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Bank of Canada Rate Decision – What to Expect

Last updated 3/1/2010 4:13 PM ET (GMT -5) 0 Comments - Add your comment

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Kathy Lien

Director of Currency Research, GFT

The strength of the Canadian dollar going into Tuesday’s monetary policy meeting suggests that forex traders are anticipating a positive outcome for the loonie.  Given that the central bank is not expected to raise interest rates or make any changes to their Quantitative Easing program, traders may wonder what the BoC could possibly say or do to boost the CAD.

In order to speculate on their potential comments, we have to first dissect the BoC’s last statement.  According to the press release, the central bank believed that the economy would continue to improve but “the persistent strength of the Canadian dollar and the low absolute level of U.S. demand” could “act as significant drags on economic activity in Canada.”  The upside risks were linked to stronger than projected global and domestic demand while the downside risks were a more protracted global recovery and persistent strength of the loonie.  

The following table takes a look at how economic data has fared since the last monetary policy meeting.  As you can see, there have been broad based improvements in the Canadian economy including a pickup in consumer spending, growth, inflation, employment and manufacturing activity.  Based upon these reports, the Bank of Canada should grow slightly more optimistic.  After a deep recession, growth in the fourth quarter was the fastest since 2000.  Believe it or not, on an annualized basis, Q4 GDP growth was 5.00 percent.  Yet the rise in domestic demand is not strong enough for policy makers to be anything more than cautiously optimistic.  Don’t forget that the BoC reduced both their growth and inflation forecasts after their monetary policy meeting in January which means they won’t just turn around 45 days later and say growth will be stronger than previously forecasted.  With that in mind, the Canadian economy is moving in the right direction.  The greatest area of encouragement comes from the labor market.  The unemployment rate dropped from 8.5 to 8.3 percent thanks to 43k new jobs created in January.  

Even in light of the unambiguous outperformance in the Canadian economy, central bankers are approaching the situation very carefully. These sentiments were best displayed by David Wolf, one of the bank’s advisers, who noted that raising rates would be like “dousing the entire Canadian economy with cold water.” When responding to worries that some sectors appear to be overheating, Wolf said concerns were “premature”, indicating that rates would not have to rise to stunt the growth in the housing market. For the most part, the BoC sees the improvement but is not ready to believe that downside risks have evaporated. Canadian Finance Minister Jim Flaherty recently said that “now is not the time to declare victory.” BoC Governor Mark Carney had similar feelings, indicating that “it’s going to be a bit choppy” and “there’s going to be some adjustments.” Through these reflections, it seems clear that the bank will opt for a wait and see approach until items like consumer prices pose more of a threat to financial stability.

As a result, the BoC rate decision could prove to be a dud for the Canadian dollar.  However the risk is to the upside following the improvements in the Canadian improvements and that may be the reason why the Canadian dollar has been rallying.  If the Bank of Canada grows more optimistic, the Canadian dollar could extend its gains.  The Canadian economy is very sensitive to the performance of the U.S. economy which means that if the Fed is talking exit strategies, the Bank of Canada could start doing so as well.

Technically, USD/CAD has broken below the 100-day SMA and at this point, there is no major support in the currency pair until 1.04.

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About The Author

Kathy Lien began her FX trading career 10 years ago at J.P. Morgan Chase. After graduating New York University’s Leonard Stern School of Business at the age of 18, Kathy joined the bank's interbank FX trading desk and eventually moved to the cross markets proprietary trading desk. In the interbank market, her ability to create solid fundamental and technical analysis from the myriad of information on the market helped her trade forex spot and options. Her experience eventually led her to be chief strategist at Daily FX where she worked until she joined GFT in 2008.

With her knowledge of forex, as well as her experience trading other products, such as interest rate derivates, bonds, equities, and futures, Lien has built a reputation as an international currency analyst. She is frequently quoted on CNBC, Bloomberg, Fox Business and Reuters. Lien has also written for publications like Active Trader, Futures, and SFO magazine. She is the author of the newly updated Day Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, and the co-author of Millionaire Traders: How Everyday People Are Beating Wall Street at Its Own Game with Boris Schlossberg.

To buy Kathy’s newly updated Day Trading and Swing Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, click here.