MARKET UPDATE: Bank of Canada Maintains Bank Rate at 5% (7 Dec 2023)

The Bank of Canada (BoC) held rates for a third straight time on Wednesday. This maintains the cost of borrowing at 5%, the highest level in 22 years. The Canadian dollar moved higher following the decision but was unable to consolidate the gains and ended the Wednesday session unchanged.

The decision to pause was widely expected, given that Canada’s economy is stalled, and inflation has been falling. The BoC, while acknowledging that the economy is weak, nevertheless retained its hawkish bias in its rate statement.

BoC Rate Statement

Inflation Risk Remains and Rates Could Go Higher

The BoC Rate Statement said that the “Governing Council is still concerned about the risks to the outlook for inflation and remains prepared to raise the policy rate further if needed.” This was a clear and direct warning that the BoC remains concerned about high inflation and that rate hikes remain on the table.

Despite the BoC’s hawkish message to the markets, it appears unlikely that the central bank will resume its rate hikes, barring the unlikely scenario that inflation reverses directions and moves upwards.

If the BoC signalled that it planned to cut rates and was forced to backtrack and hike due to higher inflation, it would lose credibility. Also, the BoC does not want to encourage market speculation about rate cuts, since it would ease financial conditions, which could fuel higher inflation.

The markets remain convinced that the BoC’s current rate-tightening campaign is over and that we could see rate hikes in mid-2024. That means we can expect the BoC to maintain a “higher for longer” rate policy into next year, with the BoC holding rates in restrictive territory until economic conditions, notably lower inflation, warrant rate cuts.

Canadian Stock Markets and Canadian Dollar Rises but Cannot Consolidate

The Canadian benchmark stock market index, the S&P/TSX, rose marginally after the Bank of Canada rate announcement, rising as much as 112 points (0.55%) to 20,487.95. The index then lost reversed direction and closed on Wednesday down 101.72 points (0.50%) at 20,274.21.

The US Dollar against the Canadian Dollar traded on Wednesday at 1.3592 ahead of the BoC meeting and dropped to a low of 1.3548 following the meeting. The Canadian dollar could not hold onto these gains and closed Wednesday at 1.3593, almost unchanged on the day.

On Thursday, the Canadian Dollar is showing little movement and is trading at 1.3587 in the European session. S&P/TSX 60 Futures are down 7.30 points (0.59%) at 1223.80.

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#BoC policy meeting: Stick to the guidance for now (01 JUNE 2022)

 The Bank of Canada will probably stick to the script on Wednesday at 14:00 GMT, announcing another jumbo rate hike to rein in inflation. The Canadian dollar, however, may not respond aggressively as investors have factored in the rate announcement, while they also expect additional increases during the next months. That said, any warnings about the drawbacks the rate hike cycle may cause, especially on the housing market, could still generate some volatility.

Another sharp rate increase expected

The Bank of Canada (BoC) ramped up its fight against inflation in April, delivering a double 50 bps rate hike during its previous policy meeting and starting the quantitative tightening phase after a normal 25 bps increase in the preceding month. Despite that, the nonstop Ukrainian war and the exchange of sanctions between Russia and the rest of the world have further exacerbated supply jitters and caused another inflation wave, sending the headline CPI to a new three-decade high of 6.8% y/y in April. The increase in food prices has been even more pronounced and imported inflation has been spilling over in domestic markets as well, raising speculations that similar aggressive rate hikes will follow while some analysts have even blamed the central bank for being late in kicking off the tightening phase.

Governor Tiff Macklem did not rule out similar rate hikes in the future, saying that borrowing costs may need to move above the neutral range of 2-3% for a period of time to bring inflation to the target. As a result, investors have become almost certain that the central bank will repeat the super-sized 50 bps rate increase in June to 1.50% and will not stop there, with futures markets pricing in at least one more 50 bps in the coming months.

BoC to stick to its guidance despite recession fears

The above policy decision, however, will come at a time when traders are grappling with uncertainty about whether the swift monetary tightening campaign will result in a soft landing or will end up in an economic recession. Discouragingly, the housing sector, which is closely watched in the indebted Canadian economy, has started to show some signs of weakness as the ratio of household debt to disposable income fluctuates at a record high as of 2021Q4. Specifically, home sales dropped by 12.6% m/m in April for the first time in two years and the home price index edged down but remained strongly elevated on a yearly basis.

Following up, quarterly GDP growth figures on Tuesday created some discomfort after revealing a lower-than-expected annualized expansion of 3.1%, though the data did not alter rate hike expectations as domestic consumption sped up on the back of higher labor compensations, offsetting the pullback in exports from temporary supply constraints in the oil sector. The private savings rate rebounded as well, though it remained comfortably below the pandemic peak.

Overall, the Canadian economy is still in good shape and although the diminished labor pool may add constraints to economic growth, the BoC will probably wait for more data evidence that its aggressive strategy is harming the economy before it changes course.

Hence, given the status quo, policymakers will probably stick to the rate hike plan and avoid any serious language twists, and specifically the word recession, as investors are sensitive to any changes in economic outlook.

USD/CAD

Looking at dollar/loonie, the pair is facing resistance around the 200-day simple moving average (SMA) and the 1.2665 level. For the pair to bounce above 1.2700, the central bank will need to adopt a less hawkish tone, signaling potential adverse economic effects from rate increases and opening the case for an earlier slowdown in the rate hike path than analysts expect.

Otherwise, if the BoC undermines the latest deceleration in the housing market, feeling confident that the economy can absorb additional sharp rate hikes in the year ahead, dollar/loonie could plunge below the 1.2630 – 1.2600 support region and towards the 1.2500 number.

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Canadian Dollar eyes #GDP,#BoC Meeting (31 MAY 2022)

 After a 3-day rally, the Canadian dollar has reversed directions on Tuesday and edged lower. Canada releases GDP for March later in the day.

Canada’s GDP climbed in February by 1.1% MoM, the highest monthly growth rate since March 2021. The March reading is expected to fall to 0.5%. This would mark a 10th straight monthly expansion. On an annualized basis, GDP is forecast to come in at 5.4%, down from 6.7% prior. Canada has been easing Covid restrictions, which has boosted the services sector, and manufacturing and construction are also accelerating. Unless the GDP drastically underperforms, I don’t anticipate any pressure on the Canadian dollar today.

BoC set to hike by 50-bps

The focus on GDP won’t be lengthy, as attention will shift to the Bank of Canada rate decision on Wednesday. The BoC is widely expected to raise the benchmark rate by 50-bps, which would move the rate to 1.5%. This would be a second straight 50-bps hike, as the BoC has signalled that it will aggressively tighten policy in order to curb soaring inflation. CPI has ballooned to 6.8%, its highest level in 30 years, and if inflation continues to accelerate, a massive 75-bps increase cannot be ruled out.

The BoC is clearly feeling the pressure as inflation is yet to ease, and could continue delivering 50-bps salvos. The neutral range for interest rates is around 3 per cent, and the big question is will we see inflation peak before rates are that high, or will the Bank have to raise rates above the neutral range in order to wrestle down inflation, which would take a toll on economic growth. In the meantime, it’s clear that interest rates will continue to rise at the same time that the Federal Reserve is also raising rates. That means the Canadian dollar should not lose ground due to Fed tightening.

USD/CAD Technical

• There is support at 1.2608 and 1.2548
• USD/CAD is testing resistance at 1.2664. Above, there is resistance at 1.2775

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