The USD bull-run continues fuelled by better-than-expected US data. In that, the data is helping the currency by underscoring the cyclical divergence between the US and the rest of the world rather than fuelling Fed rate hike expectations. These developments have resulted in a growing relative rate advantage for the USD and are further supported by the latest oil price rally that is seen as largely neutral to even somewhat positive for the US economic outlook. In contrast, higher crude prices are seen as fuelling stagflation risks for the economies of energy importers like the Eurozone, Japan and the UK. On the day, the US calendar is relatively light and focus will be on the speech by the Fed’s Michael Barr. All of this suggests that the USD will continue to take its cue from the evolution of its relative rate and yield spread to the rest of G10 as well as the ebb and flow of market risk sentiment. The ‘USD smile’ has firmly reassessed itself as the key template for FX markets and the USD could continue to move closer to its extremes either because of its growing rate advantage or because of a further spike in risk sentiment.
BoC Governor, Tiff Macklem, followed the BoC’s unsuccessful attempt at a hawkish hold on rates with an equally unsuccessful hawkish hold speech. While Macklem said the central bank is “prepared to take further action” and that it remains concerned about sticky wages growth and the recent reacceleration in inflation, he also pointed out that the victory over inflation is “now in sight”. Macklem also indicated a pause made sense at this time given that previous rate hikes are working their way through the economy. Macklem acknowledged the pain in certain sections of the community. While the BoC is independent, Macklem could be feeling the political heat. Before the meeting on Wednesday, premiers of British Columbia, Ontario and Newfoundland and Labrador all wrote public letters urging the BoC not to hike rates. After the meeting, Finance Minister, Chrystia Freeland, said it was welcome relief for Canadians. The Canadian labour market data released later today will help determine how credible the BoC’s hawkish hold is given strong labour market would give it political cover to hike rates further; if it needed such cover and if it needed to hike rates further. Back in July, the impact on rates and the CAD of an in-line uptick in the unemployment rate and surprising decline in net employment was offset by a steep pick-up in average earnings to 5% YoY. Both series can be quite volatile from month-to-month, but the latter possibly carries greater importance, at least for the BoC’s reaction function. Any evidence that wages growth continues at a faster pace than expectations of Canadian firms for the year ahead (around 4.5%) would bolster the credibility of the BoC’s hawkish hold and give the CAD some much needed support. Observe the USD/CAD trends.
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