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Maclean’s Article on PPP and the Canadian Dollar

Mike Moffat argues in an interesting Mclean’s magazine article that the Canadian Dollar is not necessarily overpriced simply because it is trading roughly 20% over prices implied by PPP.  Mike argues that transactions costs and the indeterminacy of market prices make PPP irrelevant as a measure of the value of a currency and points out that the Loonie has been trading well above values implied by PPP for almost all of the last decade. The article is thoughtful but we think it misses an important concept by focusing exclusively on Consumer PPP.  A more reliable measure in currency forecasting is Producer PPP as shown in the figure below.  The yellow line shows the % divergence of the value of our Dollar relative to Producer PPP.  Clearly, while Consumer PPP has not been a viable guide to the relative value of the Canadian Dollar, Producer PPP has in fact been a very good metric with the Loonie not diverging from its implied value at any point in the last year by more than roughly 5%.  Interestingly, as the graph below indicates, Producer PPP suggests that the Loonie is fairly priced at the moment.

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