Posthaste: What happened to the Canadian dollar the last time the Bank of Canada and Fed parted ways
The Bank of Canada and Federal Reserve are likely to part ways soon — whether it is this week or next month — and that could mean trouble for the Canadian dollar.
While Canada’s central bank is close to cutting its interest rate, the Fed is not, and the ensuing gap between policy rates could have “knock-on effects,” economists warn.
To determine the impact of those effects TD Economics looked back at other times in recent history when the Bank of Canada has had to go it alone.
“The pertinent question is not ‘if’ the BoC can cut ahead of the Fed, but by how much,” wrote Toronto Dominion economists James Orlando and Brett Saldarelli.
Historically, a difference of 100 basis points looks to be the comfort zone, but as the following examples show the gap has sometimes yawned considerably wider.
Take the Mexican peso crisis in 1994-95, when the Bank of Canada had to slash its rate from 8.1 per cent to 3 per cent as the economy took a hit. In circumstances eerily similar to today, Canada’s GDP was so weak that supply was outstripping demand and inflation was slowing.
The U.S. economy was in much better shape, allowing the Fed to make only modest adjustments to its rate. By early 1997 the difference between the two countries’ interest rates was a “whopping 250 basis points,” said the economists.
Rising energy prices were a buffer to the Canadian dollar then, but when the Asian and Russian financial crises slammed commodity prices, the loonie fell to 63 US cents.
“To defend the loonie, the BoC hiked one last time in the summer of 1998 (by an additional 100 bps), closing the policy rate gap with the Fed,” said the economists.
The loonie fell to a record low of 62 US cents the next time the two central banks diverged. It was 1999
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