications of our equation (Chart 6 and 7, and Table 1)





Table 1

AvN

MAvN

BDS

HILZ

-0.15 (0.03)

2.08 (0.34)

--

-0.44 (0.07)

0.09 (0.04)

--

--

-0.66 (0.12)

--

0.22

1.26

-0.18 (0.04)

3.29 (0.56)

-0.90 (0.47)

-0.47 (0.07)

-0.17 (0.10)

0.21 (0.04)

--

-0.60 (0.13)

--

0.28

1.43

a

a'

COMt-1

ENERt-1

ENER1t-1

PRODt-1

INTDIFFt-1

USCURt-6

Statistics

R2

DW

-0.11 (0.03)

2.84 (0.54)

--

-0.50 (0.11)

0.01 (0.05)

--

--

-0.58 (0.14)

0.64 (0.16)

0.30

1.59

-0.16 (0.04)

2.77 (0.37)

--

-0.51 (0.08)

--

--

0.82 (0.32)

-0.59 (0.14)

--

0.22

1.36

Table 1

Real Exchange Rate Equations: 1973Q1-1999Q4a

a. Newey-West HAC standard errors in parentheses with p-values larger than 0.10 denoted in bold.

1. The real variables ENER and COM are defined as the nominal U.S. dollar price for energy and non-energy commodities divided by the U.S. GDP deflator.


The effects of higher energy prices on the economy
The Effects of Higher Energy Prices on the Economy

  • Potential benefits – higher investment, higher oil revenues, higher tax revenues, higher royalty payments, higher net wealth and an improvement in our terms of trade

  • Potential costs – reduced household disposable income, higher production costs, lower profits (outside the energy sector), short-run adjustment costs, regional and sectoral imbalances

  • Canada as a major energy exporter – short term costs versus long-term gains


Regional and sectoral adjustments
Regional and Sectoral Adjustments

  • The effects of higher energy and non-energy commodity prices

  • Favoured regions mainly (but not exclusively) in the west

  • Favoured sectors mainly (but not exclusively) in the resource and distribution sectors (Chart 8 and 9)

  • Adjustment response of the tradeables manufacturing sector (Table 2)

  • How is the adjustment proceeding? Some encouraging signs


Chart 8
Chart 8

Effects of Appreciation by Sector


Chart 9
Chart 9

Firms Adversely Affected: Main Reactions (56 Firms)


Table 2
Table 2

* Includes sectors that are exposed as net importers.


Implications policy
Implications Policy

  • One country, one monetary policy and one floating currency

  • Facilitating short-run adjustment, recognizing transitional effects on capacity

  • Type 1 versus type 2 fundamental forces acting on the exchange rate

  • Exchange rate movements, the output gap, and inflation


References
References

Amano, Robert and Simon van Norden (AvN). 1993, “A Forecasting Equation for the Canada-U.S. Dollar Exchange Rate.” The Exchange Rate and the Economy. Bank of Canada.

Bailliu, Jeannine; Ali Dib and Lawrence Schembri (BDS). 2005. “Multilateral Adjustment and the Canadian Dollar.” Presented at the 2005 meetings of the Canadian Economics Association.

Helliwell, John; Ramzi Issa; Robert Lafrance and Qiao Zhang (HILZ). 2004. “NEMO: An Equation for the Canadian Dollar.” Presented at the 2005 meetings of the Canadian Economics Association.


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