The Canadian dollar faces significant downward pressure, with economists predicting that it may fall to levels only seen during major economic shocks. Several factors, both domestic and international, are aligning against the currency, which could lead to substantial declines in its value. Analysts are closely watching the widening gap between Canada’s interest rates and those of the United States, shifts in the Bank of Canada’s policy approach, immigration changes, and the potential impacts of the upcoming U.S. election on trade relations. Together, these factors paint a complex picture for the Canadian dollar, or loonie, and the Canadian economy as a whole.
The Bank of Canada recently cut its interest rate by half a percentage point, widening the interest rate gap with the U.S. Federal Reserve. This difference in monetary policy between the two nations is creating strain on the loonie. While the Fed had also implemented a large rate cut back in September, economic resilience in the U.S. has since reduced expectations of further rate cuts there. Benjamin Reitzes, a Canadian rates and macro strategist with BMO Capital Markets, explains that the strength of the U.S. economy may lessen the need for more aggressive monetary easing by the Fed. This situation contrasts sharply with Canada, where economic momentum is flagging, making further rate cuts more likely. These differing monetary paths have left the Canadian dollar more vulnerable, as it may weaken in comparison to a relatively steady U.S. dollar.
In a recent report, Scotiabank analysts led by Hugo Ste-Marie noted that the Bank of Canada appears willing to take assertive actions to stimulate an economy that is operating below its full potential. According to Ste-Marie, the Bank of Canada is leaving open the possibility of another large interest rate cut at its next meeting. This willingness to act aggressively on rate cuts contrasts with the U.S. Federal Reserve’s current stance, which is expected to avoid repeating its recent 50-basis-point cut. As a result, we’re seeing two central banks that are both easing policy, but one is “walking” while the other is “running.” The 125-basis-point difference between Canada’s and the U.S.’s policy rates is the largest it has been in at least two decades, and it could expand even further in the coming months, adding pressure on the loonie’s value.
Another factor weighing on the Canadian dollar is the recent change in Canada’s immigration targets. The federal government in Ottawa recently announced cuts to its immigration goals, which could slow economic growth and ease inflationary pressures, particularly in the housing market. Benjamin Reitzes notes that a cooling of inflation in key sectors like housing may give the Bank of Canada more room to cut rates even further. If the central bank moves in this direction, it could further weaken the Canadian dollar, as lower interest rates typically make a currency less attractive to international investors. The reduction in immigration targets could therefore indirectly place more strain on the loonie, as rate cuts reduce the appeal of Canadian investments.
The upcoming U.S. presidential election is also a significant factor affecting the Canadian dollar. Economic policies proposed by some U.S. candidates could introduce friction with Canada’s biggest trading partner, potentially harming trade relationships that are critical to the Canadian economy. Republican candidate Donald Trump has pledged to reimpose tariffs and adopt a more protectionist stance, which could limit Canadian exports to the U.S. and hurt the loonie. Additionally, the uncertainty surrounding the U.S. election outcome could increase risk aversion in the financial markets. A contested or disorderly election could lead investors to seek safe-haven assets, driving them away from the Canadian dollar and causing further depreciation.
Market expectations are already beginning to reflect a divergence in policy between the two nations, with the U.S. appearing more likely to maintain a steady rate policy while Canada anticipates further cuts. Reitzes points out that the market is pricing in a significant difference in policy outlooks, and there could be additional pressure if this gap widens. This divergence places the loonie at risk of weakening to levels that are typically seen only during major economic downturns, as investors might seek safer, higher-yielding assets elsewhere.
Despite these pressures, the Canadian dollar has shown resilience, trading within a range of 72 to 76 U.S. cents. However, analysts from Scotiabank believe that if this trading range breaks, the loonie could revisit lows near 68 U.S. cents, a level not seen since 2016 and 2020. While a weaker Canadian dollar could offer some advantages to exporters and provide a small boost to TSX earnings, the analysts caution that it may also have negative implications for Canadian businesses. A further decline in the currency’s value would make imported goods, such as machinery, equipment, and IT resources, more expensive. These imports are essential for Canadian firms to address productivity issues, and higher costs in these areas could impede growth and modernization in various industries.
The impact of these economic challenges is already being felt in Canadian employment, as recent data indicates a rise in unemployment insurance claims across the country. The number of Canadians receiving employment insurance (EI) benefits has increased by 6% compared to last year, and by 25% since the lows seen in early 2023. National Bank of Canada economists point out that the increase in EI claims aligns with a steady rise in the unemployment rate, suggesting that more Canadians are struggling to find work amid a softening labor market. This trend is concerning, as it signals reduced economic stability and could have further repercussions for the Canadian dollar if it affects consumer spending and overall economic growth.
Regional disparities in employment trends are also evident, with Ontario showing particularly high increases in unemployment insurance claims. Of the ten Canadian cities with the largest rise in jobless claims, nine are in Ontario. Cities such as Guelph, Toronto, and Hamilton are among the hardest hit. National Bank of Canada economists Taylor Schleich and Warren Lovely note that Ontario’s central economic hub, Toronto, is experiencing a significant increase in EI claims, which are up 40% year-to-date compared to the same period last year. This regional concentration of unemployment suggests that certain parts of the Canadian economy may be facing unique challenges, potentially adding to the loonie’s struggles if regional economic weaknesses further drag down national performance.