USD/CAD holds gains above 1.3750 due to upbeat US inflation outlook
- USD/CAD appreciates as strong inflation projections curb expectations for more aggressive FOMC rate cuts.
- The Fed cut the funds rate by 25 basis points and signaled an additional 50 basis points of easing before year-end.
- The BoC lowered its benchmark rate by 25 bps, noting that the balance of risks has shifted since July.
USD/CAD gains ground for the second successive session, trading around 1.3770 during the Asian hours on Thursday. The pair appreciates as the US Dollar (USD) advances due to strong inflation projections that have curbed expectations of more aggressive Federal Open Market Committee (FOMC) rate cuts. The Federal Reserve’s (Fed) projection showed that policymakers see inflation ending this year at 3% at the median, well above the central bank's 2% target.
The Federal Reserve (Fed) lowered the funds rate by 25 basis points (bps), marking the first cut of the year, and signaled a further 50 bps of easing before year-end, slightly above its June projections. The FOMC’s median projections signaled two additional rate cuts this year, but stronger forecasts for real growth and employment, along with upward revisions to core inflation, cast doubt on the scope for deeper cuts in the following year.
Fed Chair Jerome Powell pointed to growing signs of weakness in the labor market to explain why officials decided it was time to cut rates after holding them steady since December amid concerns over tariff-driven inflation.
The Bank of Canada (BoC) also cut its benchmark rate by 25 bps to 2.50% on Wednesday. The Canadian central bank said in its Monetary Policy Statement that three key developments had shifted the balance of risks since July. The labor market has weakened further, underlying inflationary pressures have eased, and Canada’s withdrawal of most retaliatory tariffs has lowered upside risks to inflation.
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.
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