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High Canadian dollar here to stay, economists say

OTTAWA - The Canadian loonie is again flying near parity with the U.S. greenback - but this time no one is surprised and most expect the currency to remain aloft for years.

OTTAWA - The Canadian loonie is again flying near parity with the U.S. greenback - but this time no one is surprised and most expect the currency to remain aloft for years.

The dollar continued its steady climb Wednesday, at one point hitting 99.31 cents US - its highest level in 20 months - before closing just below the 99-cent level.

And unlike in late 2007 when the dollar briefly touched $1.10 US before falling back and then dropping below parity for good by July 2008, economists say the loonie isn't likely to be knocked off its perch so easily this time.

Royal Bank currency strategist David Watt believes the loonie will hover around parity for the next two or three years.

"We've taken to calling parity the new normal for the Canadian dollar," he said.

"Before, whenever there was a crisis anywhere in the world, the Canadian dollar rushed to the front in terms of getting beaten up. But now you get more talk of Canada as a safe haven."

It shouldn't come as a complete surprise. The loonie has been mostly in ascendency since 2002, when it sunk as low as about 62 cents US.

The recent surge faces two tests in the next week, starting with Friday's inflation report, followed by Bank of Canada governor Mark Carney's speech to the Canadian Association for Business Economics next Wednesday.

Both promise to exert a downward draft on the currency - Friday's prices data is expected to show annual inflation dropped half a point to 1.4 per cent, which will give Carney the flexibility to reaffirm his pledge to keep the policy interest rate at the historic low until July.

But it won't much matter, says the TD Bank's deputy chief economist, Craig Alexander.

Fundamentals, rather than events, are filling the loonie's sails now, as opposed to 2007, when the currency overshot its rational level because of weakness in the U.S. dollar and sentiments that oil prices had no ceiling.

Today, the U.S. greenback is holding steady against most currencies and oil prices, while rising, are nowhere near the record $147 a barrel reached in 2008. On Wednesday, world oil prices rose to US$82.80 a barrel, a gain of $1.10.

Alexander agrees that Canadians, particularly businesses, are going to have to get used to operating at currency parity with the U.S.

Industry Minister Tony Clement says many firms have already made the adjustment.

"What we're seeing is that Canadian manufacturers and other exporters are learning to live with the higher dollar," he told reporters.

"And they are increasing their labour factor productivity, which is all good news."

Statistics Canada reported Tuesday that productivity - the Achilles heel of the Canadian economy - jumped a surprising 1.4 per cent in the last three months of 2009, the biggest increase in a dozen years.

Productivity gains are crucial because they enable Canada's economy to grow even if the labour force starts shrinking, as is expected with boomers moving into retirement.

Adding to the recovery trend, the agency said Wednesday that wholesale sales had their strongest advance in three years in January, gaining three per cent to $44.4 billion.

The Canadian economy is not all the way back from the recession, but its initial spurt is stronger than expected. The five per cent gross domestic product increase in the fourth quarter of 2009 appears to gathering momentum in the first three months of 2010.

More to the point, said Alexander, is that the Canadian economy is performing better than the U.S. economy, which reflects well on the currency valuation.

"The reality is the domestic side of the Canadian economy is much stronger, (and) the Canadian financial system is operating normally, whereas the U.S. system isn't," he explains.

"The strong Canadian dollar is here to stay."

In comments in London on Tuesday, Finance Minister Jim Flaherty credited his government's relatively strong fiscal position despite a record $54-billion deficit this year. National debt relative to the size of the economy is headed to a level only half that of the U.S., and one-third that of some European countries.

Also pushing up the currency is the perception that Canada's resource-based economy will continue to benefit from high oil and mineral prices.

Until recently, both Flaherty and Carney had been warning that the strong currency could derail the recovery.

But on Tuesday, Flaherty called the current level of the currency "competitive," suggesting there has been a reconsideration of how damaging a high-flying loonie will be to the recovery.

A recent Conference Board analysis argued that while a strong dollar remains a net negative, many firms in the key manufacturing, mining and the oil and gas sectors had "internationalized" operations, so as to hedge against currency volatility.

The last piece of the puzzle for the dollar's staying power may be psychological. It's been there before and the sky didn't fall, Watt said.