- USD/CAD hit 1.4329 on Wednesday, its highest level since March 2020.
- The Canadian dollar faces challenges due to a dovish central bank and domestic political uncertainty.
- CME's FedWatch tool suggests Wednesday's 25 basis point rate cut is almost fully priced in.
USD/CAD has extended its winning streak to five days in a row and is trading around 1.4320 in Asian time on Wednesday. The rally could be attributed to weakness in the Canadian dollar (CAD) following dovish comments from Bank of Canada (BoC) Governor Tiff Macklem.
Bank of Canada (BoC) Governor Tiff Macklem said Monday that the central bank is preparing for a future characterized by heightened uncertainty and increased vulnerability to economic shocks. He stressed that the central bank will assess the need for further policy rate cuts on a case-by-case basis, and that a looser approach to monetary policy is expected if the economy develops as expected.
Meanwhile, Canadian Prime Minister Justin Trudeau is under increasing pressure to resign after Finance Minister Chrystia Freeland announced her resignation from the cabinet on Monday, according to CNN.
The Consumer Price Index (CPI) announced by Statistics Canada in November fell to 1.9% year-on-year, slightly below market expectations of 2.0%. On a monthly basis, the CPI remained flat, in line with expectations, after rising 0.4% in October. Meanwhile, the monthly core inflation rate fell by 0.1%, and the annual core CPI inflation rate fell to 1.6% from 1.7% in October.
Traders are bracing for the possibility that the US Federal Reserve will cut interest rates by 25 basis points later in the North American session. According to the CME FedWatch tool, the market is now almost fully pricing in a one-quarter basis point rate cut at the Fed's December meeting. Additionally, traders will closely monitor Fed Chairman Powell's press conference and post-meeting economic outlook summary (dot plot).
Canadian Dollar Frequently Asked Questions
The main factors that move 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 the economy, inflation, and the balance of trade. The difference between Canada's exports and imports. Other factors include market sentiment, or whether investors are taking on riskier assets (risk-on) or seeking a safe haven (risk-off). Risk-on is Canadian dollar plus. The health of the US economy, our largest trading partner, is also an important factor influencing the Canadian dollar.
The Bank of Canada (BoC) has significant influence on the Canadian dollar by setting the interest rate levels at which banks can lend to each other. This affects everyone's interest rate level. The BoC's main goal is to keep inflation between 1 and 3 percent by adjusting interest rates up and down. Relatively high interest rates tend to be positive for the Canadian dollar. The Bank of Canada can also use quantitative easing and monetary tightening to influence credit conditions, with the former being CAD negative and the latter CAD positive.
Oil prices are an important factor influencing the value of the Canadian dollar. Oil is Canada's largest export, so oil prices tend to have an immediate impact on the value of the Canadian dollar. Generally, when oil prices rise, the CAD also rises because aggregate demand for the currency increases. The opposite is true if oil prices fall. Higher oil prices tend to increase the likelihood of a positive trade balance, which also supports the Canadian dollar.
Although inflation has traditionally been considered a negative factor for currencies because it reduces the value of money, the opposite is actually true in modern times where cross-border capital controls have been relaxed. When inflation rates rise, central banks tend to raise interest rates, leading to increased capital inflows from global investors looking for lucrative places to store their money. This increases the demand for the local currency (in the case of Canada, the Canadian dollar).
The release of macroeconomic data gauges the health of the economy and can impact 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. In addition to attracting more foreign investment, it could prompt the Bank of Canada to raise interest rates, leading to a stronger currency. However, if economic indicators are weak, the CAD may decline.
