The Morning Commentary: The Bank of Canada: Better Than Expected
A daily summary and commentary of events and factors that affect the global markets, with a particular emphasis on the foreign exchange markets.
The Bank of Canada: Better Than Expected
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Andrew Kositkun Senior FX Advisor
The Bank of Canada (BoC) will announce its latest policy decision tomorrow and is widely expected to keep rates unchanged and maintain the same forward guidance.
However, it is likely that the BoC will have to acknowledge better-than-expected growth domestically as well as in the U.S. while trying not to push back against the recent move in rates. One way this could be done is through emphasizing that substantial accommodation is needed until the recovery is well underway and that short-term risks remain skewed to the downside. But acknowledging a stronger-than-expected recovery while also indicating the need for strong policy support is clearly a difficult balance to strike, leading to the possibility of a more hawkish-than-expected meeting.
The Canadian economy decelerated at the turn of the year due to extended lockdowns but has proven to be more resilient than the BoC and many forecasters predicted. Data so far in 2021 points to expansion versus the BoC’s expectation for contraction. Looking forward, Canadian growth surprises, large fiscal stimulus in the US, a large savings rate, higher oil prices, and advancements in containing COVID-19 all support a better outlook.
While no changes are expected at this meeting, recent developments juxtaposed against BoC communication suggests that tapering will need to be addressed in more concrete terms when the April MPR is published. That means it’s possible the BoC uses this week’s meeting to lay the early groundwork. As such, risks are skewed in the hawkish direction for Wednesday’s BoC announcement should the bank signal confidence in its ability to begin tapering QE purchases earlier than its G10 peers.
The Canadian dollar (CAD) is one of only a handful of G10 currencies that is up against the U.S. dollar this year due to a strong North American growth outlook and rising Canadian terms of trade. The combination of Canadian rate underperformance and sharply rising commodity prices has proven to be a winning combination for the currency. Notably, the BoC’s commodity price index is up 16% year to date and 135% from last year’s lows.
The BoC gave a detailed commentary on the exchange rate at its January meeting. Given the progress made in the economy since then, it is unlikely that the BoC will view recent CAD strength as excessively strong. This puts short-term risks toward further CAD appreciation, before a continued strengthening of the U.S. dollar creates a more balanced picture further out.
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