Canada's monthly GDP grew 0.14%

Martin Schwerdtfeger, FX Strategist, on the Canada’s economy and the CAD

In our opinion Stephen Poloz (the Governor of the Bank of Canada) will keep a cautious tone, acknowledging higher inflation; however, also noting downside risks.

Canada’s monthly GDP grew 0.14% in April which was slightly below the market expectations of 0.2%; however, excluding oil and gas extraction, it was at 0.19%. Therefore, do you think that these levels raises some concerns and the Bank of Canada Governor Stephen Poloz will revise down his second-quarter estimate of 2.5 percent on July 16?

Indeed, we see Q2 GDP (Gross Domestic Product) tracking closer to 2.1% quarter on quarter annualized now, and we expect the Bank of Canada to revise their growth projection lower on July 16th. We also expect them to revise their inflation projections higher. In our opinion Stephen Poloz (Governor of the Bank of Canada) will keep a cautious tone, acknowledging higher inflation; however, also noting downside risks associated with weaker economic growth.

Since March the U.S. Dollar has been outperformed by the Canadian counterpart and now USD/CAD is trading around the levels seen at the beginning of the year. To your mind what have determined the pair’s performance the most?

A combination of factors has impacted the Loonie’s performance. First, the overall weakness of the U.S. Dollar due to disappointing data, second, the Fed that continues to strike a dovish tone also has had an impact on the cross. In addition, the upside surprise in Canadian inflation for the month of May released in June triggered market speculation that the Canadian central bank was running out of space to continue to downplay inflation coming above its projections, boosting the Canadian currency.

What could be the main drivers for the Canadian currency for the rest of the year?

The main driver for USD/CAD will be the outlook for the U.S. economy and how U.S. interest rates change in line with the evolving economic outlook and the expectation for the first Fed hike. Improving economic dynamics in the second half of the year should lead to higher interest rates in the belly of the curve and longer, which, in turn, should boost the U.S. Dollar.

Canadian domestic data and its implications for monetary policy by the Canada’s central bank will also dictate the Loonie's movements; however, we currently see data developments to be more likely to drive the U.S. economy closer to an inflexion point sooner than in Canada.

What are your forecasts on USD/CAD and EUR/CAD for the short term and for the year end?

We see USD/CAD at 1.12 by the end of Q3 and 1.15 by year-end.

For EUR/CAD, our forecast is 1.45 and 1.46, respectively.