Falling loonie

Slide not all bad news for Atlantic Canada

Global stock markets greeted 2016 with a deep harrumph.

Oil prices resumed a funk that is driving the price of a barrel of crude to early century lows.

The loonie is sliding into territory that it hasn’t seen in 13 years.

The new year is off to an inauspicious start.

But is this all bad news for Atlantic Canada? A good question.

The drop in oil continues as record highs in crude output from Saudi Arabia and Russia meet record inventories in Oklahoma. The result? Futures markets do not see the price of a barrel of crude above $50 until 2021.

Low energy commodity prices are good for drivers, or producers who depend on energy inputs, but they are clearly bad for the oil companies like those operating in Newfoundland, and certainly for the Newfoundland government that counts on offshore royalties to meet its budget obligations.

Petrocurrency Problems

The loonie has emerged as a petrocurrency over the past couple of decades, and it tracks down as energy commodities slip. For example, when oil prices trended down in fall 2014, so too did the exchange rate, with the loonie losing eight cents against the U.S. dollar to mid-January 2015.

As Canada as a whole is an energy exporter, and falling energy prices depress domestic investment and income, Bank of Canada Governor Steven Poloz a year ago pushed interest rates down. The reasoning is, or was, that because a lower interest rate depresses the exchange rate, our exports get more competitive abroad, and non-energy sectors of the economy fare better.

In any event, when the interest rate-shock dust had settled, the loonie had given up another five cents.

With another rate drop from the Bank by summer 2015, a rate rise from the US Federal Reserve at the end of the year, and oil prices continuing to fall, it’s no surprise the loonie has since lost another seven cents against the greenback — and the end is not in sight.

Winners and Losers

So who wins from the falling exchange rate?

Key domestic beneficiaries are people whose products are priced in US dollars but whose costs are incurred mostly in Canadian dollars. In the Atlantic Provinces, that means agricultural exporters and seafood producers, for instance.

Other service producers are in the same category: financial intermediaries, business services, and technical tradesfolk who market their services abroad. Their costs are mostly in Canadian dollars; that means most of their value-added is domestic as opposed to import content.

Tourism operators are helped too, as Canadian vacations become cheaper for US tourists.

Some industries’ products embody a lot of imported value added, so when the exchange rate goes down, their input costs go up. On the other hand, for companies that need to import specialized manufacturing equipment or parts, their business model is taking a hit.

The distinction is sharp for auto producers, where Canada’s impressive participation in global value chains means that the imported content share is really high, and the domestic value-add low and falling.

Changing Economics

An interesting case is the petroleum sector, which in dollar terms makes up a big share of the Atlantic provinces’ exports. Falling oil prices do not do much good or bad for Eastern refiners, whose financial health depends on processing margins.

The diving oil price, in combination with the sinking loonie, changes the economics of an “Energy East” oil pipeline, which would give refiners and consumers here access to usually lower Western Canadian Select prices.

Still, the global oil supply glut makes Alberta’s oilsands an expensive resource to tap, compared to Middle Eastern oil, existing Newfoundland and Labrador offshore oil and, perhaps before the end of this decade, Nova Scotian offshore fields.

The Energy East route could yet fall into place and Western supplies could become economical.

Alberta’s Cenovus recently shipped crude to Europe, after all, by way of Texas.

All is possible. Nonetheless, changing trade patterns, and our ever deeper entrenchment in global supply chains, mean the impact of exchange rate shocks — and of monetary policy — is not what it was in the past.

On balance, a diving loonie is probably good for Atlantic Canada, in the circumstances. But it is decidedly a mixed blessing, and none at all for those of us mulling a southern vacation.