BOC Governor Macklem sticks to the script, USD/CAD consolidates

KEY TAKEAWAYS:

• BOC Governor Macklem expects to stop raising interest rates as the BOC enters a new phase in the year-long battle with inflation.
• The central bank has increased interest rates eight times since last March, bringing its benchmark lending rate to 4.5%.
• The consumer price index inflation remains far above the bank’s 2% target, but the bank expects the annual rate of inflation to slow to around 3% by mid-year.

Earlier today, Bank of Canada (BOC) Governor Tiff Macklem delivered a speech about the central bank's monetary policy, reinforcing that the BOC has entered a new phase in its year-long battle with inflation. The central bank has increased interest rates eight times since last March, bringing its benchmark lending rate to 4.5% from 0.25% in the fastest monetary policy tightening cycle in a generation. After a quarter-point increase in late January, the bank announced a "conditional pause" to further rate hikes.

Mirroring the simultaneous speech by Fed Chairman Jerome Powell, Governor Macklem stated that the BOC is prepared to raise its policy rate further if new evidence begins to accumulate that inflation is not declining in line with the forecast. However, if new data are in line with the forecast and inflation comes down as predicted, the bank won't need to raise rates further. Consumer price index inflation remains far above the bank's 2% target, clocking in at an annual rate of 6.3% in January. But Governor Macklem highlighted the progress made in recent months, such as a significant decrease in oil prices and leveling off of durable goods prices.

The bank's latest forecast shows the annual rate of inflation slowing to around 3% by the middle of 2023, and reaching 2.5% by the fourth quarter. While energy prices pose a risk to the forecast, the bank's measures of core inflation have come down, indicating that core inflation will start to decline in the coming months.

Governor Macklem emphasized that interest rate changes take time to have a full impact on economic growth and inflation. He noted that rate increases hit the housing market first and squeeze consumer spending and business investment over time as debt-servicing costs rise. The BOC expects the Canadian economy to stall through the first three quarters of 2023, and a mild recession is possible. However, Governor Macklem has not hinted at considering cutting interest rates and stated that it is too early to talk about easing monetary policy.

To put it in perspective, the BOC's monetary policy is like a chef's seasoning in a dish. The chef needs to add the right amount of seasoning to bring out the flavors, but adding too much can overpower the dish. Similarly, the BOC needs to adjust interest rates to manage inflation, but too much tightening can slow down the economy unnecessarily.

Technical view: USD/CAD

With little in the way of new information from Macklem, USD/CAD is trading essentially unchanged on the week near 1.3400. Zooming out, the pair remains above its November lows but below its October (and December) highs, signaling consolidative price action. In the short term, traders are watching the 50-day EMA near 1.3450 as resistance, followed by the declining “trend” line near 1.3550, while support sits at the 200-day EMA around 1.3260 and previous-resistance-turned-support at the 1.3200 handle.

Source: StoneX, TradingView

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