The Bank of Canada announced that it is leaving interest rates unchanged much to the surprise of 14 out of 34 economists, recently surveyed by Bloomberg, who predicted a 0.25% rate cut.
The interest rate statement was far more neutral than expected suggesting that inflation didn’t pose a problem as it was evolving as “broadly” expected. Even the dynamics of the global economy were “broadly” as anticipated. (Surely the BoC wasn’t claiming to have foreseen the China equity market collapse and the oil price plunge).
If the interest rate statement was viewed as a stand-alone document and not alongside the Monetary Policy Report (MPR) and press conference, it is fair to say that it would have been viewed as neutral. The Canadian dollar would have rallied.
But it wasn’t. The MPR was an optimistically doveish report. A lot of good things will happen to the Canadian economy but not until much later in the year and even if they occur, they won’t be enough to raise 2016 GDP growth past 1.6%. The MPR acknowledges that near term risks are skewed to the downside while suggesting medium term risks are toward the upside.
The downgrade to the GDP forecast was doveish and offset the more neutral tone to the statement which is why USDCAD selling immediately after the statement quickly turned into buying.
The buying got more aggressive when Mr. Poloz, in his press conference, admitted that “our deliberations began with a bias toward further easing but backed off due to the prospect of new fiscal stimulus by the Federal government. One takeaway is the Mr. Poloz seems to be saying the BoC has done its part in stimulating the economy and now its Justin Trudeau’s turn to step up to the plate.
“Here’s the ball, Justin, run with it”
The Bank of Canada statement, MPR and press conference put USDCAD center stage in global FX markets, in part because, in the absence of any G-3 policy statements, it was the best game in town. But, by the time everything was said and done USDCAD was right back at the level where it closed the night before (1.4550).
Now that it is over, FX traders will revert back to worrying about China’s economic rebalancing, the risk of European Central Bank stimulus, the timing of the next US rate hike, equity market weakness and a global market slowdown. USDCAD trading will be governed by US data, global growth sentiment and oil price movements.
And the key driver is oil. The Bank of Canada seems to believe that the oil market will begin to recover in the H2 but whether it is from a low of $16.00/b or $24.00/b remains to be seen. Even if the BoC is correct in its forecast, there is still plenty of downside room in oil prices.
Oil prices had another bad day on Wednesday, sliding to fresh lows on a stale story. Prices declined due to on-going concerns of slowing growth in China reducing demand for commodities, including oil while the major Opec producers compete for market share. The slide in oil prices put downward pressure on global equity markets and elevated concerns of a wholesale shift into risk aversion trading.
Looking ahead, the bank of Canada is out of the picture for the time being and the baton is being passed to the US Federal Reserve. Throughout all of the recent market turmoil, Fed and the Federal Open Market Committee members have been quiet. That will change on January 26 when the FOMC interest rate decision is released and Janet Yellen holds her press conference even though no action is expected.
Until then, there is a real chance that the oil price slide takes a breather and FX volatility abates. The short term USDCAD technicals support this view while price remain below 1.4640.
By David Marks, Agility FX Analyst