While the loonie has continued to outperform the greenback in the G-10 this year, it has begun to lose ground. The CAD is expected to continue to unwind gains in the coming months, according to CIBC economists, as the Fed’s tone becomes increasingly hawkish in comparison to the Bank of Canada.
“While the tone in the Treasury market suggests economic concerns, this is mainly a reflection of concerns about foreign economies. In the United States, prior fiscal stimulus, accumulated savings, and rising labor income should all contribute to a solid consumer-led recovery in the coming years. Because of the far larger fiscal stimulus package and earlier reopening, America will eliminate economic slack a few quarters ahead of Canada, which contradicts market expectations for more aggressive rate hikes north of the border. A re-calibration of those expectations will support a further, if minor, decline of the Canadian dollar during the remainder of 2021, bringing USD/CAD to 1.27 by the year’s end.”
“Oil price increases in recent months have done little to slow CAD depreciation. Markets may be agreeing with us that OPEC+ will finally find an agreement on reversing past output limits. A broader softening of commodity prices in the next year as supplies catch up to the current spike in demand would also put downward pressure on the CAD.”
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The Bank of Canada’s new ToTEM III economic model, which focuses a greater emphasis on the impact of rate hikes on highly indebted Canadian households, demonstrates where its thinking falls. When you combine that with the fact that Canada will close its output gap later than the US, resulting in lower inflation, the BoC is on track to raise rates after the Fed, necessitating a shorter rate rise path even if the final neutral rate destination is similar to the US. Increases in interest rates have half the impact on American households as they do on their Canadian counterparts. As a result, expect the CAD to lose its sheen until 2022 as the Fed takes more aggressive policy actions.”/n
