"The Canadian dollar, like the currencies of most industrialized nations, operates on the basis of a floating exchange rate, which means that the price of a Canadian dollar fluctuates according to market conditions. A floating currency is a key component of Canada's monetary policy framework, helping the economy to adjust to shocks and playing an important part in the transmission of monetary policy.  Neither the government nor the Bank of Canada target any particular level for the currency, believing that this should be determined by the market."  The preceding quote was taken directly from the Bank of Canada's policy statement on "Intervention in the Foreign Exchange Market."  However, as the Loonie continues to trend higher, how does BOC head Mark Carney balance a currency that, in his own words, "... act as significant drag on the economy" (January 2010) as well as the BOC policy?  What card does Carney have left to play? 

    The last time the Bank intervened in foreign exchange markets to effect movements in the Canadian dollar was in September 1998.  Prior to September 1998, Canada's official policy was "to intervene systematically in the foreign exchange market to resist, in an automatic fashion, significant upward or downward pressure on the Canadian dollar."  Simply put, the BOC did its best to keep the Loonie consistent, not pegged like China's currency, but less volatile then we see today.  In September 1998, the policy was changed because of the ineffectiveness of intervening to resist movements in the exchange rate caused by changes in fundamental factors. Today Canada's current policy is, "to intervene in foreign exchange markets on a discretionary, rather than a systematic, basis and only in the most exceptional of circumstances."  Though this seems like a very open-ended policy, the cautiousness of the BOC coupled with the preceding policy translates into nothing done over the last ten plus years.  Despite lows near 1.70 and highs of nearly .90 (all numbers versus the USD), the BOC did nothing.  Is today any different?  Despite the near 80 cent fluctuation in the Canadian dollar over the past 10 years, the currency has generally followed the peaks and troughs of the Canadian economy as a whole.  Today the economy is slowly climbing out of one of the worst economic troughs of the past 60 years, but the Loonie continues to hang around par with the US Dollar.

    This is clearly not the right time to see par with the USD.  According to one estimate, every 1 cent increase in the Loonie against the Greenback costs the country $2 Billion in export revenue and 25,000 jobs.   The chief economist for CIBC, meanwhile, has warned that many companies are in the process of making long-term direct investment decisions, and could be discouraged from locating in Canada because of perceptions that its currency will remain strong for the immediate future: “If the loonie is overvalued for a few years, we may be sacrificing business plant and equipment on the altar of a strong currency.”  Investors and speculators alike have concluded that the BOC was not prepared to put its money where its mouth was, so to speak. The term “jawboning” has become the preference of columnists and investors when discussing the resolve of the BOC. The belief was that the BOC had concluded that intervention was essentially a futile proposition (based on its failed efforts in the late 1990’s), and that it would instead resort to making idle threats.  However, Mark Carney should follow the lead of the Swiss Central Bank, which ultimately and successfully intervened on behalf of the Franc in recent years.  The BOC needs to stop talking the Loonie down and actually take measures to push the currency weaker.  Carney should exercise the last paragraph of the BOC's "Intervention in the Foreign Exchange Market Policy".  This states, "If the government and the Bank want to moderate a decline in the relative price of the Canadian dollar, the Bank will buy Canadian dollars in foreign exchange markets in exchange for other currencies, mainly U.S. dollars, which come from the Exchange Fund Account. This boosts demand for Canadian dollars and helps support the dollar's value." It continues to denote that, "to make sure that the Bank's purchases do not take money out of circulation and create a shortage of Canadian dollars, which could put upward pressure on Canadian interest rates, the Bank "sterilizes" its purchases by redepositing the same amount of Canadian-dollar balances in the financial system."  This proposed action does not have to be implemented often, but it does need to be done in order to show the market that the BOC is not all talk, but indeed action.