Dovish BoC Guidance Would Drive US And Canadian Dollar Losses

According to foreign exchange analysts at MUFG the latest Bank of Canada policy decision will have an important impact on Canadian, US and global rate expectations.

Dovish guidance would tend to support international risk appetite and dampen expectations surrounding Fed policy.

MUFG adds; “Updated guidance from the BoC to pause hikes could weigh more heavily on both the CAD and USD.”

In contrast, hawkish guidance from the BoC would potentially support the Canadian and US dollars while also undermining risk appetite as markets are forced to face a reality check.

Bank of Canada Policy Decision will Have Global Implications

The Federal Reserve will announce its latest policy decision on February 1st. Following the latest rhetoric from central bank officials, there are strong expectations that the central bank will decide on a further slowdown in the pace of interest rate increases to 25 basis points.

Fed officials will be in a blackout period this week ahead of the decision.

MUFG notes that the Bank of Canada will hold its latest policy decision this week.

Consensus forecasts are that the central bank will increase interest rates by a further 25 basis points to 4.50%.

The December Canadian policy decision had an important impact on global expectations when the bank stated that it will consider whether interest rates need to increase further to bring supply and demand into balance and return inflation to target.

The suggestion that rates might not have to raise rates further triggered a rally in risk appetite and also helped undermine the US dollar amid a shift in expectations surrounding US rates.

MUFG expects the BoC rhetoric will also be important this time around. It adds; “those expectations could be indirectly influenced to some extent by the BoC’s upcoming policy decision on Wednesday.”

Markets Expect Canadian Rates to Peak at 4.50%

MUFG notes market expectations are for BoC rates to peak at 4.50%.

It also commented; “If those expectations are to be met, the BoC will need to provide a strong signal that it is seriously considering pausing the hiking cycle to assess the impact of aggressive tightening over the last year.”

MUFG also expects that guidance along these lines would have an important impact on Fed expectations. It notes; “Such communication from the BoC would likely have an impact on US rate market expectations for the Fed to soon pause their own hiking as well even if we would argue that the BoC will pause before the Fed.”

Dovish guidance would have important implications for exchange rates with potential US and Canadian dollar losses while equity markets would express further relief.