By Michael O’Neill

“Oh Canada, the BoC stands on guard for thee.” We know that is the case because Governor Tiff Macklem never misses an opportunity to say so.

The BoC left interest rates unchanged at 5.0%, to the surprise of no one, although the statement had a little bite. Mr. Macklem emphasized the need to “remain restrictive in monetary policy to ensure that the progress made in reducing inflation is not jeopardized.  The statement noted that the Governing Council “remains concerned about the persistence of underlying inflation, and we want to see a further deceleration in core inflation in the coming months.”

The news gave the Canadian dollar a boost. USDCAD dropped from a pre-statement price of 1.3570 to 1.3504 during Mr. Macklem’s press conference. Futures traders on the TMX Montreal exchange pushed out their expectations for the first rate cut to December 2024.

Source: TMX Montreal Exchange

The rate cut delay has consequences, especially for those who owe part of the $251 billion in mortgages that are up for renewal in 2024. Policymakers are well aware. A staff note in December 2023 said that by 2026, most pre-hike mortgage holders will face renewals with potentially steep increases, especially for variable-rate borrowers, who could see median payments jump by 54% by 2027.

Still, the BoC decision to leave rates unchanged for longer is supported by at least one economist. Scotiabank’s Head of Capital Markets Derek Holt said even a cut in April “would be about the dumbest thing a central bank could do.”

The issue is that the BoC’s mandate is for an inflation target of 2.0% inside a control range of 1 to 3%. It doesn’t say anything about a target for CPI-trim, or CPI-median and January inflation (as per the BoC website) is 2.9%. In addition, the BoC failed miserably in forecasting inflation when it was below 1.0% prior to the pandemic and above 3.0% post- pandemic. Why would anyone think they will be better this time?

Mr. Powell testified before the Committee on Financial Services, US House of Representatives. His remarks were nuanced yet discernibly dovish shift in its monetary policy stance. He repeated that Fed funds might have peaked in the current tightening cycle, which ticks one dovish box. He also said that easing labor market tightness and falling inflation meant that the risks to achieving the Fed’s employment and inflation goals were better balanced.

It wasn’t all sunshine and unicorns. Mr. Powell said they were keeping a close eye on elevated risks to global energy prices, transportation costs, and that they wanted to ensure domestic inflation wasn’t more persistent than expected.

Traders liked what they heard and jumped aboard the rally bus. Wall Street stocks rose, The US 10-year Treasury yield dropped to 4.11%, and the US dollar index (DXY) fell to 103.23 from 103.45.

USDCAD bears are as happy as Winnie-the-Pooh with a honey pot. They have fully embraced the idea that Canadian interest rates will remain higher than those south of the border and for a lot longer. They are also looking at oil prices and are quite happy because West Texas Intermediate (WTI) is above $80/barrel. In addition, Canadian employment has been fairly robust and the March 8 results (forecast 20,000, unemployment 5.8%) may support the BoC’s cautious rate stance.

Nevertheless, USDCAD sellers may be just as naive as Pooh Bear. A large part of the USDCAD sell-off following the BoC and Powell’s testimony was merely a factor of US dollar selling against the majors. IMM speculative positions were modestly long dollars as of Friday, and they appear to be unwinding.

For starters, Powell’s comments may have crossed into the dovish realm, but he does not have any intention of easing rates any time soon.

Canada continues to flirt with a recession. December GDP was flat, and 0.2% q/q growth is a tad pathetic when compared to the US growth of 3.1%. The numbers pale in the face of the US GDP growth of 3.1 and that occurred despite 525 bps of rate hikes.

The US 2024 Presidential election will see a rematch between Biden and Trump. A New York Times/Siena College poll found that 73% of voters believe Joe Biden is too old to be an effective President. Trump beat up Trudeau on trade and essentially imposed the USMCA trade agreement on the country and then rubbed salt in the wound by unilaterally imposing tariffs on Canadian steel and aluminum. Trump supports the fossil fuel industry while the current Liberal government abhors it, and he wasn’t a fan of Justin Trudeau either.

The outlook for continued US economic outperformance compared to Canada, and steady US interest rates suggest that USDCAD will struggle to sustain losses below 1.3440, at least until the March 20 FOMC meeting.

BoC Governor Tiff Macklem may have some bite, but he is not the biggest dog in the fight.