Bank of Canada holds key interest rate steady, analyst says USD/CAD could head to 1.40

© Reuters Bank of Canada holds key interest rate steady, analyst says USD/CAD could head to 1.40

Proactive Investors - The Bank of Canada has kept its key interest rate steady for the first time in a year, holding at 4.5%, while stating that it is continuing with its policy of quantitative tightening.

It was signalled at its January decision that the bank expected to hold the interest rate at its current level, conditional on economic developments.

The bank also reiterated its commitment to returning inflation to its 2% target and said it is prepared to increase the policy rate further if needed.

“The bank remains resolute in its commitment to restoring price stability for Canadians,” it said in a statement.

With annual inflation easing to 5.9% in January, the bank said it expects inflation to come down to about 3% year-over-year by the middle of 2023.

A stark contrast to the Fed

Analysts at ING noted that the contrast between the Bank of Canada and the renewed hawkishness at the Federal Reserve is increasingly stark.

"Today, BoC confirmed that rates most likely peaked in January with 'restrictive monetary policy' weighing on household spending and investment," they noted.

"While BoC acknowledges that the labour market 'remains very tight', it doesn't have the same fears as the Federal Reserve that this will keep inflation pressures elevated."

The analysts added that, although the Bank of Canada said it may increase the policy rate further if needed to return inflation to its 2% target, they do not think it will need to.

"Canada’s high household debt levels and greater exposure to interest rates rate hikes via a higher prevalence of variable rate borrowing make the economy more at risk of a deeper downturn than the US," they said.

"For example, in the US the 30-year fixed rate mortgage is the most common borrowing method while in Canada it is five years or less before it faces a change in interest rate. As such, the next move is more likely to be an interest cut in our view."

USD/CAD could head to 1.40

Following the Bank of Canada’s announcement, the USD/CAD hit its highest level since November 2022, reaching 1.3784 at noon.

“Above that level we have last year’s high at 1.3977 and then the key 1.40 handle next,” noted City Index and FOREX.com market analyst Fawad Razaqzada.

However, he pointed out that with today’s macro data mostly out of the way, it remained to be seen whether it will get to those levels or see a retracement first.

“It is possible that some traders may now ease off the gas until Friday to push rates significantly from around current levels. On Friday we have jobs reports from both North American nations,” Razaqzada said.

“Regardless of the short-term, we maintain a bullish view on this pair thanks to the Fed getting hawkish again.”

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