Five Months of Strength Ending, Five Weeks of Consolidation, BoC Minutes (19 June) to Determine Next Direction
Monday, 17 June, Week 25: The Canadian dollar (CAD) has been on an upward trajectory for the past five months, appreciating against most major currencies. However, over the past five weeks, the CAD has entered a period of consolidation, trading within a narrow range. The upcoming release of the Bank of Canada (BoC) Minutes from its June meeting on 19 June will be pivotal in determining the next direction for the CAD. This report will delve into the market fundamentals affecting the Canadian economy, the BoC's monetary policy, and the relevant financial markets, including the CAD.
Fiscal Policy
Canada's fiscal policy is currently expansionary, with the government planning to increase its annual spending by more than a quarter, reaching C$608.7 billion by 2028-29. This has raised concerns about escalating government debt levels and potential inflationary pressures. The government's focus on boosting spending is aimed at supporting economic growth and social programs, but it has also contributed to a widening current account deficit.
In the coming five weeks, the impact of this expansionary fiscal policy on the CAD will depend on market sentiment towards the government's spending plans. If investors perceive the spending as necessary to support long-term growth and maintain social stability, the CAD could remain supported. However, if concerns about debt sustainability and inflation risks intensify, the CAD could come under pressure.
Economics
The Canadian economy has shown resilience in recent months, but growth has moderated in the face of elevated inflation and higher interest rates. The strong US economy has provided support through robust export demand, but domestic spending has been more subdued.
Economic Growth
GDP Growth Rate: The Canadian economy expanded by 0.4% in the first quarter of 2024, accelerating from a downwardly revised flat reading in the previous period. This growth was primarily fueled by a 0.7% increase in household spending. On an annual basis, real GDP expanded by 1.7%, the highest rate since the first quarter of 2023, though it fell short of market expectations of a 2.2% growth. Trading Economics forecasts GDP growth of 0.4% by the end of the current quarter and around 1% in 2025.
GDP Annual Growth Rate: The Gross Domestic Product (GDP) in Canada expanded 0.50 percent in the first quarter of 2024 over the same quarter of the previous year.
GDP Growth Annualised: The Canadian GDP expanded by 1.7% in annualised terms in the first quarter of 2024, accelerating from a downwardly revised 0.1% increase in the fourth quarter but coming below market expectations of a 2.2% growth. Trading Economics forecasts GDP growth annualised of 0.8% by the end of the current quarter and around 2% in 2025.
In the coming five weeks, economic growth data will be closely watched for signs of momentum. The release of April retail sales data on 21 June will provide insights into consumer spending trends.
Labour
Unemployment Rate: The unemployment rate in Canada rose to 6.2% in May of 2024 from 6.1% in the earlier month, the highest since October of 2021, and in line with market expectations. The unemployed population jumped by 28,000 to 1.365 million, with just under one-quarter transitioning to employment. Trading Economics forecasts an unemployment rate of 6.1% by the end of the current quarter and around 6.5% in 2025.
The labour market remains relatively tight, with the unemployment rate near historical lows. However, recent data suggests some easing in labour market conditions, with job creation slowing and the unemployment rate ticking up. The release of June employment data on 5 July will be crucial in assessing the health of the labour market.
Price Changes
Inflation Rate: The annual inflation rate in Canada eased to 2.7% in April of 2024 from 2.9% in the earlier month, in line with market expectations, to mark the softest rate of consumer price growth since March 2021. Trading Economics forecasts an inflation rate of 2.5% by the end of the current quarter and around 2% in 2025.
Inflation Rate MoM: Consumer prices in Canada rose by 0.5% from the prior month in April of 2024, slowing slightly from the 0.6% increase in March. On a seasonally adjusted basis, consumer prices rose by 0.2%.
Inflation has shown signs of moderating, with the headline CPI easing to 2.7% in April. However, core inflation remains elevated, and price pressures persist in certain sectors, such as housing. The release of May CPI data on 25 June will be crucial in gauging inflationary pressures.
Trade
Balance of Trade: Canada reported a trade deficit of CAD 1.05 billion in April 2024, almost half of the CAD 2 billion deficit recorded in March and much lower than market forecasts of a CAD 1.4 billion gap. Exports were up 2.6% to CAD 64.5 billion, as shipments increased for metal & non-metallic mineral products (+4.7%), aircraft, other transportation equipment & parts (+8.6%), farm, fishing & intermediate food products (+5.5%) and consumer goods (+1%). Trading Economics forecasts a trade balance of CAD 2.549 billion by the end of the current quarter.
Current Account: Canada’s current account deficit widened to CAD 5.4 billion in the first quarter of 2024 from CAD 4.5 billion in the previous period, slightly below market expectations of CAD 5.5 billion. This marks the seventh consecutive deficit. The increase was primarily due to the goods balance shifting from a surplus to a deficit. Trading Economics forecasts a current account of CAD -500 million by the end of the current quarter.
Canada's trade balance remains volatile, with the country reporting a trade deficit in April. The current account deficit has also widened, reflecting challenges in the goods balance. The release of May trade data on 5 July will provide further insights into Canada's external sector performance.
Monetary Policy
The BoC maintained its benchmark interest rate at 5% in its June meeting, following a 25bps rate cut in its previous meeting in May. The central bank acknowledged the recent moderation in inflation but highlighted the persistence of core inflationary pressures. The BoC also expressed concerns about the expansionary fiscal policy and its potential impact on inflation.
In the coming five weeks, the BoC's monetary policy stance will be heavily influenced by incoming economic data, particularly inflation and retail sales figures. The release of the BoC Minutes on 19 June will provide valuable insights into the central bank's thinking and could offer clues about the future path of interest rates.
Geopolitics and Market Themes
Several geopolitical situations and market themes could influence the CAD in the coming weeks:
Ukraine Peace Summit
Synopsis: World leaders are meeting in Switzerland to discuss potential pathways to peace in Ukraine. Russia is not attending the summit, and Ukraine has already rejected a proposal from Russian President Vladimir Putin that would see Kyiv cede four eastern provinces to Russia and drop its ambition to join NATO. China is also not attending the summit, despite lobbying from the United States and others, and is pushing a rival peace plan.
Key Developments:
Russia is not attending the summit.
Ukraine has rejected Putin’s peace proposal.
China is not attending the summit and is pushing a rival peace plan.
Assessment: The absence of Russia and China from the summit suggests that a breakthrough in peace negotiations is unlikely. The summit could still provide an opportunity for Ukraine and its allies to coordinate their strategy and present a united front against Russia. The potential for escalation or de-escalation of the conflict could impact market sentiment and influence the CAD, as Canada has been a strong supporter of Ukraine.
Israel-Hamas War
Synopsis: Israel’s war against Hamas is escalating, with Israeli forces now reoccupying Gaza. The conflict has raised concerns about a wider regional war, as Iran-backed Hezbollah has launched rocket attacks on Israel from Lebanon.
Key Developments:
Israel has reoccupied Gaza.
Hezbollah has launched rocket attacks on Israel from Lebanon.
The United States and Arab states are calling for a ceasefire.
Assessment: The escalation of the Israel-Hamas war is raising geopolitical risks in the Middle East. The conflict is also disrupting global shipping, as many shipping companies are avoiding the Red Sea due to the risk of Houthi attacks. This could impact energy prices and global supply chains, potentially influencing the CAD.
U.S. Presidential Election
Synopsis: The U.S. presidential election is heating up, with former President Donald Trump focusing his campaign on attacking President Joe Biden. Trump is working to convince House Republicans to oppose any measures supported by Biden, particularly on foreign and border policy.
Key Developments:
Trump is focusing his campaign on attacking Biden.
Trump is working to convince House Republicans to oppose Biden’s agenda.
Trump’s first criminal trial is likely to begin this quarter.
Assessment: The U.S. presidential election is increasing political uncertainty in the United States. Trump’s efforts to obstruct Biden’s agenda could make it harder for the United States to provide aid to Ukraine and address the immigration crisis at the border. This uncertainty could spill over into Canada, impacting the CAD.
European Parliament Elections
Synopsis: Elections for the European Parliament took place June 6-9. Opinion polls indicated that right-wing and far-right parties would make significant gains across several EU countries, but that the current grand coalition of centre-right and centre-left forces would retain its majority.
Key Developments:
Right-wing and far-right parties are expected to make gains.
The current grand coalition is expected to retain its majority.
The new European Parliament will elect a new European Commission.
Assessment: The European Parliament elections will shape the political direction of the European Union for the next five years. A more conservative parliament could lead to a shift in EU policy on issues such as climate change, migration, and the economy. The outcome of the elections could impact market sentiment and influence the CAD, as Canada has close economic ties with the EU.
Conclusion
The CAD's direction in the coming five weeks will be determined by a confluence of factors, including fiscal policy, economic data, the BoC's monetary policy stance, and geopolitical developments.
Upward Support:
The CAD could come under upward support if:
Incoming economic data, particularly inflation and retail sales figures, point to continued economic resilience and easing inflationary pressures.
The BoC Minutes strike a hawkish tone, suggesting that the central bank is comfortable with its current monetary policy stance and is not inclined to cut interest rates further.
Geopolitical risks, such as the Ukraine conflict and the Israel-Hamas war, de-escalate, improving market sentiment.
A pivotal event in continuing or ending this outlook would be the release of the BoC Minutes on 19 June.
Indifference:
The CAD could trade within a narrow range if:
Economic data is mixed, with some indicators pointing to strength while others suggest weakness.
The BoC Minutes offer no clear signals about the future path of interest rates.
Geopolitical risks remain elevated but do not escalate significantly.
A pivotal event in continuing or ending this outlook would be the release of May CPI data on 25 June.
Downside Pressure:
The CAD could come under downside pressure if:
Economic data disappoints, suggesting that growth is slowing more than expected or that inflationary pressures are persisting.
The BoC Minutes strike a dovish tone, suggesting that the central bank is concerned about the economic outlook and is open to cutting interest rates further.
Geopolitical risks escalate, leading to a deterioration in market sentiment.
A pivotal event in continuing or ending this outlook would be the release of June employment data on 5 July.
References
Bank of Canada: https://www.bankofcanada.ca/
Statistics Canada: https://www.statcan.gc.ca/
Trading Economics: https://tradingeconomics.com/
Reuters: https://www.reuters.com/
Bloomberg: https://www.bloomberg.com/