Forex Investing: A Short Guide to Commodity Currencies
Unlike a precious metal like gold or silver, a commodity currency is slightly more complex than just a simple commodity on its own. At its most basic definition, a commodity currency is money that is strongly influenced by the price movements of one main commodity. In other words, if a commodity currency’s underlying commodity declines in price, the associated money is likely to devalue and vice versa.
Which Countries Have Commodity Currencies?
The initial assumption that most people have about commodity currencies is that they are only found in developing countries with a weak to moderate economy. While this way of thinking is certainly fair, especially since so many small countries rely on one major commodity export to boost their economy, the truth may surprise you.
Developing countries like South Africa (rand), Norway (krone), and Colombia (peso), all place a lot of faith on their total oil export – but so does Canada. In other words, the Canadian dollar is also labelled by many to be a commodity currency.
What Types of Commodities do Currencies Get Paired to?
For the most part, high economic impact commodities are typically natural resources such as metals, lumber, and agricultural products, and oil. From this viewpoint, you can safely assume that a country’s money – if they are labelled as a commodity currency – will be paired to some version of the ones above.
The Canadian dollar is strongly linked to mineral fuels (oil) because this product and its derivatives are a major export for the nation. Thus, throughout recent history our country’s economic strength has been paired with the performance of how the Canadian oil market is doing.
Are Commodity Currencies Good or Bad?
To tell you the truth there is no black and white answer. Determining whether or not commodity currencies are unfavourable depends on which angle you approach the topic from.
From an environmentalist perspective, commodity currencies can lead a country to managing their natural resources better. A country whose money value stems from a natural source needs to effectively maintain that source so it keeps producing. For instance, countries like Canada place a huge emphasis on environmental accountability so that their oil and lumber production is sustainable.
With that being said, from an economics viewpoint the idea of a commodity currency can be troubling. If the underlying commodity markets perform well, the paired currency also does well, and the opposite is also true. Since the Canadian dollar is so closely linked to the nation’s oil market, if our national oil sales do well then so does our dollar – but times where oil under-performs easily lead to a weaker dollar.
Commodity Currencies Around the World
At the end of the day, the amount of direct influence a commodity will have on the Canadian dollar is based on the fraction of GDP it contributes to. Traders who specialize on the foreign exchange markets thrive off of this concept, since they can follow a country’s money value by looking at their paired commodity. In Canada’s case, the answer would be to look at oil.
Here are a few other examples of popular commodity currencies: