Bank of Canada Delivers Hawkish 50 bp Hike, Pledges to Act Forcefully; USD/CAD Subdued

Bank of Canada Delivers Hawkish 50 bp Hike, Pledges to Act Forcefully; USD/CAD Subdued
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BANK OF CANADA KEY POINTS:

  • Bank of Canada increases the target for the overnight rate by 50 basis points to 1.50%, meeting market expectations
  • The central banks indicates that interest rates will have to rise further and that the bank is prepared to act more forcefully if needed to slow inflation
  • USD/CAD trims some daily losses after the BoC’s announcement, but the move can be attributed to the broader U.S. dollar advance following solid ISM data in the U.S.

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The Bank of Canada announced its June monetary policy decision this morning. In line with consensus forecasts, the regulatory authority raised the overnight rate by half a percentage point to 1.50%, marking the second consecutive non-standard 50 basis points adjustment and the third hike during the current normalization cycle initiated to restore price stability.

By way of context, BoC began raising borrowing costs in March and introduced quantitative tightening last month to rein in red-hot inflation, now at a 31-year high of 6.8% y/y, and bring it back to the 2% target over the forecast horizon.

The policy statement maintained an upbeat tone on economic activity, indicating that growth is strong and that the economy continues to move into excess demand. Excess demand is, by definition, inflationary, as it signals that slack has been absorbed and that the country is operating above its productive capacity.

The communique also stressed that labor markets are tight, wage gains are increasing, consumer spending is robust and that exports are strengthening, conditions that will pave the way for a solid second quarter expansion, an assessment that suggests there will be few obstacles to further removing accommodation later this year. On inflation, BoC struck an alarming tone, noting that the outlook has worsened, that CPI is expected to move higher before easing, and that expectations could become entrenched.

All in all, the statement retained a hawkish tilt, recognizing that interest rates will need to rise further and that the Governing Council is prepared to act more forcefully if needed to counter above-target CPI and cool excess demand. The “forcefully” characterization is new and suggests that policymakers may be aiming for another outsized 50 bps hike at the July meeting (and even beyond that), a bullish outcome for the Canadian dollar.

Immediately after monetary policy announcement crossed the wires, USD/CAD trimmed its decline, but the reaction can be attributed to the broader U.S. dollar’s advance, sparked by better-than-expected April ISM manufacturing data in the United States. In any case, BoC’s hawkish stance, along with soaring oil prices and strong economic activity, could provide support for the Canadian dollar in the coming days and weeks, accelerating the USD/CAD correction lower.

USD/CAD TECHNICAL CHART

USD/CAD chart prepared using TradingView

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—Written by Diego Colman, Market Strategist for DailyFX



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