Dollar Higher on Tax Reform Hopes

US tax reform clears first hurdle

The USD is firmer against major pairs after overcoming setbacks earlier in the week. Economic indicators have been scarce with political developments driving the currency. US President Donald Trump is closer to announcing his pick for leadership of the U.S. Federal Reserve and the US senate voted to pass the budget proposal clearing the way for tax reforms.

The Bank of Canada (BoC) will announce its benchmark short term interest on Wednesday, October 25 at 10:00 am EDT. The central bank is anticipated to keep rates unchanged after an earlier unexpected rate hike in September that put the benchmark rate at 1.00 percent. A press conference by Governor Stephen Poloz will take place at 11:15 am EDT. Canadian data has underperformed and the loonie is on the back foot against the dollar following the optimism surrounding the Fed Chair announcement and the US tax reforms.

The European Central Bank (ECB) monetary policy meeting on Thursday, October 26 at 7:45 am EDT will be the highlight of the week for the EUR/USD pair. President Mario Draghi will host a press conference at 8:30 am EDT. The ECB is expected to announce the tapering of its QE program, but at the same time extend the actual bond buying by 12 months or more. The amount of bonds for purchase could be halved to 30 billion but the program could remain in effect until December 2018.

The EUR/USD lost 0.28 percent this week. The single currency is trading at 1.1778 after the approval of the Budget by the GOP increases the chances the much awaited US tax reforms pass in 2017. The Trump administration is also close to naming a chair for the U.S. Federal Reserve as Yellen is nearing the end of her term. Although current Chair Yellen remains in the running there are other candidates thought to be ahead of her with Jerome Powell thought to be in the lead.

The ECB will attempt to pull off a taper that causes the less disruption possible. Cutting the amount of purchases while extending the period of the program is a compromise that for now could satisfy all parties within the central bank. Mario Draghi said on September 7 that the negative interest rate will remain to the end of QE. The ECB is far from tightening its monetary policy, but it could be in a position with a recovering economy to at least reduce the stimulus amount, even as it adds to its duration.

Canadian dollar weekly graph October 16, 2017

The USD/CAD gained 1.13 percent in the last five days. The currency pair is trading at 1.2594 after a disappointing Canadian retail sales and inflation data.

Headline retail sales fell 0.3%. Market expectations were looking for a strong 0.5% gain. On a year-over-year basis, retail sales rose 6.9%. Ex-autos, retail fell by a steep –0.7%.

The headline CPI rose +1.6% y/y, following a +1.4% advance in the previous month. Market expectations were looking for a +1.7% advance. On a month-over-month basis, CPI rose +0.2%.

The miss in retail sales was a bigger blow to the loonie. After the surprise rate hike in September by the Bank of Canada (BoC) and various calls for a GDP slowdown the currency is more sensitive to underperforming indicators.

Stronger headline numbers would have improved the odds of the Bank of Canada (BoC) raising rates before the end of 2017. Today’s print should take the BoC out of the rate hike equation for the time being. The BoC meet next Wednesday, Oct 25.

The Trump administration is closer to selecting the next Chair of the U.S. Federal Reserve and there are positive signs of tax reform becoming a reality boosting the USD.

NAFTA negotiations have put pressure on the loonie as the US continues to play hardball and making the fate of the deal uncertain.

The loonie strength earlier in the year can be explained by the following factors: a stable oil price, strong economic growth and an ineffective Trump administration. 

The Organization of the Petroleum Exporting Countries (OPEC) efforts on cutting production had kept crude prices stable for most of 2017 at around the $50 per barrel for West Texas Intermediate.

The Canadian economy ended its eight month streak of gross domestic product (GDP) gains in July. The figures published in September was unchanged after expanding to 4.5 percent at the end of June. The retail sales miss adds validation to the analyst calls of an impending slowdown after the impressive first half of 2017.

The NAFTA negotiations is a perfect example of how the White House could spell trouble for Canada and the loonie. Little is known on what is going on behind close doors thanks to a non-disclosure agreement requested by the US, but the public statements clearly show the US is standing apart from its trade partners. The Trump administration has been unable to pass important legislations impairing the USD, but now it can also drag down the CAD and MXN by continuing to make demands that have one-sided benefits.

Market events to watch this week:

Tuesday, October 24
8:30pm AUD CPI q/q
Wednesday, October 25
4:30am GBP Prelim GDP q/q
8:30am USD Core Durable Goods Orders m/m
10:00am CAD BOC Monetary Policy Report
10:00am CAD BOC Rate Statement
10:00am CAD Overnight Rate
10:30am USD Crude Oil Inventories
11:15am CAD BOC Press Conference
Thursday, October 26
7:45am EUR Minimum Bid Rate
8:30am EUR ECB Press Conference
8:30am USD Unemployment Claims
Friday, October 27
8:30am USD Advance GDP q/q

*All times EDT
For a complete list of scheduled events in the forex market visit the MarketPulse Economic Calendar

This article is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. You could lose all of your deposited funds.

Alfonso Esparza

Alfonso Esparza

Senior Currency Analyst at Market Pulse
Alfonso Esparza specializes in macro forex strategies for North American and major currency pairs. Upon joining OANDA in 2007, Alfonso Esparza established the MarketPulseFX blog and he has since written extensively about central banks and global economic and political trends. Alfonso has also worked as a professional currency trader focused on North America and emerging markets. He has been published by The MarketWatch, Reuters, the Wall Street Journal and The Globe and Mail, and he also appears regularly as a guest commentator on networks including Bloomberg and BNN. He holds a finance degree from the Monterrey Institute of Technology and Higher Education (ITESM) and an MBA with a specialization on financial engineering and marketing from the University of Toronto.
Alfonso Esparza