Canada with a population of 33 million is a G8 modern hi-tech industrial society home to a wide array of industry with modern capital plants and an economy that is advancing into knowledge-based industries of the 21st century. Today, the world is taking notice to Canada’s tremendous oil wealth in the Alberta tar sands. Canada is indeed an ‘energy superpower’. The Canadian dollar is now often referred to as a ‘commodity’, ‘petro’ and/or ‘gold’ currency due to the country’s extensive natural resources. Although, the most famous nickname for Canada’s dollar is the ‘loonie’, a national iconic bird within Canada.
POLITICS: the Conservative Party of Canada is the governing party within a Minority parliament framework. Historically, the Conservatives are considered to be a business friendly party. Please contact BankIntro.com for further details.
ECONOMY: with the rise in commodity prices since 2002, Canada has enjoyed a wealth boom both on its stock and real estate markets. Western Canada home to the majority of the nation’s oil & natural gas production has performed much better economically when compared to Central & Eastern Canada where most of the country’s manufacturing is located. Canada is rich in forestry, minerals, natural gas, oil, metals, fishing resources, fresh water, precious minerals, etc. The major stock market located in Toronto is presently at or near all time highs reflecting high commodity prices, an economy flush with oil & natural gas windfall tax revenues.
From years 1960 to 1995, Canada’s government’s has exploded the country’s debt load. Even to date, Canada has not had a truly fiscally conservative government at the national level for 50 years. During the 1970’s, 80’s and part of the 1990’s, Canada’s Provincial and Federal governments for years have flooded world capital markets with CAD dollars exchanged for foreign currencies to pay off foreign creditors. The CAD fell drastically during this time frame. It is only been in the last 5 years that many of Canada’s governments have started to record surplus budgets primarily due to windfall commodity tax revenue, the federal government budget has been in balance or surplus continuously since 1997.
Economic slowdown is now taking place in some area’s of the economy including softwood lumber, manufacturing. Interest rate risk, mortgage rates are starting to climb which may throw a curveball to cities like Vancouver which are highly leveraged in at low mortgage rates. The Canadian residential real estate similar to the United States in many ways has kept much of the economy afloat with highly leveraged government insured mortgages set in at low rates. A rising real estate market has given the country a wealth affect, many households have tapped into the equity to fund for vacations, boats, cars, home renovations which has helped to propel the economy. The fear is that a trend of rising mortgage rates that has just began may put a dent into this market. Some cities like Vancouver and Victoria are highly leveraged coupled with new expanded supply of condominiums may put further pressure on the market. The United States housing slowdown has started to show initial concerns in British Columbia with declining demand for its softwood lumber. Once a real estate market cools down, houses can be a very illiquid investment as Canada like the United States is vulnerable to rising mortgage rates. It should be noted that the majority of mortgage contracts only pay a very small part of the principal during the first 5 years of the ammortization. Other damaging economic risks include the possibility of a deep United States recession resulting in an asset liquidation, spillover to Canada. The key will be the US treasury market, keep an eye on the 10 year Treasury note, if it breaches 6 percent, a nasty recession is more than likely for North America.
Total GDP stands at over $1.4 trillion CAD (2007) at market prices and/or GDP/Capita at $35,000 CAD. GDP growth for year 2007 is currently running in at 3.7 percent of GDP however it is expected to slow by year-end, real GDP growth for 2008 estimated at 2.9 percent. Other GDP quotes include year 2006 at 4.5 percent, 2002 at 3.4 percent, 1993-2000 averaged 3 percent. Inflation figures have 2006 at 2.1 percent, April 2007 CPI inflation at 2.2 percent, April 2007 core CPI inflation running slightly higher at 2.5 percent, overall year 2007 projected at 2 .5 percent, 2008 estimated at 2 percent. Current account surplus stands at 1.75 percent of GDP (2006), trade component in surplus at $52 billion CAD. Balance of payments surplus at 1.8 percent of GDP, federal fiscal account is in surplus. Canada’s Federal debt now stands at $481.5 billion CAD down from its peak in 1996-97 at $562.9 billion CAD. Federal public debt stands at 36 percent of GDP with a goal of 25 percent by year 2012-13. Official unemployment is at historical lows at 6.2 percent, although the rate may have bottomed as factories in Eastern Canada begin to layoff. Oil production is at 3.13 million bpd (2004) with consumption at 2.29 million bpd, net oil exports are at 840,000 bpd. Natural gas exports are measured at 93 billion cu m (2004).
POSITIVE: triple ‘A’ bond rating, energy superpower, resources rich, abundant fresh water supplies, excellent infrastructure, declining net liabilities, well educated workforce. CONCERN: government spending is up, economy vulnerable to higher interest rates, hollowing out of manufacturing in Central Canada - Dutch disease with energy wealth in Alberta, effectiveness of tax collection, poverty levels remain high - too many low income Canadians, cooling of U.S. economy, natural gas prices are well down from peak, Bank of Canada sold off its remaining gold reserves, demographics - ageing population with increased demands for health care.
BANKING SYSTEM: the banking sector is highly profitable, advanced, stable and is among the soundest in the world today. It is centralized with six large Canadian banks dominating the market with assets in excess of $2 trillion CAD. Over the next few years, domestic bank consolidation will most likely take place resulting in two or three large banks within Canada. The Bank of Canada founded in 1935 is responsible for the country’s monetary policy and has set a target for annual inflation in the 1 to 3 percent target band. Official reserve asset coverage is good with $40.2 billion USD equivalent (April 2007) held at the Bank of Canada. One of the few mistakes the central bank made was back in early 1987 when the Bank of Canada announced a policy of zero inflation. This was very harmful policy to Canada’s economy particularly with a fiscal policy of no tax relief and tax increases implemented in an untimely fashion such as the GST during a recession. These moves ultimately resulted in a steep Canadian recession by the early 1990’s. Bank of Canada’s Target for the Overnight Rate is at 4.25 percent, it is expected to increase to 5 percent by year-end 2007. Conversely, the United States Federal Reserve rate is at 5.25 percent. Higher Canadian interest rates ahead are bullish for the CAD. In the area of mortgages, heightened interest rate risk is prevalent, huge outstanding mortgage balances in certain cities. Record Canadian bank profits continue although signs of a few cracks are appearing.
REGIONAL & GLOBAL ANALYSIS: income trusts, capital movements, pension funds. China and India’s demand for commodities will help keep prices high, thus benefiting commodity countries like Canada. At present, there is rising foreign investment into Canada’s natural resource economy. There is a strong correlation with the United States economy as America accepts 85 percent of Canada’s exports
(ie. energy, autos) thus accounting for 25 percent of GDP. Some analysts have called for the increased possibility for outright dollarization (USD) particularly if both currencies are trading close to par. Recent changes to income trust and pension rules will have minimal impact to CAD valuation. Negative media reports of fears of dumping CAD and CAD denominated investments with regard to income trust tax changes are overblown, the fallout from foreign investors will be minimal, particularly from Americans.
KNOWLEDGE: Oil Tar Sands and Illegal Drug Industry
Current analysis has Canada’s proven recoverable oil reserves using existing technology at 179 billion barrels (2004). Canada is number two in the world for economical recoverable oil reserves, second to only Saudia Arabia. In addition, there is an estimated 1.6 trillion barrels that require new technologies for recovery at cost effective prices for oil embedded in the oil sands. Alberta’s oil sands consist of a mixture of sand, clay, water and bitumen, crude bitumen is thick heavy oil. With these oil sands totals, Canada’s oil wealth equates to over 10 times larger than that of Saudi Arabia’s oil wealth although these figures should be taken with caution as current technology for oil extraction within the tar sands is $40/barrel CAD compared to only $2 per barrel USD for Saudi Arabia. Current tar sand oil production is presently at 1.2 million bpd with a production target of 4 million bpd by year 2020. Offshore oil fields do currently exist on both the Atlantic coast off the Province of Newfoundland (Hibernia oil fields) and on the Pacific coast shelf in the Province of British Columbia (Queen Charlotte Islands). Estimates have British Columbia’s oil wealth pegged at $500 billion CAD. The Canadian province of Saskatchewan also have their own tar sands, another new large discovery in the making? In addition to oil, Canada is rich in natural gas reserves measured at 1.6 trillion cu m proven (2004).
Illegal high quality indoor hydroponic technology marijuana grow operations and illegal ‘meth’ methamphetamine ‘crystal meth’ labs are relatively new booming industries within Canada. These parallel drug operations are a major problem within regions of Canada providing a huge source of tax free income for gangs / criminals while stretching the resources of local law enforcement to the max. The illegal Candian drug industry is highly profitable, tax free earnings to those involved, but illegal. The problem is that the law is caught in the middle, the only realistic viable way to win the war on illegal drugs is to try a policy of one extreme of hard zero tolerance or the opposite view of full legalization mixed in with a massive education campaign. However, it remains still a question for debate to which view would succeed, but the law stuck in the middle is no deterrent to this huge industry. At some point, one extreme proposal should be implemented to attack this war on illegal drug production. Consider the facts, the Province of British Columbia’s largest industry is illegal marijuana grow-ops, upwards of 25,000 homes in the Lower Mainland of Vancouver are growing hydroponic marijuana, mostly for export. Marijuana production in BC is estimated at upwards of $8 billion CAD/year. In addition, this new very lucrative industry of so-called meth labs, crystal meth, ecstasy tablets for export is presently out of control. In addition to being an environmental disaster, the integrity of the economy is as stake in the areas of real estate investment (are there meth labs in high-end condo units?) The laws are far too loose as of now, hence the economic boom employing thousands in illegal drug production earning tax free monies. Illegal drug production in Canada is an informal economic subsidy to an economy void of too few higher paid knowledge jobs for the size of the population base.
RECOMMENDATIONS FOR CANADA
Canada should have one of the soundest currencies in the world, the CAD should be trading at higher levels to the EUR and British pound where its performance has been mediocre. As a nation incredibly rich in natural resources and technically advanced, Canadians should be realizing a higher standard of living but they are being short change by incompetent political managers.
To begin, what is necessary at the foremost is for the political leadership to target the wealth creation deficit and focus on creating an environment where foreign investors are welcome to do business. Canada has too few leading successful global companies and far too many on the public payroll. It is necessary to increase the technology component of productivity growth to increase the standard of living within Canada.
Reform the banking sector. Canadian banks are among the best managed in the world and most advanced. Canada should become a money haven and global financial services centre in order to attract global capital flows similar to Switzerland. Bank of Canada should still consider increasing their international holdings with gold (presently at $650 USD/oz, first recommended by BankIntro.com at $330 USD/oz) similar to what central banks in Asia are currently doing. Gold is still at a relatively low price, this would further give Canada a reputation as a ‘gold’ and ‘safe-haven’ currency. A plan should be put in order to market the Canadian dollar with Canadian banks aggressively courting international clientele as a sound place to store wealth in the global community. As a money haven, Canada would create tens of thousands of highly well paid financial services jobs. During the 21st century, countries like China will accumulate vast wealth, some of those Chinese citizens and businesses coupled with many other nations may wish to diversify their assets. Canadians should put themselves in a position to capture this wealth.
The national agenda should be to increase national wealth thus raising the standard of living of all citizens as it is currently 15 percent below that of the Americans. More national wealth thus provides more resources for those truly in need and other areas of society that are vulnerable including cleaner water and a safer environment. Canadian governments should decrease public spending by 20 percent from its current size and put a stop to government subsidizing uneconomic businesses and end the environment for protectionism for several Canadian industries. Public sector employees should be rewarded with performance pay. New policies that are designed to encourage FDI (foreign direct investment) should be the priority where foreign investors can earn an attractive rate of return within Canada. Policies to attract and keep skilled workers should be implemented.
Both private industry and government should sit down and foster new ideas to help minimize labour disruptions as strikes, lockouts have greatly impacted the economy quite negatively. Canada today has one of the worst records in OECD for labour disruptions, too many powerful unions in Canada. The brain drain of many of Canada’s best entrepreneurs and brightest professionals have at times left for the United States.
Canada should expand on a foreign policy that embraces market opportunities within China, India and Brazil. These are new and growing huge markets that require environmental technology, natural resources and a wide range of services from education to financial. The focus for Canada should be global thinking with an eye for increasing productivity hence international competitiveness via large export markets.
Canada should move from a system of excess taxation and regulation to that of a more gentler society of less taxation and more freedom. A platform to immediately decrease public debt faster, decrease personal income taxes, decrease corporate taxes, eliminate capital taxes, eliminate withholding taxes on investment income flowing out of Canada, eliminate barriers to trade particularly among the provinces themselves, redirect capital away from consumption to growth enhancing investments, shift tax burden towards consumption taxes and a flat tax, decrease red tape as Canada is over regulated and stop the political patronage spending. Canada must allow for increased foreign investment coupled with an increasing expansion into new knowledge based industries.
Environmental sustainability is essential. A strong free market economy capitalizing on the green revolution in the area of new technology advances within the environment will help sustain national wealth for Canada.
Canadian society should move away from the liberalism policies of the 1970s and to a new platform that is viable for a global 21st century economy. Canada should move to a higher consumption flat tax away from income tax thus helping to eliminate the underground economy and tax evasion. Free up the economy by redirecting spending to the private sector and allowing the private sector to make investment decisions. A new slogan for Canada should be that of ‘growth’ and ‘opportunity’. Foreign investors will quickly realize Canada is open for business. The historical perception is that Canada is a difficult market to earn a fair return on capital due to high taxation levels and regulation. A new thinking of putting in place a plan to create and sustain wealth, a much higher standard of living for all Canadians with less poverty and a cleaner environment will certainly follow along with the benefits of a stronger CAD with respect to global purchasing power parity.
CURRENCY: ISO Symbol ‘CAD’, Canadian dollar, loonie, dollar. At time of review on June 14, 2007, the Canadian dollar had an exchange valuation of 1.0672 CAD to the
US-dollar (USD) equivalent to 93.7 US cents and/or 1.4187 CAD to the Euroland euro (EUR). The currency regime in place is that of a floating exchange rate. Canada’s flexible exchange rate has worked well particularly during the Asian financial crisis in 1997-98 as the currency reacted similar to a shock absorber by depreciating modestly in order to deflect a recession. The CAD hit an intra-day record trading low to its American counterpart on January 21, 2002 at a rock bottom price of 61.75 US cents. It has since gained about 53 percent appreciation to the USD, making it one of the world’s best performing currencies over the last 5 years. As measured by purchasing power parity ‘PPP’, the CAD is 12 percent overvalued to the USD as of June 1, 2007. An equilibrium PPP price is estimated at 85 US cents for the CAD which measures price differentials for the two currencies.
CURRENCY HISTORY: original inception for the CAD came in year 1858. Prior to year 1871, several provinces had their own individual currencies until unification with the Uniform Currency Act in April 1871. The gold standard for the CAD was abandoned in April 1933. From 1950-62, the CAD was on a floating exchange rate regime. Since 2002, the CAD has skyrocketed from 61.75 US cents to 94.77 US cents in June 2007. In 1998, the CAD came under speculative pressure as the currency stabilized at US65 to US66 cents and never really recovered from the August 1998 drop to 63.1 US cents during the Asian financial crisis. Average valuation for year 2000 was 67.3 US cents. The CAD continued to depreciate versus the USD during year 2001 while hitting recent historical low on January 21, 2002 at a closing price of 61.92 US cents. From 1986 to 1991, the CAD rose from 69 US cents to the 89 US cent level at the height of Canada’s last recession. In the 1970’s, the CAD average valuation was 96.4 US cents, 1980’s at 79.5 US cents. From 1960 to 1972, the CAD was fixed at 92.5 US cents with a band of plus/minus 1 percent. The CAD during the 1950’s peaked on August 20, 1957 at 1.061 USD and last reached par with the USD in November 1976. The highest valuation to the USD came about at 2.78 USD to 1 CAD on July 11, 1864. A recent high for the CAD was on June 4, 2007 at 94.77 US cents. Currency crisis dates include February 1973, January 2002.
The exceptionally strong USD during the late 1990’s has misrepresented the true value of the CAD especially when the loonie is compared to the other major currencies in the world today. At various times in Canada’s history, the CAD has traded at a discount due to political risk of the Province of Quebec leaving Confederation. Those separation fears have now been subsided immensely with two defeats for Quebec nationalists and low support amongst Quebecers for independence as conveyed in recent opinion polls.
An election of a Liberal or left leaning governing coalition as they are supporting a strong environmental policy which may hamper the economy with tough guidelines. New stringent environmental policies if implemented may slow the economy. Conversely, they suggest that a new green platform will provide for new wealth in the areas of leading the world economy into a green economy, exporting new knowledge and green industries. The jury is out on this thinking, but it may take a fair bit of time to implement new green industries to offset potential job declines in the energy sector, etc. Other currency risks for the CAD include a significant sell off in the world oil price or other commodity markets. Quebec separation risk has fallen significantly with the third place showing of the provincial Parti Quebecois separatist party in a recent Quebec provincial election.
IS THE CAD PERFORMING THAT WELL? REALITY CURRENCY CHECK
Against the USD, the CAD has performed well since 2002 by appreciating 53 percent. In January 2002, exchange valuation came in at 1.6 CAD to the USD, by mid June 2007 average at 1.06 CAD. Here’s the surprise, against both the Euroland euro (EUR) and the British pound (GBP), the CAD has not performed well at all. In fact, no change to the EUR in the last 5.5 years. Historical exchange quotes have the CAD at 1.409 CAD to the EUR in January 2001, January 2003 at 1.637 (low for CAD), mid June 2007 almost unchanged at 1.424 CAD. With regard to the GBP, the CAD is only up 2 percent in 5.5 years. During January 2001, the CAD traded at 2.22 CAD to the GBP, January 2003 at 2.492 (low for CAD), May 2007 at 2.17 CAD to the GBP.
CURRENCY FORECAST: short term target of 96 US cents, par by 2009 to the USD, then the CAD likely to fall to its long term true valuation. BankINTRO.com is forecasting modest appreciation to the EUR. Rising short term interest rates in Canada are positive for capital flows, narrowing of interest rate spread with United States rates. The USD itself has declined tremendously over the last 5 years and in our view, has about another 15 to 25 percent downside to a trade weighted basket of currencies. This continued downside drift to the USD is helping to propel the CAD higher. It is more of a structurally weak USD rather than a strong CAD. In time, the United States will correct it large structural imbalances. Hence, BankINTRO.com has long term fair market value for the CAD quoted at 91 US cents. On its own, the Canadian dollar maybe viewed in the global market place as a new safe haven currency that rivals the Swiss franc, Canada will soon be a net creditor nation due to its extensive energy (net exporter of oil) & resource wealth synergized with the nation’s sound political stability.
LONG TERM CURRENCY OUTLOOK - IS THE ‘AMERO’ CURRENCY UNIT ON HORIZON?
North American monetary union is probably not likely in the near term, but possibly in 10 to 20 years as the global economy moves into regional trading blocs. The “amero” currency unit or NAMU (North American Monetary Unit) consisting of United States, Canada and Mexico. The amero would compete against other regional currency blocs such as Asia - renminbi/yuan, Japanese yen, Middle East gold dinar, Euroland euro, South American peso, CFA franc, East Caribbean dollar, etc. At present, Canada currently uses the USD as an unofficial second national currency ‘de facto US-dollarization is well underway in Canada’. At present with the CAD approaching par, more talk for an amero currency unit will become popular in Canada. With the successful implementation of NAFTA - North American Free Trade Agreement, the one dragging component for the amero will be Mexico, but in time this will change. Implementation of the amero currency may actually give Mexico an economic boost thus helping to alleviate Mexican immigration pressures into the United States for those Mexicans seeking financial gain. The amero one day may very well be circulating throughout North America.