The Canadian dollar is drifting on Thursday after posting strong gains a day earlier following the BoC rate decision.
The Bank of Canada raised interest rates by 0.50% on Wednesday, the first G-7 central bank to do so. It marked the BoC’s largest rate hike since 2000. The BoC also announced that it would end bond purchases and begin quantitative tightening (QT).
Although the markets had priced the oversize hike and QT announcement, the Canadian dollar still climbed sharply after the confirmation, courtesy of Governor Macklem’s forward guidance. Macklem was crystal clear about his intention to continue raising rates, saying, “the economy can handle higher interest rates, and they are needed.” He added that the BoC would do whatever was needed to lower inflation back to the “neutral range of 2% and 3%”.
With the Canadian economy in solid shape, the BoC can continue on its rate-cycle path. The Overnight Rate is now at 1.00%, and investors can expect 100-200 basis points of additional tightening before the year’s end. This will keep the BoC in sync with the Fed on monetary policy, which should allow the Canadian dollar to withstand a Fed-powered US dollar as rates move higher in the US.
A sharp increase in rates should wrestle inflation lower, but it will require a dexterous hand to ensure that the economy has a ‘soft landing’, whereby higher interest rates don’t choke off growth, which could result in a recession. The BoC will have to carefully monitor the economic landscape before hiking rates. Still, high inflation, strong growth, and a robust labor market are all ingredients for what could be another 0.50% rate increase when the BoC holds its next meeting at the beginning of June.
USD/CAD Technical
- USD/CAD briefly broke below support at 1.2531 in the Asian session. Below, there is support at 1.2444
- There is resistance at 1.2660 and 1.2747
