Welcome Back the Mighty U.S. Dollar
The North American stock markets saw modest gains on Thursday, but they were gains nonetheless. But the star was the U.S. dollar, scoring big gains over most major currencies. The big loser was the Canadian dollar. Indeed, the CAD to USD exchange rate collapsed against the strength of the U.S. greenback.
A combination of factors is pushing the U.S. dollar higher, and faster, than at any time in recent memory. Not only does such a high U.S. currency threaten the Canadian dollar and other major currencies, it threatens to make the world overly dependent on the greenback. The effect is that global markets will suffer in 2017.
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CAD to USD and Global Markets Could Crack Under Pressure
As for the Canadian dollar, it lost another half a cent. The CAD to USD exchange rate now stands at $0.7492 U.S.
The U.S. dollar has shot up to its highest levels in over a decade after the U.S. Federal Reserve raised its key interest rate on Wednesday. It’s showing no sign of stopping, and the Canadian dollar has much room to drop.
The rate hike was expected; the CAD to USD dropping so quickly was perhaps less expected. Perhaps the Canadian dollar’s weakness comes as the U.S. Fed announced a series of successive hikes at a faster pace than anyone imagined.
The revelation of the slightly faster monetary tightening in 2017 was enough to halt the bullish momentum of the New York Stock Exchange (NYSE). The NYSE shot up following the election of Donald Trump and seemed unstoppable until the rate hike.
Indeed, the Federal Open Market Committee (FOMC) is now considering three rate hikes next year. That’s the surprise element that has exposed the CAD to USD rate, given that most analysts had anticipated just two hikes. The inevitable effect was to turbocharge an already powerful U.S. dollar.
So mighty is the greenback that it is even defying the “typical” market rules. Generally, a bullish market is associated with a weak dollar. But, apart from the temporary dip, the USD continues to gain in parallel with the Dow Jones. And that’s not all. The American currency could benefit from the repatriation of U.S. companies’ profits abroad; a tax holiday.
Trump’s tax holiday would allow American corporations and individuals to repatriate U.S. companies’ earnings from overseas operations. The total earnings held abroad by U.S. companies could amount to $2.6 trillion! (Source: “Can Trump’s New Tax Policies Lead To Higher Dividend Growth?,” Forbes, December 13, 2016.)
A good chunk of those earnings is invested in liquid assets. Therefore, they can be resold and repatriated promptly to the United States. The companies that would benefit the most are in the pharma, tech, and petroleum industries. They operate in typically dollar-dominated markets with holdings in dollars.
Some of the holdings denominated in other major currencies, like the euro, the pound sterling, or the Canadian dollar, will suffer. The kinds of amounts involved—we’re talking billions—will have a deflationary effect on those currencies.
Meanwhile, the combination of a higher nominal rate and repatriation will have the effect of reducing the supply of dollars to the rest of the world. This will accentuate the world’s reliance on the Fed’s monetary policy. It’s good for nationalism, but the dollar risks getting too high, becoming a threat to the global markets in 2017.
