The USDCAD has been moving higher in the summer as the greenback firms up and the Canadian dollar gets weaker. The trend might accelerate after the upcoming release of Q2 GDP figures. The BOC is in an awkward position of balancing out the risk of inflation and slower growth, which makes it harder to predict monetary policy.
The currency pair could have some additional volatility in the autumn as the markets try to figure out just what the BOC will actually do. Eventually, however, if the economy doesn’t rebound in the near term, then all arrows could end up pointing towards a weaker CAD. That would leave the USDCAD on an upward trajectory.
What the Market is Looking for
Canada will publish its Q2 GDP growth figures on Friday, with the consensus being for 0.2%, down from 0.5% in the first quarter. This would be in line with the monthly reports that have shown practically nil growth during the period. June’s monthly GDP is expected at 0.1%, accounting for half of the increase for the quarter. Typically, Canada’s economy performs better in the summer, so this could be a worrying high mark.
The data won’t be a shock for the BOC, with Governor Tiff Macklem warning repeatedly since April that the economic outlook is grim. This has left the bank inclined towards easing despite inflation being at the top of the target band. The main culprit is seen as the continuing trade war with the US, which has resulted in a 30% reduction in exports for the country. As a leading exporter of oil and other natural resources, the drop in sales to the US has weighed on the country’s economy.
Is Inflation Baked in?
The issue for monetary policy is that industrial and manufacturing production have declined amid the tariffs. But consumer spending has continued to grow at a rate between 1% and 2% over the last four months. What this means is lower production and higher demand, a recipe for higher prices. The escape valve would be an increase in exports to meet the demand, but that would imply selling more Canadian dollars, weakening the currency.
If the BOC were to react to higher price pressures by raising interest rates, this would further slow the economy, exacerbating the situation. Higher interest rates generally attract investors who want a higher return on investment from buying bonds. But that assumes at least a moderately growing economy. If the economy is expected to turn negative, then investors might move away from riskier assets, which would further weigh on the currency.
Saved By the Fed?
After the BOC kept rates unchanged last month, it is scheduled to meet again just before the Fed does in September. There isn’t a strong consensus about whether the BOC will cut rates. If the BOC holds and the Fed cuts, this could make the CAD more attractive and pull down the USDCAD. But if both central banks cut rates, then the current trend could continue.
In the end, businesses and policymakers seem to be waiting for a deal on the trade front before committing to investment. The timing for such an agreement is uncertain and up to the politicians, which makes it harder to judge where the market is going. Until that happens, it would probably take a significant surprise in the upcoming GDP figures to change the market’s outlook.
