Slow but steady for the loonie in 2012

Despite Canada’s superior economic standing, the loonie dipped against most major currencies in 2011. While it was one of the better performers against the greenback, ending the year at 96.84 cents U.S., the overall forecast for 2012 sees our dollar in a holding pattern throughout the year.

The road ahead is uncertain, and the markets choppy, due to issues such as risk aversion, soft commodities and falling consumer spending, alongside the reality of the Euro crisis and unstable world market. We can expect the dollar to remain below parity for the majority of the coming year.

According to the Annual POLLARA Financial Outlook Survey, Canadians in general share a bleak outlook for 2012, with almost half of the population losing confidence in the performance of the loonie. Still, while the value of the Canadian dollar is expected to fall, it will remain strong, due to relatively strong economic fundamentals.

Canadian banks have all lowered their forecast for Canadian and world economic growth. The Bank of Montreal in particular extended its estimate of how long the Bank of Canada will take to begin raising interest rates.

“Two forces have influenced the Canadian dollar of late: investors’ risk appetite swings between ‘risk on’ and ‘risk off‘, and Bank of Canada policy prospects,” says Benjamin Reitzes, senior economist at BMO Capital Markets. “With the former more often siding on risk aversion, and the latter sporting some chance of cuts through 2012 Q2, we look for the loonie to weaken. During the second half of 2012, the loonie should reverse course and hit parity by year end.”

Benjamin Tal, chief economist at CIBC World Markets, shares a similar outlook. There was a 3% decline in exports during October that sent the trade balance back into deficit, providing a clear signal that Canada will not be able to rely as strongly on trade to drive growth in the coming quarters.

“The dollar will go down, reflecting soft commodity prices,” Tal says. “Uncertainties due to the euro crisis aid growth in the U.S. more than in Canada. Our dollar has lost ground in the last few weeks and will continue to for the next 6 months.”

There is an upside however. Tal recognizes that “business investment is strong in Canada, and will create a healthier economy. It will be the main driver of activity in Canada in 2012. We will move from consumption to investment, and will be stronger and healthier in the long run.”

Camilla Sutton of the Scotiabank Group has also preserved her positive outlook for the coming year. “We look at Canada on a relative basis. Canada has a strong sovereign rating and we have seen flow into equity and fixed income, which is usually good for the Canadian dollar. There have also been surprises from the U.S. market.”

Scotiabank strikes a bearish note, predicting the dollar will remain below parity until the end of the year and that the downside risks to the 2012 outlook will persist. Although, as Tal predicted as well, investment spending should remain supportive of global growth.

RBC has stated that the “Canadian dollar is forecasted to be range-bound during the forecast horizon as the benefits of elevated commodity prices and higher short-term interest rates face off against the persisting safe-haven flows into the U.S. dollar”.

“There will be growth in exports and investment will be strong, but only minor growth from 2% to 2.5%.” said Craig Wright, chief economist at RBC. “The dollar will continue to bounce around parity.”

TD continues to hold a pessimistic view of the road ahead for the global growth forecast, and have thus downgraded their forecasts for commodity prices and the Canadian dollar over the near term.

Craig Alexander, senior vice-president and chief economist at TD, believes “Canada is facing big risks with a political element, and if the European situation worsens, we could experience a situation similar to that of 2008.”