© Shaun Osborne
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In our opinion, Canadian growth will slightly behind the U.S. We are expecting about 2.5% expansion in Canada this year. There are certainly some signs that the nation's economy is a little bit over-leveraged; however, I think that policy makers have been downplaying these concerns. We are more worried about some of the signs of inflation's weakness and perhaps even more concerned about softness in the real economy; especially, after the latest employment data. There are certainly some growth challenges for Canada ahead.
Canada's currency has dropped to its lowest level in three years as the Bank of Canada projected to keep interest rates low for more than a year, thus it seems that officials are trying to talk down the currency. Do you think that they will manage to do it successfully?
To my mind, there has been definitely a shift in focus at the Bank of Canada. I do not think we will see a verbal intervention in the way that we have previously seen for the Australian Dollar or New Zealand Dollar. To my mind, Governor Poloz has been very crafty in his approach by suggesting that he is more concerned about low inflation. Moreover, by shifting the policy bias he has left the door open to further shift to easing bias in the next few months if the data does not pick up in Canada. That is doing a lot of heavy lifting for him in terms of providing some accommodation at least to parts of the economy that really need it, which are manufacturing and export sectors. We still think that rate cuts are low probability; however, there is a significant possibility of a shift in easing bias if the data in Canada remain soft or weaken further.
What will be the main drivers for the Canadian Dollar and what are your short and longer term forecasts for USD/CAD?
There will be ongoing strength in the U.S. Dollar based on the Fed tapering and a possibility that the Bank of Canada moves to an easing bias. We are starting to see distinct policy divergence between the central banks. Thus, we expect to see less accommodation from the Fed and more accommodation from the Bank of Canada, which probably will be the most significant driver for USD/CAD this year. In my opinion, the Fed taper is set in stone and risks that we see some further modification or moderation in the Bank of Canada position are increasing. Therefore, all of the risks seem to be to the downside for the loonie and upside for the greenback over the next few months.
Our year-end forecast for USD/CAD is 1.11. We assume that in the short run there is a risk of a further push up in USD/CAD towards the 1.12 area. I think we may see something in the teens before we see any sort of consolidation or significant pull back in this environment.