“Time to stop fretting over the Canadian dollar”

February 11, 2010 · by wciecon · in International · 25 Comments

That's the title of a column I wrote for Canadian Business. Go read it – there'll be doughnuts.

http://media.entertonement.com/embed/OpenEntPlayer.swf

Mmm Donuts sound bite Homer Simpson sound bites

25 comments

westslope · February 12, 2010 - 6:51 pm · Reply→

Fine, but I think pitching the economy in the direction of even greater dependence on windfall resource extraction will cause problems in itself, especially the boom-bust cycles. The commodity boom, exacerbated by stimulative fiscal policy, is behind this premium-valued Canadian dollar. Commodity-driven regional labour market cycles can be messy affairs. The high rates of migration can potentially hammer community-level Social Capital.
Now if we took all the pundits in Canada and cut their wages by over 2/3 every time there is a major slump in commodity prices, then I think we would be heading in the direction of a sustainable policy system. For realism, a greater percentage of pundits would be required to become victims of property crime and violent crime. Some of them would have to vacate the tonier parts of town in order to live like “real Canadians” in resource towns.
If more cyclical risk is carried by pundits, one would expect the net-present value (NPV) of their wages to go up. Sounds like an attractive deal, no?
Stephen Gordon · February 12, 2010 - 6:54 pm · Reply→

If and when commodity prices fall back down, we can fall back to the 1990’s strategy. In the meantime, why not take advantage of the benefits that the world is willing to give us?
westslope · February 12, 2010 - 7:21 pm · Reply→

I agree. But why use policy to further accentuate the symptoms of the Resource Curse?
When you say “take advantage”, do you mean privately or socially? Some of the resource sectors are among the most highly subsidized in Canada.
Even the mining sector–a tough one for public policy to screw up–is probably only earning a fraction of the potential per capita rents for Canadian citizens, the ultimate owners of these public resources.
Can one be concerned about the chronic low productivity growth issue and unconditionally welcome, even encourage, a greater reliance on natural resource extraction?
Stephen Gordon · February 12, 2010 - 7:27 pm · Reply→

The resource curse is more of a problem where governments and public institutions are weak, not for countries like Canada and Norway.
And I’m not advocating a policy to subsidise resources; I’m warning against policies designed to deny ourselves of the benefits of high resource prices.
Just visiting from macleans · February 13, 2010 - 12:53 pm · Reply→

In this context, why would the Chinese Gov’t maintain an artificially low value for the yuan, if you believe some economists that it is? I thought it was generally to keep their exports cheap, and undermine the long term manufacturing capacity of its main customers.
They are great at reverse engineering, and it seems to me, are moving up the value chain as a result of having so much of the world’s production there (doing more and more of the design work, R&D as opposed to simply cheap labour for mass production which was the initial drawing card).
westslope · February 13, 2010 - 2:27 pm · Reply→

Fair enough, I understand that you are not advocating resource subsidization.
I also agree that Canada does a better job than some miserably poor developing countries at managing natural resources. But isn’t it the richness of central Canada that allows us to finance the silliness of Newfoundlanders, for example?
Premier Danny “Chavez” Williams gets to hold up major resource projects for years at a time at enormous costs, because he knows that Central Canada and now Alberta are committed 100% to underwriting him. This is the region that suffers through a major home-grown, tax-payer-financed fish stock collapse, gladly receives the billion plus in bail-outs and then proceeds to rapidly increase the total number of licenses for new fisheries and along the way cannot credibly commit to quotas. All the time shrilly pointing fingers at the federal government for impossible to manage situations brought on by Newfoundlanders and other coastal-dwelling Canadians themselves.
Incidentally, this coastal Canadian focus on resource extraction has parallels in the emphasis many 3rd world countries mistakenly place on agriculture as a motor of development. Maximizing social returns from the agricultural sector means that most peasants and workers need to find employment in another sector in order to thrive.
This “Curse” is also prevalent north east of Quebec City along the lower shores of the St. Lawrence River and the Gaspé peninsula.
And how about the way Quebec and other provinces manage softwood lumber and pulp and paper? Do transfer payments underwrite this policy of implicit input maximization?
Do you know how to consistently find regions with high structural unemployment in Canada? Look for rural and small town people living near an ocean. Maybe we should re-label Canada’s problem the “Ocean Curse”?
Sure, Canada is not a Venezuela or a Democratic Republic of the Congo (DRC) and Canada certainly does not have the thorny Neo-Malthusian problems of central Africa, for example.
The other problem is the implicit notion that pundits regard these sectoral shifts as an undergraduate microeconomic problem where we simply ignore the costs associated with shifting resources. Yes, many Canadian economists admire the hire ‘n fire flexibility that famously characterizes the US labour market. Indeed, overbuilding natural resource extraction capacity may be inevitable in any kind of policy setting except Canadians righteously exploit policy to chronically overbuild capacity. This may not be a big deal in many manufacturing and service industries. It is a huge, costly deal in resource extraction industries where the issue is often not about liberating a few workers but closing down entire communities.
This is a tough policy environment. The Americans still believe that “kill and take” is a good energy security policy despite the glaring evidence to the contrary. If the Americans ever credibly commit to fiscal sanity and energy conservation, Canada could be looking at a number of moth-balled oilsands projects in northern Alberta and Saskatchewan.
The man in the street in western Canada seem to believe that the US will be willing to pay some percentage more for secure “friendly” Canadian oil versus Arab “terrorist” (sic) oil. I beg to disagree. Given that forward capacity continues to build in the oil market, multi-year price slumps are a real possibility.
The average intello in Montreal, Toronto or Calgary might hopefully point to the Peak Oil hypothesis but this same individual cannot explain why benchmark oil hit US$10/barrel in the late 1990s.
Apologies for the ramble and all the conjectures.
Stephen Gordon · February 13, 2010 - 8:33 pm · Reply→

In this context, why would the Chinese Gov’t maintain an artificially low value for the yuan?
Why indeed? In this context, the answer would be that Chinese exchange rate policy is designed to preserve the political influence of manufacturing exporters. China is still one of the poorest countries in the world; it has better things to do with a trillion USD than maintain a low exchange rate.
Patrick · February 13, 2010 - 11:24 pm · Reply→

westslope: “… individual cannot explain why benchmark oil hit US$10/barrel in the late 1990s. ”
You might want to read Twilight in the Desert by Matthew Simmons.
Rob · February 14, 2010 - 7:51 am · Reply→

“You might want to read Twilight in the Desert by Matthew Simmons.”
Why? All that Simmons knows about is oil production. He’s economically illiterate. His analysis of the quantities of oil available may be ok, but his analysis of oil pricing is completely terrible, as is the case with most Peak-Oilers.
westslope · February 14, 2010 - 11:28 am · Reply→

Patrick: Have to agree with Rob. Haven’t read Simmon’s book but rather excerpts, and derivative articles. Have also read articles by industry folk suggesting his engineering estimates were way off.
And must agree wholeheartedly with Rob that Peak Oilers are for the most part economically illiterate. Perhaps a pre-condition of economic illiteracy is a necessary but insufficient condition for being a Peak Oil advocate?
For fun, listen to well known and popular billionaire Texas oilman Boone Pickens. He’s the one that wants natural gas to power automobiles. His big thing is reducing the import of oil from countries “that hate us”. He reckons that the Iraqi government in Occupied Iraq should direct all exploration and production contracts to US-based oil companies.
Patrick · February 14, 2010 - 6:35 pm · Reply→

westslope, rob : Well, I disagree with your remarks but this isn’t the place to get into it. This might interest you:

Click to access Hamilton_oil_shock_08.pdf

Simmons book isn’t really about economics, it’s about oil production. The take away is that oil markets don’t have good information. I’ll leave it at that.
Rob · February 14, 2010 - 8:35 pm · Reply→

re: Hamilton
It’s a pretty decent paper. I’m more in the speculation/bubble camp, although I do admit that there were fundamental pressures pushing up the price (demand side, more so than supply IMO). Hamilton NOW admits that speculation played a role, but still views fundamentals as the main driver, as he did at the time. I’m the opposite
Andrew F · February 14, 2010 - 10:19 pm · Reply→

I imagine the scare quotes around ‘Peak Oil’ suggests you people don’t believe that oil is an exhaustable resource? That seems to be a necessary premise to believe oil production will increase monotonically.
Rob · February 15, 2010 - 12:06 am · Reply→

Andrew F: No. This is what Peak Oilers never seem to get: no one is denying that the earth will can out of oil, since we are using it faster than it is created. The whole world knows what a non-renewable resource is. That’s not news. I repeat: the concept of a non-renewable resource is not novel, and was not discovered by Peak Oilers. Peak Oiler refers to a loony malthusian sect whose apocalyptic worldview is premised on economic illiteracy and arrived at via repeated abuse of ceteris paribus arguments. Given that pretty much everyone accepts the concept of non-renewable resources, it’s really malthusian economic illiteracy that is the defining feature of a capital “P” Peak Oiler.
westslope · February 15, 2010 - 11:41 am · Reply→

Patrick: James Hamilton (www.econbrowser.com) is a good read. I tend to agree with him on the importance of fundamentals as well as the more recent importance of speculation in driving oil prices.
Rob: I believe that demographers and similar are correct to point to regional, neo-Malthusian effects [stagnant technology, runaway population growth]. Your “malthusian economic illiteracy” is a tad provocative but upon reflection reasonably accurate and informative. Fans of Peak Oil also tend to assume that critics are raging materialists. Wrong again.
Here’s the one potential policy lesson from the Peak Oil hypothesis that western Canadians seem to be ignoring. If we leave it in the ground, the economic value may grow faster than low-risk investments. If taxes and royalties cannot accomplish that goal, then costlier environmental regulations can.
If Canadians chose to increase the social return of Canada’s petroleum resources, then there would be less upward pressure on the dollar and lower sectoral adjustment costs. (Please note my unabashed imperialism: social costs include environmental costs.)
Jim Rootham · February 15, 2010 - 9:31 pm · Reply→

My reading of that article is that you were assuming that the Canadian economy is aggregate supply limited.
What evidence do you have for this assumption?
If the economy is demand limited then putting unemployed furniture makers to work creating furniture for export will also increase the demand for doughnuts, thus reducing unemployment in that sector as well.
Thus we are actually better off with a low dollar, because the economically marginal among us will be much better off (and I don’t care about the effectively reduced incomes amongst the rich).
Andrew F · February 15, 2010 - 11:23 pm · Reply→

Rob: So oil production won’t peak? It will increase monotonically? I think you’re suggesting that all Peak Oil types are kooks, which is not true. It is entirely reasonable to expect oil production to peak, simply because the easy stuff will all be extracted, and the hard stuff is harder to get at than using sunlight. It is certainly not reasonable to project the collapse of human civilization.
Patrick · February 16, 2010 - 1:26 am · Reply→

I was skeptical that speculation could have played any role in the last oil price runup – after all, if I make a bet with someone that prices are going up, and she takes the other side and bets prices are going down, how can the possibly effect the spot price? Then I found out that the futures price for oil is in some cases actually used to determine the spot price. Ugh. Feedback.
westslope: If we leave it in the ground, and the economic value increases faster than low risk investments (e.g. TIPS), everyone would want a call option on the $CDN in the hope of making a quick buck when the trying to guess the date when we open the floodgate. Not sure if this would affect $CDN, but off the cuff it strikes me that it might cause our exchange rate to be higher than it would be otherwise.
Rob · February 16, 2010 - 9:12 am · Reply→

“Rob: So oil production won’t peak? ” No, I never said or implied that in any way.
“It is entirely reasonable to expect oil production to peak” Yes, as I said earlier.. everyone understands what a non-renewable resource is. Earth to the Peak Oilers: It’s not news. This is like how goldbugs think that they are the only ones in the world who realize that banks “make money out of thin air”, and that if everyone else just understood that, they would be goldbugs too.
“It [oil production] will increase monotonically? ” No but neither will demand – a point that seems to be far beyond the comprehension of Peak Oilers.
“that all Peak Oil types are kooks” Not every Peak Oiler is a full-on kook, although a sizable chunk of them are. Just like there are “normal” (albeit stupid) people who casually believe in Mayan calendars/2012, 9/11 truth, etc. there are normal people that get drawn into the Peak Oil worldview.
Jim Rootham · February 16, 2010 - 11:20 am · Reply→

Well, there are 2 issues with the Peak Oil.
When will it happen?
What will the consequences be?
On the first point the conventional wisdom is “some time in the distant future” while Peak Oilers say “already happened, or very soon”. On this point I think the Peak Oilers have a better case.
It’s the apocalyptic economic consequences that some of them posit that are out to lunch. OTOH I don’t think the consequences will be trivial.
westslope · February 16, 2010 - 12:58 pm · Reply→

Since the Peak Oil theory got started, the oil-rich province of Alberta has gone through…. how many crack-cocaine-style boom ‘n bust cycles? Three?
And how many more crack-cocaine style cycles will the province of Alberta go through in the next three decades? The global oil market by itself could deliver a couple of more busts. If the Americans wise up to the fact that their Mid-East policy of killing and taking to shore up energy security is a multi-Trillion dollar failure, they may introduce a schedule of northern-European level excise taxes on dirty fuels (gasoline, diesel) that could deliver, once again, another huge bust for Alberta as well as recent petroleum-power Saskatchewan.
Andrew F · February 16, 2010 - 4:27 pm · Reply→

Rob: then what exactly is crazy about ‘Peak Oil’? We agree that oil production will peak, and that is all Peak Oil says. Most say that it looks like the peak is nowish, which by all accounts from trustworthy sources seems reasonable if not assured. Some people who push the Peak Oil message assume this means economic armageddon. I think it has the potential to push up energy prices in the medium term. That likely means that the billion or so people who currently live in grinding poverty may be about to face a significant worsening in their quality of living, given that petroleum based agriculture will increase in cost. It seems to me that the wealthy billion or so will make out relatively unscathed. It’s not terribly fair, but there it is.
Tim · February 17, 2010 - 3:26 am · Reply→

While this is slightly off topic I felt like I had to mention the recent comments MP and former Foreign Minister Maxime Bernier made recently about returning Canada to the Gold standard. I find ironic that Bernier represents and is beloved in his riding of Beauce which just happens to be last place in Canada that was represented by the Credistes/Social Credit(Fabien Roy). Again not to get off track from the surface the Beauce seems like a really odd place at least electorally, I know there was some discussion a few month back about the final years of the Credistes. After Fabien Roy lost the seat in the 1980 snap election it was held by Liberals until 1984 when Gilles Bernier Maxime’s father held it as a PC until 1997 surviving the 1993 massacre after being kicked out of the PC’s by Kim Campbell for corruption charges and being forced to run as an independent which resulted in him still being reelected in 1993.
http://www.maximebernier.com/en/2010/01/ancrer-la-monnaie-dans-lor/
Video about Social Credit’s last stand in Beauce
http://archives.cbc.ca/politics/federal_politics/clips/6515/
It’s really odd how such a hole in the wall place such as the Beauce has such an outsized impact on recent Canadian history
westslope · February 17, 2010 - 1:14 pm · Reply→

Tim: Your comment is completely OFF TOPIC. 🙂
I would suggest that the Beauce is having an out-sized impact on Canadian political entertainment. Am not aware of too many people that take Maxim Bernier seriously. Though his conservative pro-entrepreneurial attitude lines up well with the prevailing attitude of many Beauceons. (sp?) In many other regions of Quebec, a top-down, centralized intrusive state approach to managing business is popular.
FWIW and still very much OFF-TOPIC, the Beauce region is drop-dead gorgeous. It sits between Quebec City and the Maine border. The rolling Appalachian foothills are particularly stunning in the autumn months. The people are friendly, hospitable and do not get complicated about the accent of “square heads” like yours truly who mastered quebecois French late in life. (Psst! Don’t tell anybody.)
Tim · February 17, 2010 - 2:16 pm · Reply→

Thanks,
Sorry for getting everyone off track. I wasn’t actually trying to talk too much about Bernier. It’s just interesting how concepts such as social credit and strict monetarism become popular fads just like peak oil is today only to fade away after a few years. The discussion I was refering to a few months ago on WCI was actually about people’s surprise that Social Credit has not even in the furthest extremes of politics come back as a point of discussion during this economic downturn. Having said that I don’t know of any other former G7 Foreign Minister to come out in favor of return to gold.
Bernier’s blog interestingly enough is actually getting some limited attention from the far right/tea party crowd in the US.