EUR/CAD steadies as Bank of Canada holds rate steady at 2.75%
- The Bank of Canada announced its latest interest rate decision, leaving its benchmark rate at 2.75%.
- The European Central Bank prepares for its rate decision on Thursday, where interest rates are expected to decrease by 0.25%, reducing the benchmark rate to 2%.
- EUR/CAD trades flat below the 20-day Simple Moving Average (SMA), providing resistance near 1.5632.
EUR/CAD is trading flat in the early hours of the American session on Wednesday after the Bank of Canada (BoC) announced its decision to leave interest rates unchanged at 2.75%.
Following the Bank of Canada’s decision, the pair has continued to trade in a narrow zone, with resistance forming at the 20-day Simple Moving Average (SMA) near 1.5632 at the time of writing.
As interest rates remain a key driving force behind the exchange rate of many major currency pairs, monetary policy divergence between the ECB and the BoC appears to be largely priced in, with markets focused on the broader economic risks.
Will the ECB cut or hold at Thursday’s rate decision?
After inflation data from the Eurozone showed clear signs of easing on Tuesday, the release of the Purchasing Managers' Index (PMI) on Wednesday provided a mixed picture about the health of the manufacturing and services sectors across the Eurozone.
Although PMI data from Italy and France came in above estimates, Germany’s data continued to underperform, suggesting that business confidence and the country’s growth outlook remain gloomy.
The Hamburg Commercial Bank (HCOB) PMI reading for May, released on Wednesday, missed the estimate of 48.6, coming in at 48.5, while the HCOB Services PMI came in at 47.1, below the estimate of 47.2. With both readings missing analyst forecasts, Germany’s economy is showing signs of weakening, as confidence in the country has recently taken a strain.
The combination of clear signs of an economic slowdown and slowing inflation is perceived as a warning sign of a potential recession, as consumer spending and demand for goods and services are expected to fall.
For Canada, labour productivity, released by Statistics Canada, fell below analyst estimates of a 0.4% increase in the first quarter, with the QoQ reading printing at 0.2% in Q1.
Central banks FAQs
Central Banks have a key mandate which is making sure that there is price stability in a country or region. Economies are constantly facing inflation or deflation when prices for certain goods and services are fluctuating. Constant rising prices for the same goods means inflation, constant lowered prices for the same goods means deflation. It is the task of the central bank to keep the demand in line by tweaking its policy rate. For the biggest central banks like the US Federal Reserve (Fed), the European Central Bank (ECB) or the Bank of England (BoE), the mandate is to keep inflation close to 2%.
A central bank has one important tool at its disposal to get inflation higher or lower, and that is by tweaking its benchmark policy rate, commonly known as interest rate. On pre-communicated moments, the central bank will issue a statement with its policy rate and provide additional reasoning on why it is either remaining or changing (cutting or hiking) it. Local banks will adjust their savings and lending rates accordingly, which in turn will make it either harder or easier for people to earn on their savings or for companies to take out loans and make investments in their businesses. When the central bank hikes interest rates substantially, this is called monetary tightening. When it is cutting its benchmark rate, it is called monetary easing.
A central bank is often politically independent. Members of the central bank policy board are passing through a series of panels and hearings before being appointed to a policy board seat. Each member in that board often has a certain conviction on how the central bank should control inflation and the subsequent monetary policy. Members that want a very loose monetary policy, with low rates and cheap lending, to boost the economy substantially while being content to see inflation slightly above 2%, are called ‘doves’. Members that rather want to see higher rates to reward savings and want to keep a lit on inflation at all time are called ‘hawks’ and will not rest until inflation is at or just below 2%.
Normally, there is a chairman or president who leads each meeting, needs to create a consensus between the hawks or doves and has his or her final say when it would come down to a vote split to avoid a 50-50 tie on whether the current policy should be adjusted. The chairman will deliver speeches which often can be followed live, where the current monetary stance and outlook is being communicated. A central bank will try to push forward its monetary policy without triggering violent swings in rates, equities, or its currency. All members of the central bank will channel their stance toward the markets in advance of a policy meeting event. A few days before a policy meeting takes place until the new policy has been communicated, members are forbidden to talk publicly. This is called the blackout period.
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