USD/CAD trades cautiously below 1.4300 after hotter-than-expected Canadian inflation report
- USD/CAD struggles below 1.4300 as Canada’s CPI rose at a robust pace in February.
- Canadian CPI rose to 2.6% on year, the highest level seen since June 2024.
- The US Dollar rebounds as investors turn cautious ahead of the Fed’s policy meeting.
The USD/CAD pair struggles to hold the key support of 1.4270 in the North American session on Tuesday. The Loonie pair faces selling pressure after the release of the Canadian Consumer Price Index (CPI) report for February, which showed that price pressures accelerated at a faster-than-expected pace.
In the 12 months to February, the Canadian CPI rose at a faster pace of 2.6%, compared to estimates of 2.1% and the January reading of 1.9%. Month-on-month CPI grew at a robust pace of 1.1%, against expectations of 0.6% and the former reading of 0.1%. Significant acceleration in inflationary pressures indicates the aggressive monetary expansion stance adopted by the Bank of Canada (BoC) in the last few months is finally working.
BoC’s preferred core CPI – which excludes eight volatile items – accelerated at a strong pace to 2.7 on year from 2.1% in January. On a monthly basis, the underlying inflation data rose by 0.7%.
A fresh resurge in Canadian inflationary pressures could lead to a pause in the BoC’s aggressive policy-easing stance for some time. The BoC has reduced borrowing rates from 5% to 2.75% in the last nine months.
Meanwhile, the US Dollar (USD) attracts some bids as investors turn cautious ahead of the Federal Reserve’s (Fed) monetary policy decision on Wednesday. The US Dollar Index (DXY), which tracks the Greenback’s value against six major currencies, rebounds after discovering buying interest near the five-month low of 103.20.
The Fed is expected to leave interest rates unchanged in the range of 4.25%-4.50%. Therefore, market participants will pay close attention to the Fed’s dot plot and Summary of Economic Projections (SEP), which indicates interest rates, inflation, and the economic outlook.
Canadian Dollar FAQs
The key factors driving 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 its economy, inflation and the Trade Balance, which is the difference between the value of Canada’s exports versus its imports. Other factors include market sentiment – whether investors are taking on more risky assets (risk-on) or seeking safe-havens (risk-off) – with risk-on being CAD-positive. As its largest trading partner, the health of the US economy is also a key factor influencing the Canadian Dollar.
The Bank of Canada (BoC) has a significant influence on the Canadian Dollar by setting the level of interest rates that banks can lend to one another. This influences the level of interest rates for everyone. The main goal of the BoC is to maintain inflation at 1-3% by adjusting interest rates up or down. Relatively higher interest rates tend to be positive for the CAD. The Bank of Canada can also use quantitative easing and tightening to influence credit conditions, with the former CAD-negative and the latter CAD-positive.
The price of Oil is a key factor impacting the value of the Canadian Dollar. Petroleum is Canada’s biggest export, so Oil price tends to have an immediate impact on the CAD value. Generally, if Oil price rises CAD also goes up, as aggregate demand for the currency increases. The opposite is the case if the price of Oil falls. Higher Oil prices also tend to result in a greater likelihood of a positive Trade Balance, which is also supportive of the CAD.
While inflation had always traditionally been thought of as a negative factor for a currency since it lowers the value of money, the opposite has actually been the case in modern times with the relaxation of cross-border capital controls. Higher inflation tends to lead central banks to put up interest rates which attracts more capital inflows from global investors seeking a lucrative place to keep their money. This increases demand for the local currency, which in Canada’s case is the Canadian Dollar.
Macroeconomic data releases gauge the health of the economy and can have an impact on 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. Not only does it attract more foreign investment but it may encourage the Bank of Canada to put up interest rates, leading to a stronger currency. If economic data is weak, however, the CAD is likely to fall.