Canadian Dollar under pressure as softer inflation meets firmer US Dollar
- USD/CAD edges higher as softer Canadian inflation data weighs on the Canadian Dollar.
- Headline CPI falls 0.4% MoM in June, marking the sharpest monthly decline since December 2024.
- A firmer US Dollar and weaker Oil prices add pressure on the commodity-linked Loonie.
USD/CAD edges higher on Monday as softer-than-expected Canadian inflation data and a firmer US Dollar (USD) weigh on the Canadian Dollar (CAD), while tensions in the Middle East keep financial markets volatile. At the time of writing, the pair is trading around 1.4045, up 0.17% on the day.
Headline inflation fell 0.4% MoM in June, compared with market expectations for a 0.2% decline. The drop reversed May’s 1.0% increase and marked the sharpest monthly fall since December 2024.
On an annual basis, inflation eased to 2.8% from 3.2%, slightly below the 2.9% forecast.
The Bank of Canada’s (BoC) preferred core CPI rose just 0.1% in June after increasing 0.6% in May, while the annual rate edged down to 2.1% from 2.2%.
“Gasoline prices rose at a slower pace year over year in June compared to May, contributing most to the slowdown in overall CPI growth,” Statistics Canada said.
However, Oil prices have rebounded sharply since renewed hostilities in the Middle East, reviving inflation concerns. With core inflation still hovering near the BoC’s 2% target, the latest figures support the view that the central bank will maintain its current policy setting.
At its July meeting, the BoC raised its 2026 inflation forecast to 2.5% from 2.3% and said it expects inflation to return to the 2% target by early 2027.
On the geopolitical front, Iranian Foreign Ministry spokesperson Esmaeil Baghaei said on Monday that intermediaries had exchanged messages with Tehran in recent days and that any negotiations with the United States would be pursued based on Iran's national interests.
Oil prices and the US Dollar initially came under pressure as the comments raised hopes of renewed diplomacy. However, the Greenback later recovered all its losses after Reuters reported that Yemen’s Iran-aligned Houthis had declared an immediate naval blockade against Saudi Arabia. Oil prices, however, stayed lower, adding pressure on the commodity-linked Loonie.
West Texas Intermediate (WTI) crude Oil trades around $81.00, retreating from $84.42, its highest level in more than a month. Meanwhile, the US Dollar Index (DXY), which tracks the Greenback’s value against a basket of six major currencies, trades near 100.90 after recovering from an intraday low of 100.65.
Bank of Canada FAQs
The Bank of Canada (BoC), based in Ottawa, is the institution that sets interest rates and manages monetary policy for Canada. It does so at eight scheduled meetings a year and ad hoc emergency meetings that are held as required. The BoC primary mandate is to maintain price stability, which means keeping inflation at between 1-3%. Its main tool for achieving this is by raising or lowering interest rates. Relatively high interest rates will usually result in a stronger Canadian Dollar (CAD) and vice versa. Other tools used include quantitative easing and tightening.
In extreme situations, the Bank of Canada can enact a policy tool called Quantitative Easing. QE is the process by which the BoC prints Canadian Dollars for the purpose of buying assets – usually government or corporate bonds – from financial institutions. QE usually results in a weaker CAD. QE is a last resort when simply lowering interest rates is unlikely to achieve the objective of price stability. The Bank of Canada used the measure during the Great Financial Crisis of 2009-11 when credit froze after banks lost faith in each other’s ability to repay debts.
Quantitative tightening (QT) is the reverse of QE. It is undertaken after QE when an economic recovery is underway and inflation starts rising. Whilst in QE the Bank of Canada purchases government and corporate bonds from financial institutions to provide them with liquidity, in QT the BoC stops buying more assets, and stops reinvesting the principal maturing on the bonds it already holds. It is usually positive (or bullish) for the Canadian Dollar.
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