Shifting economic data has opened the door for the Australian dollar to recoup some of its year-to-date losses to its Canadian counterpart – at least in the short-term.
Canadian inflation and retail sales data, released over the weekend, signalled that market expectations for the Loonie and Canadian government bonds look about right.
Bank of Canada governor Stephen Poloz has lifted rates four times since July 2017 and is widely expected to lift the key rate by 25 basis points to 1.75 per cent when policymakers meet this week. Capital Economics sees rates topping out at 2 per cent in January; TD Securities sees the potential for three hikes in total in 2019 with rates reaching 2.5 per cent by year’s end.
“The BoC remains on a gradual path, constrained by competitiveness issues, debt overhang and a lower neutral rate,” TD Securities said after the latest data releases.
The consumer price index rose 2.2 per cent on a year-on-year basis in September, following a 2.8 per cent increase in August, StatsCan reported on Friday in Ottawa.
Month over month, the CPI decreased 0.4 per cent – one of the biggest monthly misses by consensus in recent memory according to the Bank of Montreal – as transitory pressures from the gasoline, air transportation and travel tours indexes, which boosted the all-items CPI in July and August, eased.
Separately, StatsCan said retail sales declined 0.1 per cent to $C50.8 billion ($54.5 billion) in August, following a 0.2 per cent increase in July.
“The one-two punch of softer inflation and retail activity does dull the recent shine from the economy, but we still expect the BoC to proceed with a rate hike” this week, Bank of Montreal chief economist Doug Porter said. “Looking further out, the much calmer inflation and consumer spending backdrop reinforces the lack of urgency for additional rate hikes, and will thus likely keep the bank in ‘gradual’ mode for some time yet.”
Mr Porter said each one of the central bank’s measures of core inflation dipped by a 10th in September, taking the average of the three down to exactly 2.0 per cent, from exactly 2.1 per cent.
“So, core is now bang-on the bank’s target, GDP growth is very close to potential, the output gap is now effectively zero, and the 5.9 per cent unemployment rate is close to a 40-year low,” Mr Porter said “It’s safe to say the economy is back ‘home’, as Mr Poloz so often puts it.”
In contrast to signs the Canadian economy is gearing down slightly, last week’s Australian labour force data showed the local economy continues to power ahead, bolstering bets for a “convergence trade” between the two countries’ currencies, according to TD.
TD said it expected the Aussie to rise as high as C96¢. It was trading at C93.22¢ at the close of trade in New York on Friday, reflecting a 5 per cent drop so far this year. The two currencies briefly traded at par in late March.
The two commodity-linked currencies have fluctuated in a 10-cent range for most of the past five years, in large part reflecting swings in the price of oil and the price of iron ore.
The key rates at both nation’s central banks are now 1.5 per cent.
Mr Poloz has pressed rates higher in a bid to return them to more normal levels, taking every opportunity to do so and making Canada the most aggressive central bank in lifting rates short of the US Federal Reserve.
In the US, Janet Yellen and now Jerome Powell have overseen eight rate increases in the current cycle with expectations of a ninth increase in December and the potential for at least two more increases in 2019.
TD said it expected “the BoC to retain ‘gradual’ in its statements in the coming quarters, and any further emphasis could be a rude awakening for markets. As such, scope for a dovish disappointment in the market is high, especially on any further hawkish repricing. A dovish turn in central bank communications cannot be ruled out, in addition to slowing data momentum”.
The Bank of Canada puts its neutral rate in a range of 2.5 per cent to 3 per cent – that’s the point at which rates neither stimulate nor restrain growth. The Fed currently puts the US neutral rate between 2.75 per cent and 3 per cent.
What’s clear is that the neutral rate is far from fixed, hence the increasing focus on data to drive policy by central bankers everywhere.