The widening gap between US and Canadian policy rates can lead to a decrease in the value of the Canadian dollar, or loonie, relative to the US dollar. This can be attributed to several factors, including interest rate differentials, capital flows, and trade (Moffatt, 2021).

The widening of the gap between US and Canadian policy rates can cause the loonie (the Canadian dollar) to fall and lose its value against the US dollar for a few reasons:

Interest rate differentials: When the US Federal Reserve raises interest rates, it makes the US dollar more attractive to investors looking for higher returns. This can cause investors to sell Canadian dollars and buy US dollars, which puts downward pressure on the value of the Canadian dollar relative to the US dollar.

Capital flows: When there is a significant difference between interest rates in two countries, investors may move their capital from one country to another in search of higher returns. If US interest rates are higher than Canadian interest rates, investors may move their capital from Canada to the US, which can put downward pressure on the value of the Canadian dollar.

Trade: A weaker Canadian dollar can make Canadian exports more competitive on global markets, which can help boost Canada’s export sector. However, if the US dollar strengthens significantly relative to the Canadian dollar, it can make US exports more expensive for Canadian buyers, which can negatively impact trade between the two countries.

Overall, a widening gap between US and Canadian policy rates can lead to a decline in the value of the loonie against the US dollar, driven by a combination of factors related to interest rate differentials, capital flows, and trade (Moffatt, 2021).

Reference:

Moffatt, M. (2021, January 19). Understanding how a rate hike impacts currency value. The Balance. https://www.thebalance.com/how-do-interest-rates-affect-exchange-rates-3306258