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Economic Insight Plunging dollar, ultralow oil prices need not lead to disaster

The fall of the Canadian dollar is cushioning the impact of the collapse of oil and mineral prices on output and the balance of payments, and will lead to further growth in net exports.

Jonathan Hayward/THE CANADIAN PRESS

With a plunging Canadian dollar, collapsing oil prices, slumping stock markets and signs that the economy stalled in the last quarter of 2015, it is easy to think that we are on the cusp of economic disaster. But the state of the Canadian economy, while indeed dismal, does not justify alarmist pronouncements that threaten to make things even worse by undermining consumer and business confidence.

Ultralow oil prices are certainly a major blow to prosperity and jobs in the resource-producing provinces, and to overall exports and business investment. But we should keep in mind that the primary energy sector was a relatively small slice of total Canadian output and jobs even at the height of the bitumen boom, and that the lion's share of the capital equipment and services input needs of the sector came from the producing provinces and the United States rather than from Central Canada.

The collapse in oil prices is certainly a net negative for a major producer such as Canada, but is a net positive for many sectors of the domestic economy, for our major trading partners, and for the global economy as a whole. The International Monetary Fund has just forecast modest global growth of 3.4 per cent in 2016, which will help boost Canadian non-resource exports.

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The very low Canadian dollar, combined with a continuing recovery in the United States, still the destination of 75 per cent of our exports, has already significantly cushioned our international trade position. In the year from November, 2014, to November, 2015, our overall merchandise exports fell by just 1.6 per cent despite a 40.4-per-cent drop in the value of energy exports.

As the Bank of Canada and others note, the fall in the exchange rate is, albeit very slowly, supporting a needed restructuring of our economy toward the production of more sophisticated and higher value-added goods and services. Over the past year, automotive exports rose 24 per cent, industrial machinery exports gained 8 per cent and electrical machinery exports climbed 10 per cent. Energy products fell to 16 per cent from 25 per cent of all merchandise exports.

The further fall of the Canadian dollar to less than 70 cents (U.S.) is cushioning the impact of the collapse of oil and mineral prices on output and the balance of payments, and will lead to further growth in net exports. For example, we will probably see a significant fall in Canada's large travel deficit, which makes up one-quarter of the overall balance of payments deficit, and there are important export opportunities emerging in high-value services.

A low dollar is, of course, bad news for ordinary Canadians who want to travel outside the country, especially to the United States, and is driving grocery price inflation to close to 4 per cent. But the overall inflation rate was, as of November, just 1.4 per cent on an annual basis, due mainly to falling energy prices, and the Bank of Canada judges that inflation will remain well below the 2-per-cent target despite the recent accelerated depreciation of the Canadian dollar.

The low dollar is not leading to a major loss of national and household wealth, as many seem to fear, since Canadians have significant net holdings of foreign and U.S.-dollar-denominated financial and real assets that are now worth more in terms of Canadian dollars. Canada is not carrying high levels of foreign debt.

Another major reason not to panic about the state of the economy is that the federal government has the fiscal capacity and, hopefully, the determination to significantly boost infrastructure investment and spending on some income support programs. The Bank of Canada has forgone a rate cut in the expectation that the forthcoming federal budget will deliver a boost to growth.

Large, well-designed and timely fiscal stimulus, especially one targeted to harder-hit regions, will have more effect on the economy than a further tweak to monetary policy, while also serving other goals such as raising productivity and tackling climate change.

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We are undoubtedly facing tough economic times. The oil price collapse is a short-term blow, but also underlines and magnifies the importance of making a major long-term economic transition to a more innovative, productive and environmentally sustainable economy.

These challenges are ultimately manageable and need not involve a major blow to jobs or to the living standards of Canadians. We are not on the brink of the apocalypse.

Andrew Jackson is an adjunct research professor in the Institute of Political Economy at Carleton University in Ottawa and senior policy adviser to the Broadbent Institute.

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