After its two-day winning streak, the USD/CAD pair dropped during the early European session on Wednesday. On Tuesday, the Canadian dollar (CAD) was down after a short recovery, as market sentiment was gloomy due to Moody’s downgrading of China’s credit outlook, which pushed the US dollar higher across the board.
Bank of Canada interest rate decision
On Wednesday, all eyes will be on the Bank of Canada’s (BoC) interest rate decision and money markets expect the central bank to remain on hold, leaving the key interest rate unchanged at 5.0% for the third time in a row. BoC policymakers are not expected to offer any changes to the guidance, but the central bank’s policy statement could increase volatility around the CAD.
BoC Governor Tiff Macklem has explained that the higher interest rates have managed to cool inflation and that the central bank has done enough for now but could raise rates again if inflation proves to be stubborn. Governor Macklem has also stated that it was too early to discuss interest rate cuts. As he said in November during a speech, “To return to low inflation and stable growth in the years ahead, we need these higher interest rates and slow growth in the short term. Our inflation target, our track record and our forceful response will get us through to the other side. We’re well on our way, and we need to stay the course.”
This position is likely to continue, and any potential shift will happen early in 2024 if the economy experiences a significant contraction and the labour market data triggers concerns.
Since October, the Canadian economy has had a mixed performance, with a contraction of economic activity during the third quarter. However, the central bank expects a recovery in the current quarter. Inflation in Canada is still elevated and above the 2% target but is slowly easing off. In October, the Consumer Price Index (CPI) increased by 3.1% compared to the same month last year.
Will the bank deliver a hawkish message?
In October, the BoC reiterated their readiness to act if needed and hike rates, as inflation persisted. This hawkish sentiment is expected to prevail, but a dovish surprise may be possible. However, the central bank is expected to remain firm and determined to bring inflation down to its 2% target.
With no rate hikes priced in by markets, a potential rate hike from the BoC would take markets by surprise. On Friday, the publication of labour market data showed that employment rose by 25,000 in November, beating expectations. The Unemployment Rate was higher though, reaching 5.8%. Full-time jobs were the main driver that contributed to higher employment, and wages (permanent employees) increased by 5% compared to the previous year. This data reflects Macklem’s statement in October and confirms that the “Canadian labour market remains tight and wage pressures persist.”
When will the bank start cutting rates?
The fact that Wednesday’s meeting won’t be followed by a press conference suggests that the bank may not change its tone, so the impact on the markets will be limited. Investors are also more focused on the timing of rate cuts in 2024. But until the central bank provides more insights and moves beyond its “hawkish hold,” the most significant news for the markets will continue to be economic data about inflation, labour market conditions, and growth.
Will the BoC’s monetary policy decision affect USD/CAD?
On the 6th of December at 15:00 GMT the Bank of Canada will announce its policy decision through a press release. The central bank will not give a press conference, nor release its quarterly Monetary Policy Report (MPR). The next MPR will be released in the next meeting on the 24th of January 2024.
The Loonie is not expected to be affected much. A hawkish hold may push the USD/CAD lower, but the recent drop of the pair was mostly driven by the dynamics of the greenback rather than any other factor. The CAD may get a boost if the central bank strikes an even more hawkish tone. A surprising dovish tone could send the CAD lower and push the USD/CAD higher.