Bank of Canada begins rate hike cycle

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Despite the geopolitical mess across Ukraine’s borders and growing fears over its global economic impact, the Bank of Canada (BoC) is expected to raise its benchmark interest rate at 15:00 GMT on Wednesday. Local developments may well justify the long-awaited rate hike, although a hawkish communication is more likely to trigger another bull run in the Canadian dollar than an aggressive rate hike.

March rate hike seems like a done deal

The BoC defied January rate hike expectations, keeping borrowing costs steady at a record 0.25% amid omicron uncertainty. His communication, however, was quite directional, with Governor Tiff Macklem believing that a rate hike is inevitable in the coming months in a booming economy. Having also removed its rate guidelines, there is no doubt that the central bank could hold back this time around.

As the world learns to live with the pandemic, Russian-Ukrainian political tensions have unexpectedly opened a new, more depressing chapter in world history. The ongoing exchange of sanctions and countermeasures between Russia and Ukraine’s Western allies following Moscow’s invasion of Ukraine last week is intensifying by the day, alarming already high inflation and raising fears of another bitter global economic shock, with Russia a key source. grain, energy and metals.

An aggressive rate hike may not happen

Thus, global economic uncertainties will again this week debate the central bank’s tightening plans given Canada’s dependence on international trade. Policymakers, however, cannot push back this time. In fact, domestic factors could overshadow external risks, as inflation sits at a three-decade high of 5.1% year-on-year in January, more than double the median target of 2.0% in January. the central bank, and could rise further as geopolitical noise across Ukraine’s borders could exacerbate supply chain issues. House prices also rose in the same month, and higher energy prices could even be beneficial for Canadian oil exporters as long as the energy sector is not drastically embroiled in the Ukraine crisis. .

Of course, the rebound in the jobless rate, which hit 6.5% in January – the highest since November – and the loss of 200,000 jobs have upset investors, although this hiccup in the labor market is likely the result of the latest omicron restrictions, which have already been reduced.

The above justifies investors’ expectations for a 25 basis point rate hike, which futures markets are fully pricing in. to play it safe for now and start its rate hike cycle with a normal rate increase to 0.50% from 0.25%.

Loonie Outlook

As for the currency markets, the loonie survived the Ukraine crisis with lesser wounds against European currencies, and rising oil prices continued to defend it against the strength of the US dollar.

Investors are certain of the rate announcement, therefore the policy decision itself may not boost the loonie unless the central bank reiterates that it will forcefully adjust “monetary policy if necessary to deal with any situation that arises,” as the BoC’s first governor, Tim Lane, said two weeks ago. If such comments approve of the scenario of six rate hikes assessed on the markets for this year, the loonie could drift higher.

Notably, policymakers also revealed at the January meeting that they plan to start selling government bonds (quantitative tightening) once the first rate hike takes place . Therefore, any positive indication on this could further fuel the loonie as the Bank of Canada has never attempted to reduce its balance sheet before. If that turns out to be the case, it would be interesting to see if the key support region of 1.2665 to 1.2630 in dollar/loonie can break down, paving the way for the simple moving average (SMA) at 200. days at 1.2560 and rising trendline at 1.2550.

Alternatively, if the BoC’s rate hike is accompanied by a more conservative communication style, which questions the aggressive pricing of the rate hike and postpones quantitative tightening before the Fed meeting, the pair could rise. heading for another test near the tough resistance at 1.2800. A steeper rise above 1.2853 could then open the door to the 1-year high at 1.2963.

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