USD/CAD ticks lower to near 1.4420 as BoC unlikely to continue reducing rates by 50 bps
- USD/CAD trades subduedly as the Canadian Dollar outperforms on upbeat domestic employment data for December.
- The US Dollar remains firm as traders pare Fed dovish bets after upbeat US NFP data.
- Investors await the US inflation data for December for more interest rate guidance.
The USD/CAD pair edges lower to near 1.440 in Monday’s North American session. The Loonie pair ticks lower as the Canadian Dollar (CAD) exhibits strength after Canada’s surprisingly upbeat labor market data weighed on market expectations for the Bank of Canada (BoC) to continue reducing interest rates at a larger-than-usual pace of 50 basis points (bps).
The Canadian employment report showed a robust addition of laborforce alongwith a sharp decline in the jobless rate. However, a one-time good employment report appears to be insufficient to allow the BoC to pause its policy-easing cycle.
The Loonie pair falls marginally even though the US Dollar (USD) extends its winning streak for the fifth trading session on Monday and posts a fresh over two-year high, with the US Dollar Index (DXY) rising above 110.00.
The Greenback performs strongly as traders expect that the Federal Reserve’s (Fed) current interest rate cut cycle has paused for now. According to the CME FedWatch tool, the central bank is expected to keep interest rates in the current range of 4.25%-4.50% in the January, March, and May policy meetings. Meanwhile, traders are divided for the policy meeting in June.
Market participants have pared Fed dovish bets on the back of upbeat United States (US) Nonfarm Payrolls (NFP) data for December. The data showed that labor demand was surprisingly stronger than November’s reading. The Unemployment rate came in lower at 4.1% than estimates and the former release of 4.2%.
Investors should brace for more volatility in market expectations for the Fed’s monetary policy outlook as the US Consumer Price Index (CPI) data for December is lined up for release on Wednesday. Recent commentaries from Fed officials have indicated that they are concerned about a slowdown in progress in the disinflation trend.
Canadian Dollar FAQs
The key factors driving the Canadian Dollar (CAD) are the level of interest rates set by the Bank of Canada (BoC), the price of Oil, Canada’s largest export, the health of its economy, inflation and the Trade Balance, which is the difference between the value of Canada’s exports versus its imports. Other factors include market sentiment – whether investors are taking on more risky assets (risk-on) or seeking safe-havens (risk-off) – with risk-on being CAD-positive. As its largest trading partner, the health of the US economy is also a key factor influencing the Canadian Dollar.
The Bank of Canada (BoC) has a significant influence on the Canadian Dollar by setting the level of interest rates that banks can lend to one another. This influences the level of interest rates for everyone. The main goal of the BoC is to maintain inflation at 1-3% by adjusting interest rates up or down. Relatively higher interest rates tend to be positive for the CAD. The Bank of Canada can also use quantitative easing and tightening to influence credit conditions, with the former CAD-negative and the latter CAD-positive.
The price of Oil is a key factor impacting the value of the Canadian Dollar. Petroleum is Canada’s biggest export, so Oil price tends to have an immediate impact on the CAD value. Generally, if Oil price rises CAD also goes up, as aggregate demand for the currency increases. The opposite is the case if the price of Oil falls. Higher Oil prices also tend to result in a greater likelihood of a positive Trade Balance, which is also supportive of the CAD.
While inflation had always traditionally been thought of as a negative factor for a currency since it lowers the value of money, the opposite has actually been the case in modern times with the relaxation of cross-border capital controls. Higher inflation tends to lead central banks to put up interest rates which attracts more capital inflows from global investors seeking a lucrative place to keep their money. This increases demand for the local currency, which in Canada’s case is the Canadian Dollar.
Macroeconomic data releases gauge the health of the economy and can have an impact on the Canadian Dollar. Indicators such as GDP, Manufacturing and Services PMIs, employment, and consumer sentiment surveys can all influence the direction of the CAD. A strong economy is good for the Canadian Dollar. Not only does it attract more foreign investment but it may encourage the Bank of Canada to put up interest rates, leading to a stronger currency. If economic data is weak, however, the CAD is likely to fall.
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