The U.S. dollar is at 20-year highs—rising by almost 5 percent in September alone and over 19 percent year-to-date. This latest bout of greenback strength is creating chaos for other currencies, including the typically stable Canadian dollar, and primarily reflects financial markets adjusting for the greater likelihood of a recession, according to a foreign exchange strategist.
Greg Anderson, BMO’s global head of foreign exchange strategy, told The Epoch Times that what’s more pertinent to the U.S. dollar’s move higher is that “the risk of a recession has gone from 50 percent to 80 percent” and that the U.S. Federal Reserve is not going to bail out the global economy this time.
“He [Fed chair Jerome Powell] left the market with the impression like … ‘Hope there’s not a recession, but if there is, so what? We don’t care. We wouldn’t cut [interest rates],’” he said.
The Fed is not currently forecasting or expecting a recession, much like the Bank of Canada.
“We’re pricing recession risk. And the way you price recession risk is you sell stocks, you sell commodities. And then you sell currencies and buy the USD. So I think that is the primary factor,” Anderson said.
As an example of how much more hawkish the Fed has become to bring down inflation, the median projection for its federal funds rate at year end is now up to 4.4 percent. It was 3.4 percent in June.
As the Fed raises interest rates, the U.S. dollar is pushed higher as money gravitates to where it can earn the highest returns with the least amount of risk.
It’s been a dire year for nearly every asset class, from stocks to bonds to commodities.
Gold has lost its shine even in the presence of market turmoil and elevated inflation—it is at its lowest since April 2020.
U.S. stocks hit their lowest level of the year on Sept. 27.
“The U.S. dollar has really been steamrolling everything all year,” SIA Wealth Management chief market strategist Colin Cieszynski said in an interview with BNN Bloomberg on Sept. 27.
Loonie’s Prospects
The Canadian dollar, while holding up better than some more widely traded currencies like the pound and the yen in 2022, has been hit just as hard as those currencies in this most recent sell-off.
The Canadian dollar fell below US$0.73 on Sept. 26 for the first time since May 2020 shortly after the first pandemic lockdown when financial markets were still under siege.
“The latest nosedive in the CAD comes ahead of what we anticipate will be a rough ride for the Canadian macro outlook in Q4 as high debt-servicing burden should prevent the consumer from supporting the economy to the same degree it has in the past,” said TD senior foreign exchange strategist Mazen Issa in a Sept. 27 note.
After the Fed meeting on Sept. 21, TD said the currency it is most concerned about is the Canadian dollar.
“There is nothing to like about the CAD at this time, and the debt party that the economy has relied upon to support previous economic recoveries is over.”
TD added that the loonie will have to move lower as the housing market cools off even further as rates rise, given the highly indebted nature of households.
But Anderson expects the loonie to outperform most other major currencies if the market malaise were to continue.
“What tends to happen is financial markets will look for quality in a panic, and the loonie is more backed by quality than any other G10 currency, save the USD.”
Anderson points to Canada’s current account surplus—more exports than imports, which fosters greater demand for Canadian dollars—combined with relatively low government debt and a central bank that’s keeping up with the Fed in raising rates.
“When we look at Canada relative to the rest of the world, we’ve actually done really, really well. North America has essentially been seen as an island of stability in a very tumultuous world right now,” Cieszynski said.
He added that Canadian businesses are benefiting from the export of natural resources, which are priced on global markets in U.S. dollars; however, consumers won’t be happy about rising import prices.
Fiscal Warning
When the U.S. dollar is “behaving itself,” meaning not moving by more than about 5 percent per year, Anderson says it tends not to capture the spotlight in financial markets. But when changes are bigger, it impacts all kinds of asset prices, and for every country other than the United States, it is inflationary, Anderson adds.
Canadian federal and provincial governments are trying to find ways to blunt the impact of higher inflation whether it be by hiking the GST rebate or subsidizing the cost of fuel. This leads to bigger deficits, and Anderson warns that “in a more extreme case, it could turn into a vicious circle” with the BoC raising rates even higher to fight inflation while the government keeps spending.
He cites the example of emerging market economies that have had bouts of hyper-inflation as their currencies drop in value precipitously, but also the current example in the United Kingdom where the pound hit an all-time low against the U.S. dollar on Sept. 26—of roughly US$1.03—after the announcement of a massive tax-cutting program to spur growth.
When the “government is following what looks like unsustainable policy,” markets apply a discount to the currency, Anderson said.
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