The calm waters that prevailed over the summer months have turned choppy for the Canadian dollar. OPEC’s efforts to trim production have left the loonie stronger this week, offsetting the weakness resulting from a more hawkish-than-expected Fed. But, at the end of the day, it’s unclear whether the cartel will end up sticking to the lower target, with the details of the agreement left to be hashed out in November and OPEC having a spotty record in terms of its ability to stick with quota limits.
Given that core inflation has fallen below target and the Fed is standing ready to hike interest rates this year, we continue to see the Canadian dollar weakening as the year winds down. Certainly, a soft first half of the year for growth has left the economy struggling to keep the output gap from widening and markets are now pricing in roughly a 25% chance of a rate cut by next January.
The fact that slightly higher oil prices in the near term have pushed the dollar stronger, but won’t materially change investment intentions in the oil patch, could actually increase the chances of a rate cut from the central bank, with the stronger currency a headwind for exporters. It’s true that federal stimulus, directed towards middle income families and infrastructure, will likely keep Governor Poloz on hold for the remainder of the year. But a longer-than-anticipated rotation away from domestic consumption and toward investment and exports will see the central bank sending dovish signals to the market over the next year, largely to keep financial conditions from tightening via the currency.
All told, the C$ could slide to 1.35 by year-end before trading in a range of roughly 1.34-1.37 in 2017.
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