USD/CAD: what to expect from the Fed meeting?

 
 
 
 
 
 
 

As reported this morning in the UK Office for National Statistics, the consumer price index, which reflects the dynamics of retail prices for a group of goods and services that make up the consumer basket, rose +0.6% in May (+2.1% on an annualized basis). The forecast was +0.3% and +1.8%, respectively. Inflation in the country has exceeded the target level of the Bank of England of 2%, which, coupled with the recently published positive data from the British labor market, reinforces the opinion of some economists that the Bank of England may soon start discussing the rollback of quantitative easing measures.

The pound strengthened after the publication of inflation indicators. Now similar indicators will be published by Statistics Canada today at 12:30 (GMT). The target inflation rate of the Bank of Canada is in the range of 1% - 3%. The Core Consumer Price Index (Core CPI), considered a key indicator of inflation in Canada, rose in April 2021 by +2.3% (yoy), which is a positive factor for the CAD and may begin to put pressure on the Bank of Canada towards proactive measures to tighten its monetary policy.

The data better than the previous values will strengthen the Canadian dollar. If the data for May turns out to be worse than the previous values, it will negatively affect the CAD. Forecast: Core CPI rose +2.4% YoY in May, which is likely to have a positive impact on the CAD and negatively on the USD / CAD pair, which continues to develop an upward correction so far after an almost continuous multi-month decline since April 2020 years, i.e. in fact, from the moment when the Fed began an aggressive stimulus policy, lowering the interest rate in March 2020 to the current almost zero level (0.25%). The CAD is also receiving strong support from rising oil prices, while still maintaining the signs of a commodity currency in many ways.

Today, the focus of attention of investors and other financial market participants will be the publication (at 18:00 GMT) of the Fed's decision on the interest rate. Since March 2020, the Fed has maintained its key rate at 0.25%, and since June 2020, it has been purchasing monthly government bonds and mortgage bonds in the amount of at least $ 120 billion.

At the meeting, which began on Tuesday, Fed officials are widely expected to maintain the current parameters of monetary policy. They have also previously reiterated the need to adhere to the current ultra-soft policy, while waiting for the economy to show “further significant progress” towards the Fed's targets before there is a need to discuss the possibility of reducing asset purchases.

They allow the inflation rate in the US to exceed the Fed's target of 2% for some time. At the same time, even if the volume of asset purchases begins to reduce, the level of interest rates will be held unchanged until the end of 2023.

Nevertheless, unexpected statements are not excluded. If they really come from the mouth of the head of the Fed, Jerome Powell, then a strong correction may begin in the financial market associated with the strengthening of the dollar.

Some economists expect that following this meeting, the Fed will announce the start of cutting bond purchases in the 3rd quarter of 2021 and an increase in interest rates at the end of 2022. If this happens, then the real yield on US government bonds may rise, and the US dollar will strengthen.

At the time of this posting, USD / CAD is traded in a narrow range near 1.2185 mark, about 20 pips below the June and 6-week highs of 1.2204, while DXY futures are traded near 90.47 mark, just 15 points below 4-week highs hit Tuesday and last week. The DXY has gained 67 points since the beginning of this month.

Thus, today at 12:30, 18:00 and 18:30 (GMT), when the Fed's press conference begins, a surge in volatility is expected in the financial market, and above all, in the quotes of the US dollar and in the USD / CAD pair. The more unexpected Powell's statements about the prospects for the Fed's monetary policy are, the stronger the volatility will be.