FocusRecord-high Canada dollar hits chems hard

08 November 2007 19:32  [Source: ICIS news]

By Stefan Baumgarten

TORONTO (ICIS news)--The soaring Canadian dollar keeps squeezing profitability and competitiveness of Canada's export-oriented chemicals, plastics and related downstream sectors, top industry officials said on Thursday.

The Canadian dollar is now trading at historic highs against the US dollar with little relief in sight in the near-term, sources said.

"The chemical industry is a manufacturing industry, and the 25 to 30% rise in the Canadian dollar against the US dollar this year alone hurts our profitability," said David Podruzny, vice president for economics with industry group Canadian Chemical Producers Association (CCPA).

The US market is critical for Canada's chemicals. Two thirds of the country's chemical production is exported and the US accounts for 80% of those exports, Podruzny said.

The Canadian dollar (C$), known as the loonie, on Thursday bought over 1.07 US dollar.

The currency’s surge against the US dollar - from a low of $0.62 in 2002 to $0.90 early this year and parity with the US dollar in October – is largely driven by weakness in the US economy and the global boom in oil and commodities, which benefits western Canada, in particular Alberta.

The US Federal Reserve Bank's decision last week to cut interest rates again, strong Canadian jobs data with unemployment at a 30-year low, oil prices surging close to the $100/bbl level, and reports of China diversifying its currency reserves away from the US dollar were adding fuel to the loonie in past days.

Economists have been warning for some time about the competitive impact of the rising loonie on chemicals and other manufacturing sectors in Canada.

The currency thrives on booming commodities economies in Canada’s western province – led by Alberta’s oil and gas sector – while manufacturing in Ontario and Quebec is recording plant closures and huge job losses. Over the past four years, manufacturing lost some 250,000 jobs.

CCPA's Podruzny said with the recent surge in the Canadian dollar many chemical makers were locked into customer contracts they could not quickly adjust upwards.

At the same time, the industry is exposed to the rising feedstock and energy costs, he said.

For the most part, the strong Canadian dollar is a reflection of the weak US economy, said Podruzny, adding that the US dollar also declined against other currencies.

Under normal circumstances the US economy would benefit from the decline, were it not for its housing and subprime credit problems, said Podruzny.

With high energy prices, conditions were not favourable for a robust outlook for economies worldwide, he added and pointed to the high oil prices the early 1980s that brought on a recession at that time.

On the upside, Alberta-based petrochemicals and chemical production, at least, was benefiting to some extent as that province's oil and gas boom was also improving feedstock availability, Podruzny pointed out.

Major Canadian chemicals and fertilizer makers all noted the currency impact in their recent third quarter which ended 30 September, just before the recent additional spike in the currency.

NOVA Chemicals said the rise of the currency during the third quarter ended 30 September cost it about $11m in pre-tax profit.

The Calgary, Alberta-based petrochemicals major has a significant part of its operations in Canada, causing it to suffer higher fixed costs when the Canadian dollar appreciates against the US dollar.

Imperial Oil – the ExxonMobil-controlled Canadian energy and petrochemicals makers – noted the stronger loonie as one factor in explaining its 37% drop in third-quarter chemicals profit.

Potash Corporation of Saskatchewan (PotashCorp) said its $243m net earnings in the third quarter – the second-highest quarterly in its history – would have set an all-time record if not for the negative impacts of the strong Canadian dollar.

Fertilizer maker Agrium noted that the strong Canadian dollar increased its production costs, primarily for potash and its Canadian phosphate operations during its third quarter.

John Cummings, an independent Toronto-based petrochemicals analyst, cited the Canadian dollar as one factor in the closure of chemical plants, in particular in the latest wave hitting Quebec.

That province alone will lose four chemicals plants in the near future.

In polypropylene (PP), Basell announced it will close its plant near Montreal next year, Cummings said.

At the same time, the newly expanded INEOS-NOVA joint venture has announced the closure of its Montreal polystyrene (PS) plant.

Huntsman had earlier said it would close its expandable polystyrene (EPS) plant in Quebec by the end of the year and Solutia’s plant in Montreal would also be closing soon, he said.

The Canadian dollar was of course only one factor, said Cummings.

Others factors included size and age of plant, technology, location and freight costs to markets. Other factors included access to capital for upgrading, expansion, and research and development (R&D), the skill level of management and workers, and the productivity of plants versus their competitors.

But these would all be constant in the short run whereas the change in the exchange value of the dollar was an additional factor, said Cummings.

Feedstock and energy costs were other important factors, he added.

Dow Chemical cited lacking ethylene feedstock availability as a factor in its decision last year to end all of its production at the Sarnia, Ontario petrochemicals hub, and high energy costs have been blamed for the closure of a number of Canadian sodium chlorate facilities in the recent past.

Like CCPA's Podruzny, Canada’s large forestry sector - an important market for the country's chemicals makers - sees the appreciation of the loonie a driven by problems south of the border and not by strength in the Canadian economy.

This year alone, Canadian mills have announced plant closures with some 6,500 jobs losses, coming on top of 32,000 jobs lost in that sector since 2002, said Avrim Lazar, chief executive of industry group Forest Products Association.

The high dollar is particularly hurting the competitiveness of Ontario’s large auto and parts industry.

Canada's auto sector – a big offtaker of chemicals and plastics - is highly geared toward the US market and thus directly exposed to the troubles of the Detroit's "Big Three" domestic carmakers.

It remains unclear what, if anything, Canada can do to quickly help its manufacturing sector to cope with what some economists said was a case of the “Dutch disease.” 

The term describes, with reference to the Netherlands' natural gas boom in the 1960s, the impact of a country’s exploitation of natural resources on its manufacturing sector.

Prime Minister Stephen Harper told media on Wednesday his government was concerned about the impact of the loonie’s unprecedented rise on certain sectors of Canada’s economy but did not offer any specific proposals.

Some industry groups, Ontario politicians and media commentators keep urging government intervention, in particular interest rate cuts.

The Bank of Canada, in setting its interest policies, struggles to reconcile the contradicting needs of western Canada’s booming commodities and resources driven economies with those of Ontario and Quebec.

The Bank has acknowledged that the strong dollar and the weak US economy would cut into net exports and put a drag on the Canadian economy in 2008 and 2009 but it has, so far, maintained its target for the overnight lending rate at 4.5% - contrary to some analysts’ predictions of a rate cut.

The Bank forecasts the Canadian economy to grow by 2.6% in 2007, with slightly slower growth of 2.3% expected for 2008, and 2.5% in 2009.

Meanwhile, some investment advisors see the Canadian dollar as grossly overvalued and advise clients looking to take advantage of the situation to move quickly.

($1 = C$0.93)

By: Stefan Baumgarten
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