Commonly referred to as the "Loonie" by foreign exchange traders and investors, the Canadian dollar (CAD) serves as a major global currency. According to the Bank of International Settlements (BIS), the CAD is the sixth-most regularly traded currency in the world. Accounting for just more than 5% of aggregate forex daily turnover, the Loonie is frequently traded in concert with the United States dollar (USD/CAD), euro (EUR/CAD) and Japanese yen (JPY/CAD).
The CAD enjoys a respected global standing and reserve currency status. It is held internationally as the fifth-largest foreign exchange reserve, with outstanding claims valued at £120.62 billion. This value eclipses that of other reserve currencies including the Swiss franc (CHF), Australian dollar (AUD) and the Chinese yuan renminbi (CNY, RMB).
Over the course of its history, international conflict and geopolitical issues have greatly affected the Loonie. Although modern valuations of the CAD are driven by Canadian economic prowess, foreign trade and the pricing of commodities such as crude oil, world events have had periodic dramatic impacts upon pricing. From the United States Civil War to the Global Debt Crisis of 2008, valuations of the CAD have fluctuated significantly in accordance with the important happenings of the day.
History Of The Canadian Dollar: Colonisation Of North America
The origins of money in Canada date to the mid-16th century wampum trade between European settlers and the aboriginal peoples of North America. Recognised as a valuable item among natives, wampum (made up of intricate belts constructed of shells and beads) became the backbone of the North American fur trade.
By the mid-17th century, wampum was accepted as legal tender in colonial New England. It stood as a viable means of exchange in what is present day Canada until the late 17th century. Eventually, it was phased out amid the rising popularity of assorted forms of specie.
In 1817, the first paper banknotes were issued as dollars and put into circulation in Canada by the Bank of Montreal. These early banknotes were directly redeemable for specie and successfully integrated throughout settlements in British North America.
As the popularity of paper money spread, banknotes denominated in U.S. dollars, pounds, shillings and pence became widely accepted. Upon the passage of the Currency Act in 1853, both U.S. dollars and British pounds became monetary units in Canada.
(1861-1865) United States Civil War
The U.S. Civil War proved to be a challenging and pivotal time for the Canadian monetary system. Amid conflict in America, Canadian businessmen started the profitable enterprise of supplying grain and cattle to Union forces. The transactions were frequently conducted using U.S. silver coins as a mode of trade, although they were not a form of official legal tender in Canada at the time.
While initially viewed as an economic boon, the influx of silver coins posed a valuation problem. Vendors accepted the coins at parity, even though their bullion value was 2.5% below nominal value. This activity resulted in a glut of silver coins circulating in Canada, with banks in Ontario and Quebec accepting them at a discount or refusing outright.
During the mid-1860s, lagging silver values in relation to gold put additional pressure on the Canadian monetary system. Even though early versions of the CAD reached all-time highs against the USD due to fallout from the Civil War, movements to restructure the entire Canadian financial system came to the forefront of domestic policy. The eventual removal of U.S. and British silver coinage, coupled with an introduction of Canadian copper coins, promoted the idea of a uniform currency.
The Canadian dollar officially came into being with the Uniform Currency Act of 1871. The CAD existed as a decimalised, fixed form of money. Its value was pegged to that of gold, the British pound (CAD$4.8666/£1) and at parity with USD. Base denominations were dollars, cents and mills. Although fixed to the GBP and USD, the CAD was freely convertible to gold without restriction. The traditional gold standard stood in Canada as the dominant force crafting monetary policy until the outbreak of World War I in 1914.
(1914-1918) World War I
The beginning of WWI marked the end of the gold standard as the primary valuation device for the CAD. In 1914, the convertibility of paper money for gold was abandoned by organised nations around the world. The freeflow of bullion became restricted, with a variety of government-imposed regulations facing its buying and selling practices.
In Canada, the convertibility of CAD for gold was officially suspended in August 1914. In the days prior to WWI being officially declared on 4 August 1914, banks experienced severe customer withdrawals on existing gold reserves. As a response, an Order-In-Council was issued by the Canadian government declaring banknotes as legal tender. Upon the Order-In-Council taking effect, banks were able to meet depositor obligations with issued banknotes and avoid collapse.
The WWI abandonment of the gold standard had a formidable impact upon almost all international currencies. However, the CAD did not experience a dramatic fallout in terms of its value against the USD. From 1914 to 1919, the USD/CAD exchange rate held a consistent value in the neighborhood of parity. It was not until the gold standard was reinstated that the CAD began experiencing periods of instability and revaluation.
In July 1926, Canada returned to the gold standard. Numerous challenges faced international finance during the fallout of WWI, specifically plummeting commodity prices and enormous government debts. These issues made a reenactment of the traditional gold standard impossible.
When the U.K. officially exited the gold standard in September 1931, the CAD entered a period of devaluation. Immediately following the announcement, it lost more than 15% of its value against the USD. Shortly thereafter, Canada left the gold standard for a second time as of April 1933.
(1929-1935) Great Depression
The Great Depression had a profound impact on Canada and the CAD. In order to deal with the pressures created by the U.S. stock market crash of 1929, lending rates were held at a static 4.5% by governmental authorities. The subsequent economic contraction fostered a recovery in the CAD, with values reaching US$0.90 by the Spring 1932.
Criticisms over how the Great Depression years were handled by Canadian banking authorities led to the 1935 passage of the Bank of Canada Act. Under its provisions, a central bank was created and commissioned with issuing currency, regulating the financial system and managing the governmental finances of Canada.
(1939-1945) World War II
In the runup to Canada's September 1939 entry into WWII, the CAD began showing the strain of escalating international tensions. While the creation of the Bank of Canada restored confidence in the Loonie, Canada's entry into WWII brought about a 6% decline of the CAD against the USD.
In order to combat the exchange rate volatilities sweeping the globe, Canada introduced aggressive monetary controls in September 1939. The Foreign Exchange Control Board (FECB) was authorised to fix the value of the CAD to the USD and GBP. Established rates were CAD$1.10 to the USD and CAD$4.43 to the GBP. These rates remained in effect until the conclusion of WWII.
During WWII, the Bank of Canada played an instrumental role in the international storage of gold. Between the years of 1938 and 1945, foreign banks deposited 2,586 tons of gold in Ottawa for safe-keeping. The vast gold reserves, as well as the relationships with Great Britain and the United States, made Canada a premier safe haven for international liquidities.
(1944-1971) Canadian Adherence To The Bretton Woods Accords
In 1944, Canada signed the Bretton Woods Accords along with 43 other participating Allied Nations. Through the creation of the International Monetary Fund (IMF) and International Bank for Reconstruction and Development (IBRD), an indirect gold standard via a peg to the USD was established. Canada adhered to the guidelines, agreeing to hold the value of the CAD within 1% of the USD.
Upon the conclusion of WWII, the Canadian government adopted a policy of revaluation in July 1946. With the expansion of its gold and USD reserves over the course of the war, the Bank of Canada decided to revalue the CAD upwards by 9% against the USD and GBP. The CAD was subsequently priced at parity to the USD and at CAD$4.00 against the GBP.
The revaluation proved to be short-lived. In 1949, the Bank of Canada followed the actions of many countries and chose to devalue the domestic currency (CAD$1.10 against the USD).
Canada's rough adherence to the guidelines put forth at Bretton Woods ended in the early 1950s. In an attempt to restore confidence in the CAD, governmental authorities canceled fixed parity with the USD, creating friction with the IMF. The strategy proved effective, with the CAD exchange rate rising to a lofty US$1.06 in 1957.
The CAD remained a free floating currency until 1962. At that time, the government once again decided to reinstate a peg to the USD at a rate of US$0.92 with a volatility band of 1%.
Preceding the dissolution of Bretton Woods in 1971, Canada once again adopted a floating exchange rate. The new policy proved effective, as the CAD rapidly rose 5% against the USD, to a value of US$0.97. Upwards momentum continued throughout the early 1970s, with the CAD topping out at US$1.04. Adoption of a floating exchange rate ahead of the 1971 U.S. abandonment of the gold standard is widely credited with sparing the CAD much of the wild volatility experienced by other global currencies.
(1987-2008) Reaction To Global Financial Challenges
The Loonie has shown resilience in the face of several challenges experienced in the modern financial era. From Black Monday to the Global Debt Crisis of 2008, Canada's attention to its domestic currency has ensured a speedy recovery from periodic downturns.
The 19 October 1987 "Black Monday" crash in international and U.S. equities impacted markets around the globe. The fallout created losses estimated to be upwards of £355 billion and shook investor sentiment from Asia to Great Britain.
- In Canada, the Toronto Stock Exchange (TSE) fell by 17% before posting a furious recovery several sessions later.
- Amid the chaos in equities, global currencies struggled to maintain marketshare. The CAD performed well in comparison to many of the majors, only dipping moderately before making a quick recovery.
9/11 Terrorist Attacks
The 11 September 2001 terrorist attacks on New York's World Trade Centers sent shockwaves through the global financial system. Equities markets in the U.S. underwent substantial revaluation, as did many foreign currencies. Uncertainty surrounding the extent of the attacks and a pending U.S. response proved a hindrance to the valuation of many financial assets.
The CAD weathered the storm of 9/11 far better than many others.
- The USD/CAD fell from 1.572 on 11 September to 1.558 on 12 September, a moderate gain in the Loonie's value.
- The CAD also performed well against the GBP, with the GBP/CAD falling from 2.3097 to 2.2808,, representing a considerable gain for the same period.
Financial Crisis Of 2008
The Global Debt Crisis of 2008 posed a myriad of challenges to the international monetary system. Fallout from subprime mortgage lending practices in the U.S. had a profound impact on the availability of credit worldwide.
As a result, the CAD experienced a period of enhanced volatility against the USD.
- For 2008, the CAD managed to trade at or beneath parity until August. From August to the end of the year, the USD/CAD experienced significant swings in a broad range between 1.2000 to 1.3000 on the forex.
- Nonetheless, the CAD performed well against the GBP during the crisis. Rates of the GBP/CAD opened 2008 just above 1.9704 and closed the year at 1.7744.
The relative stability shown by the CAD in the face of significant financial challenges has made it a desirable holding around the world.
CAD Becomes Reserve Currency
In 2013, the IMF officially recognised the CAD as a reserve currency. Since then, its status has grown among central banks and institutional investors as one of the the world's safest currencies.
(2018) Crude Oil Sell-Off
The Canadian dollar's relative value is subject to an array of diverse market drivers. Among the largest are policy decisions from the Bank of Canada (BoC), foreign trade and economic performance. With respect to trade and economics, the energy sector is a key underpinning.
The CAD is considered to be a commodity dollar because it exhibits a positive correlation to crude oil and natural gas pricing. This is due to Canada's standing in the global energy complex:
- Canada stands as the world's fourth largest oil producer and accounts for 8% of global exports annually.
- Canada ranks as the fourth largest producer and sixth largest exporter of natural gas in the world.
- Canada's primary energy export destination is the United States, which accounts for nearly 98% of national crude oil and 100% of natural gas exports.
As a commodity dollar, or "comdoll" for short, the CAD is strongly correlated to energy prices. In fact, Canada's energy sector accounts for 10% of aggregate economic output, with crude oil being related to 8% of Canadian GDP. Given this strong dependence, the Loonie typically exhibits enhanced volatility during periods of energy market strife. One such event occurred during the crude oil market crash of 2018.
Falling Crude Oil Prices
2018 was a difficult year for oil prices as a combination of factors undermined valuations. Boosted Saudi Arabian output, the expansion of North American shale production and depressed global demand sent oil prices sharply lower. Throughout 2018, West Texas Intermediate (WTI) and North Sea Brent (Brent) crude oil experienced bearish pressure:
- For the year, both WTI (-25.0%) and Brent (-19.5%) sustained heavy losses.
- During the fourth quarter of 2018, oil prices fell more than 30%.
- 2018's downturn produced the worst annual loss since 2015.
The 2018 crude oil market crash brought negative sentiment to the Loonie. The result was an annual devaluation versus the USD and mixed performance against the forex majors:
- The USD/CAD rallied by 8.4%, closing near yearly highs.
- EUR/CAD rates rose by 3.5% annually.
- GBP/CAD values favoured the Loonie, falling 2.3% on the year.
- The CAD/CHF traded bearish, trending south by 5.2%.
Past performance is not indicative of future results.
As illustrated by 2018's oil market selloff, plunging energy prices can negatively impact the CAD. The drivers of energy are complex, with geopolitics, armed conflict, as well as the prevailing economic cycle all contributing to volatility. Accordingly, a wide range of world events can impact the energy markets, and in turn, the Canadian dollar.
(2020-Present) The COVID-19 Pandemic
The onset of the novel coronavirus (COVID-19) contagion during March 2020 deeply impacted the world's financial system. Mass capitulation became commonplace due to traders and investors acquiring USDs to mitigate systemic risk exposure. As the pandemic progressed throughout 2020, asset values across the board were impacted, including those that directly influence the CAD.
Capitulation Leads To Weakness In The Loonie
During the initial stages of COVID-19, forex participants flooded into the USD. The result was a March 2020 spike in the USD index, with values challenging multi-year highs (102.99). For the Canadian dollar, bearish sentiment versus the majors dominated March 2020:
- The USD/CAD rallied 4.81% and tested 2016's high.
- Forex traders preferred the euro to the Loonie, driving the EUR/CAD north 5.02%.
- Traditional safe-haven the Swiss franc gained ground on the Canadian dollar, as shown by the CAD/CHF plunging 5.04%.
- The NZD/CAD traded flat, gaining a modest 0.23%.
Past performance is not indicative of future results.
Unfortunately for holders of the CAD, March 2020 proved to be an exceptionally challenging period. A multitude of factors played into the weakness, specifically new trade barriers due to lockdown, the exodus to safe-havens, and a swift downturn in the price of crude oil.
Oil Prices Go Negative
Perhaps one of the most notable economic events stemming from COVID-19 was the oil market crash of April 2020. To battle viral spread, governments around the world swiftly instituted lockdowns, travel bans and large-scale quarantines. As a result, the international demand for crude oil fell and uncertainty dominated the global energy complex.
April 2020 proved to be a historic period for the crude oil markets. Driven by a 3 million barrel per day drop in Chinese demand and a 1.7 million barrel per day increase in OPEC production, the international oil markets became over-saturated. In fact, U.S. stockpiles rose to a record of 535.2 million barrels as demand went largely offline due to COVID-19.
Faced with limited storage capacity and alarming demand uncertainty, both Brent and WTI crude oil fell precipitously throughout March and April 2020. On 20 April 2020, the COVID-19 oil panic reached a crescendo as WTI crude oil futures plunged to a record low of -US$40.32 per barrel.
The historic crude oil market crash spiked short-term volatilities for the CAD:
- Amid the 20 April 2020 oil market meltdown, selling plagued the Canadian dollar. In the session, the USD/CAD (+1.08%) and EUR/CAD (+0.94%) rose as participation increased against the Loonie.
- Weak oil prices and COVID-19 uncertainty contributed to a whipsaw April 2020 for the CAD. However, the Loonie proved resilient as both the USD/CAD (-0.81%) and EUR/CAD (+0.17%) closed the month well off March's panic highs.
Past performance is not indicative of future results.
The Loonie's standing as an energy-based commodity dollar proved detrimental during the onset of COVID-19. As global economic activity contracted and the oil markets plunged, the CAD struggled to establish solid footing.
Although March and April 2020 proved to be a challenge for the Canadian dollar, valuations improved as the COVID-19 financial panic waned. By year's end, the oil markets stabilised and the optimism surrounding vaccines and herd immunity sparked positive sentiment. Subsequently, 2020 proved to be a mixed year for the CAD against the forex majors:
- Rates of the EUR/CAD (+7.01%) and NZD/USD (+2.8%) closed the year in the green while the USD/CAD (-1.6%) posted a loss.
- Performance lagged against the Swiss franc and British pound, with values of the CHF/CAD (+7.1%) and GBP/CAD (+1.3%) moving higher.
Past performance not indicative of future results.
Even though the angst of COVID-19 dominated the world of finance throughout 2020, the first half of 2021 proved positive for the markets. As optimism over a return to economic normalcy grew, asset classes across the board saw appreciations in value. For the Canadian dollar, an uptick in crude oil prices sparked nice gains against its forex counterparts from 1 January 2021 to 1 July 2021:
- The USD/CAD trended south, losing 2.5% over the first half of 2020.
- Performance against eurozone currencies was strong, as evidenced by action in the EUR/CAD (-5.5%), CHF/CAD (-6.9%) and GBP/CAD (-1.3%).
Past performance not indicative of future results.
Since its beginnings in the North American wampum trade, the Canadian dollar has proven to be a resilient mode of exchange. In the face of world wars, an evolving gold standard and the occasional international crisis, the CAD has earned a reputation as a dependable asset in times of financial turbulence.
FXCM Research Team
FXCM Research Team consists of a number of FXCM's Market and Product Specialists.
Articles published by FXCM Research Team generally have numerous contributors and aim to provide general Educational and Informative content on Market News and Products.
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