Thedollar’s haircut

The declining loonie benefits some companies, but it also means we all take a pay cut

Movements in the dollar are perhaps the finest known example of the American journalist Gregg Easterbrook’s observation that “all economic news is bad.” Dollar goes down, that’s bad news: higher prices for imports, costlier trips to the U.S., etc. Dollar goes up, that’s even worse news: exporters can’t compete, cross-border shopping surges, etc.

Often Easterbrook’s Law is a source of humour: some economic news really is good and requires quite a heroic journalistic effort to turn it into a raging calamity. Whenit comes to exchange rates, on the other hand, it’s generally hard to say whether the news is good or bad. It’s both, or neither. Any movement of the dollar, up or down, will reward some interests, penalize others. There’s no particular reason to pick and choose between them. Contrary to what their many advocates would have you believe, the national interest does not equate to that of exporters, not at the price of despoiling consumers.

To complicate matters further, many of Canada’s biggest exporters are also major importers: they import machines and parts, for example, to make finished goods for export. Perhaps that’s why the dollar is no longer the political flashpoint it once was. There are winners and losers at any given exchange rate, and they are, as often as not, the same people.

In a sense, then, the dollar should be wherever it is at, since that is the level at which the demand for dollars just equals the supply. That doesn’t mean the dollar cannot be undervalued or overvalued, compared to the level to which economic theory predicts it should tend in the long run: the level at which a basket of goods costs the same in Canada as it would in another country, after conversion into that country’s currency.

Other things being equal, where a country’s goods are consistently overpriced

Just as the high dollar spread the benefits of rising commodity prices across the country, soalower dollar spreads the pain

relative to its trading partners, we should expect to see its exchange rate fall, as it has of late in Canada. When it can’t — when exchange rates are fixed — you get the kind of turmoil we have seen in Europe. Having adopted the euro in place of their old national currencies, countries such as Greece find themselves at a permanent cost disadvantage of 20% or more. In theory, Greece should be able to devalue internally: drive down wages and prices until it is again able to compete. But wages, in particular, are notoriously sticky: union negotiators might consent to little or no increase, but draw the line at an actual reduction in wages.

A currency devaluation effectively does that. At a stroke, all prices and wages in the country are adjusted downward, relative to those of other countries. The onus is now on workers to recapture the loss in purchasing power at the bargaining table, rather than on employers to insist on cuts.

There’s another benefit to a floating exchange rate: we don’t have to defend any particular level. Had it been government policy, a year ago, to keep the dollar at parity with its U.S. counterpart, we would have had to hike interest rates at a time when the economy could least afford it. Instead, we’ve allowed the dollar to fall, leaving monetary policy free to focus on the domestic economy.

The dollar’s recent fall is a predictable consequence of the decline in prices of the commodities we export. Just as the high dollar spread the benefits of rising commodity prices across the country — in the form of cheaper imports — so a lower dollar spreads the pain, at the same time as it helps other sectors to take up the slack.

But we should be clear what this means: a national pay cut. It’s not entirely clear whether those celebrating the dollar’s decline understand that.