Canadian Dollar Caught Between Hot Economy and Cold NAFTA

The US dollar loses ground against majors despite solid inflation data

Rumours surrounded this week went from shrinking Chinese appetite of US bonds, to speculation that the US would pull out of NAFTA and while real economic indicators on Friday showed stronger US inflation and retail sales it did little for the struggling US dollar. Economic growth outside of the US is accelerating and monetary policy is expected to tighten more abroad putting pressure on the greenback. The highlight of the short trading week due to the MLK holiday will be the Bank of Canada (BoC) rate decision on Wednesday

  • Bank of Canada (BoC) expected to lift rate 25 basis points
  • Fed official expects 3 or more US rate hikes this year
  • Germany reaches government coalition deal boosting euro

The EUR/USD gained 1.43 percent during the week. The single currency is trading at 1.22 a three year high after German Chancellor Angela Merkel announced a coalition ending the uncertainty after the elections three months ago. After a marathon session lasting 24 hours the old grand coalition is back with the Christian Democrats (CDU), the Christian Social Union (CSU) and the Social Democrats (SPD) ready to bring the band back together. The Social Democrats changed their minds after refusing to take part in another coalition, but with a fruitless attempt by Merkel to form a government failed, the SPD is now saying it want to hold german society together.

The euro has been strengthened by the European Central Bank (ECB) meeting minutes released earlier this week. Economic growth in the EU is encouraging and the central bank seems ready to end its QE program and raise rates, although the timelines still extend beyond 2018. The fact that the ECB is serious about tightening monetary policy based on growth has put pressure on the USD as the EUR continues the trend seen at the end of last year.

The Fed’s Eric Rosengreen is confident that there could be as many as four rate hikes to the US benchmark rate in 2018. The Boston Fed President expects the recent tax cuts to boost the economy and reduce unemployment. Mr Rosengreen also joined others at the Fed in moving away from having a fixed inflation target preferring a range which would give the policymakers more flexibility. The divide between members worried about low inflation and those who want to keep raising rates to avoid the economy overheating.

The USD economic calendar will be quiet as the Martin Luther King holiday on Monday will shorten the week. The biggest release of thew eek will be the release of building permits in the US on Thursday, January 18 at 8:30 am EST.

European data will also be scarce with final consumer price index (CPI) data due on Wednesday, January 17 at 5:00 am EST and German Bundesbank President due to speak on Thursday at 3:00 am EST the highlights of the weekly calendar.

Canadian dollar weekly graph January 8, 2018

The USD/CAD gained 0.36 percent in the last five days. The currency pair is trading at 1.2462 after the loonie was able to recover some ground on Friday ahead of the Bank of Canada (BoC) monetary policy decision on January 17. Two back to back strong employment reports and other positive economic indicators could convince the central bank to raise the benchmark interest rate by 25 basis points to 1.25 percent. Almost all Canadian banks have put higher rates as their prediction with the lone stand out the number 7 bank Laurentian who is not joining the crowd. The BoC could justify the move based on strong fundamentals but it has also ignored them in the past, specifically the beginning of last year where strong GDP growth and stable oil prices forced the central bank to hike twice. The July hike was heavily telegraphed, but the September decision took the market by surprise as the market was expecting the move a month later.

The bank has gone from over communicating to staying mum in quick succession, adding to the uncertainty of what decision it will reach on Canadian interest rates on January 17. Market expectation is one thing, but BoC Stephen Poloz could show a more patient stance. Headwinds have been scarce, but the reports of Canadian officials anonymously sharing their opinions about the increasing odds of NAFTA’s demise did not favours to the loonie. The CAD has risen on strong economic indicators and is almost up 1 percent against the USD year to date. The Bank of Canada (BoC) could hike on Jan 17, while analysts do not expect the U.S. Federal Reserve to follow suit until March, when Jerome Powell makes his first official appearance as Chair.

The Bank of Canada (BoC) will publish its rate statement on Wednesday, January 17 at 10:00 am EST. The forecast calls for a rate rise of 25 basis points. BoC Governor Poloz will host a press conference at 11:15 am EST.

Market events to watch this week:

Tuesday, January 16
4:30am GBP CPI y/y
12:00pm CHF SNB Chairman Jordan Speaks
Wednesday, January 17
10:00am CAD BOC Monetary Policy Report
10:00am CAD BOC Rate Statement
10:00am CAD Overnight Rate
11:15am CAD BOC Press Conference
7:30pm AUD Employment Change
Thursday, January 18
2:00am CNY GDP q/y
2:00am CNY Industrial Production y/y
8:30am USD Building Permits
8:30am USD Unemployment Claims
11:00am USD Crude Oil Inventories
Friday, January 19
4:30am GBP Retail Sales m/m

*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