Fading US Dollar momentum lifts Canadian Dollar from four-week lows

Can USD/CAD Retain Its Bullish Bias After Slipping to 1.4240 From Four-Week Highs of 1.4265?
US Dollar bears are likely to remain restrained as firm US inflation and hawkish Fed remarks lend support.
With weak labour figures dimming expectations of immediate BoC rate increases, the Canadian Dollar continues to face pressure.

A modest recovery in the Canadian Dollar (CAD) accompanies a pullback in the US Dollar (USD) from recent peaks against most major currencies during Thursday’s subdued trading session. Having touched a four-week high of 1.4265 earlier in the day, USD/CAD is trading at 1.4243 at the time of writing. Despite the retreat, the pair is still heading for a 0.8% weekly gain.

TMGM Analysis: Financial Market News, Economic Calendar & Market Insights

Expectations of further interest rate increases by the Federal Reserve (Fed) in December have strengthened following this week’s robust US Consumer Price Index (CPI) readings, providing support to the US Dollar.

Those expectations have been reinforced by Fed officials, whose remarks on Thursday are likely to convey a similar message. Several policymakers are due to speak later in the day; some have already endorsed further monetary tightening at the next meeting.

Have weak Canadian labour figures reduced hopes of immediate BoC rate hikes?

By contrast, last Friday’s disappointing Canadian labour market report continues to weigh on the Canadian Dollar. After a decline of 68.3K in September, employment fell by another 4.7K in October, rather than rising by the expected 13.6K. The Unemployment Rate also climbed to 6.7%, a level last seen in April.

With Canada’s “rising unemployment rate amid falling wage growth rate” weakening the argument for tighter monetary policy, TD Securities analysts note that “diverging employment data releases will likely keep USDCAD supported above 1.40,”

The Canadian Dollar therefore remains exposed to further underperformance against the Dollar, in their assessment, as this environment “reduces the market pricing of a December BoC rate hike relative to the Fed,”

Common questions about central banks

What is the role of a central bank?

Maintaining price stability within a country or region is a central bank’s core mandate. As the prices of goods and services fluctuate, economies continually face inflation or deflation. A sustained increase in the prices of the same goods constitutes inflation, while a persistent decline constitutes deflation. By adjusting its policy rate, the central bank seeks to keep demand in check. Major central banks, including the US Federal Reserve (Fed), the European Central Bank (ECB) and the Bank of England (BoE), are mandated to maintain inflation close to 2%.

How does a central bank respond when inflation moves below or above its target?

To raise or lower inflation, a central bank can adjust its benchmark policy rate, commonly referred to as the interest rate. At previously announced times, it publishes a statement setting out the policy rate and explaining its decision to leave the rate unchanged, cut it or raise it. Domestic banks then revise their deposit and lending rates accordingly. These changes affect how easily savers can earn returns and businesses can borrow to invest in their operations. Substantial interest rate increases by the central bank are described as monetary tightening; reductions in its benchmark rate are termed monetary easing.

Who sets interest rates and determines monetary policy?

Central banks are often independent of political influence. Before taking a seat on a central bank’s policy board, prospective members go through a series of panels and hearings. Board members generally hold their own views on controlling inflation and the monetary policy needed to achieve that goal. Those favouring very accommodative policy, low interest rates and inexpensive credit to provide a substantial economic boost, while accepting inflation slightly above 2%, are known as ‘doves’. By contrast, ‘hawks’ prefer higher rates that reward savers and seek to keep inflation under control at all times. They remain focused on bringing inflation to, or just below, 2%.

Who heads a central bank?

Each meeting is usually led by a chairman or president, whose role includes building agreement between hawks and doves. If votes on a proposed policy adjustment are evenly divided, the head has the final say to prevent a 50-50 tie. Through speeches that can often be followed live, the chairman communicates the current monetary policy stance and outlook. Central banks seek to implement policy without causing sharp swings in interest rates, equities or their currencies. Ahead of a policy meeting, all members communicate their views to markets. Public comments are then prohibited from a few days before the meeting until the new policy decision has been announced. This interval is known as the blackout period.