- A rise in commodity prices
- Interest rate fluctuations
- International factors and speculation
Mechanism 1 - Canadian Producers Sell to American Buyers - American Buyers Pay in Canadian DollarsThis mechanism is quite straightforward. The American Buyers need to buy Canadian Dollars and sell American Dollars on the foreign exchange market. This causes the quantity of American Dollars to rise on that market, and the quantity of Canadian Dollars to fall. To keep the market in equilibrium, the value of the American Dollar must fall (to offset the larger quantity available) and the value of the Canadian Dollar must rise.
Mechanism 2 - Canadian Producers Sell to American Buyers - American Buyers Pay in U.S. DollarsThis one is only slightly more complicated. Canadian producers will often sell their products to Americans in exchange for American Dollars, as it is inconvenient for their customers to use foreign exchange markets. However, the Canadian producer will have to pay most of their expenses, such as employee wages, in Canadian Dollars. No problem; they sell the American Dollars they received from sales, and purchase Canadian Dollars. This then has the same effect as mechanism 1.
Now we've seen how the Canadian and American Dollars are linked to changes in commodity prices due to increased demand, we'll see if the data matches the theory.
Be Sure to Continue to Page 2 of "Exchange Rates and Commodity Prices"