USD/CAD spikes after BoC cuts interest rates and US ISM Services PMI rises

USD/CAD spikes to a high of 1.3742 on Wednesday after the Bank of Canada (BoC) governing council decides to reduce its key interest rate by 0.25% to 4.75%, following its June policy meeting. The decision weighs on the Canadian Dollar (CAD) since lower interest rates attract less foreign capital inflows. The US Dollar (USD) meanwhile gains a shot in the arm from a higher-then-expected reading for the ISM Services PMI in May, which continues to portray the sector in vibrant health. 

USD/CAD rallies after BoC decision

USD/CAD rose by over 0.2% on Wednesday straight after the BoC governing council decided to make a cut to its key interest rate at its June policy meeting.

“With continued evidence that underlying inflation is easing, the Governing Council agreed that monetary policy no longer needs to be as restrictive and reduced the policy interest rate by 25 basis points,” the BoC said in its policy statement. 

The decision means the interest rate differential between the BoC and the US Federal Reserve (Fed) has widened. The Fed’s key interest rate is 5.0% - 5.25%. The higher interest available in the US is a draw for foreign capital and benefits the US Dollar, which in turn is positive for USD/CAD. 

The governing council noted that the BoC’s preferred gauge of inflation stood at 2.7% in April which, although above the BoC’s 2% target, was low enough to warrant a rate cut. In addition supply was overall greater than demand in the economy.  

The Canadian economy’s 1.7% growth in Q1 was slower than the BoC had forecast. Further “weaker inventory investment had dampened activity” and wage pressures had “moderated” the governing council noted.

On the other hand, “Consumption growth was solid at about 3%, and business investment and housing activity also increased. Labour market data show businesses continue to hire, although employment has been growing at a slower pace than the working-age population,” the BoC statement said. 

In addition to cutting the target for its key overnight policy rate to 4.75%, the BoC also cut the Deposit Rate to 4.75% whilst its Bank Rate at 5.0%. 

USD/CAD gets second wind after ISM Services PMI surprises to the upside 

USD/CAD gained a further boost following the release of higher-than-forecast ISM Services PMI data which showed the US services sector remained in rude health, in contrast to manufacturing which contracted during the same period. 

ISM Services PMI in the US rose to 53.8 in May, up from 50.8 in April and beating forecasts of 49.4. It was the highest reading in nine months. The growth was driven by a rise in New Orders. Firms held back on employing new staff, however, but wages increased. 

“A return to growth of new orders spurred US service providers,” the ISM report stated. “Less positive was a second successive reduction in employment as firms remained reluctant to replace departing staff. Higher wages for existing workers, meanwhile, was the key driver of a further sharp increase in input costs, with the rate of inflation quickening from that seen in April,” it went on. 

Despite the growth in New Orders and rise in wages Services inflation actually expanded at a slower rate as the Prices Paid component fell to 58.1 in May from 59.2 in April.