November 21, 2014 | In: Opinion

Canada’s Economy Is Heading for Rapid Inflation

If you haven’t been living under a rock these past few weeks, you probably have noticed that the Canadian dollar is falling rapidly, despite some spikes here and there (and these spikes are caused by speculators, and not by tangible factors).

Ever since Saudi Arabia fixed the oil price at $77, the Canadian economy became in peril. Why? Well, first of all, and regardless what anyone here in Canada thinks, the Canadian economy is not a diversified economy, it’s an economy that is highly dependent on oil (from oil sands). And, in case you don’t know, oil has to be above $60 for Canadian oil companies to make any money. Granted, oil is now hovering around the $80, so these companies are still making profit, with no reason to panic, but it’s a fact: profits are down.

The federal government has made some serious decisions affecting the Canadian economy for nearly a decade now based on 2 assumptions: USD/CAD Parity and high oil prices. Both of these assumptions are no longer accurate, which means that the debt will start growing, which means that the Canadian economy will no longer look attractive for mega investors, which means that the Canadian dollar will no longer mean a “bull” dollar, which means that we’re heading for inflation.

Inflation, of course, will cause everything to become more expensive, especially fruits and vegetables which are mainly imported from the US (in USD). This means that the purchasing power of the CAD will drop (because everything else will follow), which means that, at one point, the Bank of Canada will start flattering the idea of increasing interest rates.

A 1% rate increase will be insignificant to stem the inflation that is heading our way. 4% or 5% would be a start, and such a rate increase will create another problem: high mortgage rates. Most of the people I know, who have mortgages, will literally become bankrupt if the bank increases their rates by a mere 2%. Imagine what will happen if the rate increase is double that number (4%), and you will get an idea what will happen to the Canadian economy.

So, the Bank of Canada will have another option, leave the current rates unchanged and allow the Canadian dollar to freefall, probably until it reaches the $1.5 level (which is a sustainable level). Once that level is reached, which can happen in as little as 2-3 years, the Bank of Canada can start intervening slowly to stem further drops in the value of the CAD. Of course, this will create a mortgage crisis (which, from my perspective, is unavoidable), but it won’t be as hard as if it’s done now since there are many Canadians who make their monies directly or indirectly out of the US, which means that they will be able to afford the higher mortgage payment in CAD (A mortgage payment of $2,000 made in 2017 will be more or less like a mortgage payment of $1,400 made today).

The Bank of Canada has to choose between the lesser of 2 evils – and the lesser of the 2 is to let the Canadian dollar float, which seems to be what they’re currently doing.

If you have a large purchase in Canadian dollars at a fixed low interest rate for a long term, then now is probably the best time to do it.

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