20.07.202223:36 Forex Analysis & Reviews: USD/CAD: inflation breaks records

After the release of inflation indicators for the UK on Wednesday morning, market volatility may increase again at the beginning of the US trading session, when consumer price indices in Canada will be published, reflecting the dynamics of retail prices of the corresponding basket of goods and services.

The inflation target for the Bank of Canada is in the range of 1-3%. The Bank of Canada's Core CPI (excluding fruits, vegetables, gasoline, fuel oil, natural gas, mortgage interest, intercity transportation and tobacco products) is expected to rise another +0.5% in June (+6.7% in annual terms). The Bureau of Statistics General Consumer Price Index (CPI) is expected to come in at +8.4% (annualized) after rising +7.7%, +6.8%, +6.7%, + 5.7%, +5.1% in previous months since the beginning of 2022, which increases pressure on the Bank of Canada to further tighten its monetary policy, which (under normal economic conditions) puts upward pressure on CAD quotes.

As follows from a recent report from Statistics Canada, unemployment in June 2022 was at 4.9% (against 5.1% in May, 5.2% in April, 5.3% in March, 5.5% in February , 6.5% in January 2022). The decline in unemployment is positive for the CAD and for the Bank of Canada, which may act more decisively in the face of rising inflation. The annual consumer price index (CPI) rose in May to +7.7%, the highest level in 39 years. The annual CPI turned out to be higher than the forecast of +7.4% and the previous value of +6.8%, and now, as we noted above, it is expected to rise again (to +8.4%), and despite the actions of the Bank of Canada, which accelerated the rate hike cycle in July.

As you know, the Bank of Canada aggressively raised its key rate by 100 basis points to 2.5% in July, admitting in an accompanying statement that it underestimated inflation. "Inflation is higher and more resilient than expected in April forecasts and is likely to remain at 8% in the coming months," the bank said, and "interest rates will need to be raised further", "to reach the 2% inflation target".

Following the central bank's decision to raise the discount rate by 100 basis points, Bank of Canada Governor Tiff Macklem said that "a 100 basis point increase in the rate is very uncharacteristic and reflects unusual economic circumstances associated with inflation at the level of almost 8%". And now, Canada's annual inflation is expected to exceed that "nearly 8.0%" in June.

If the forecast for its growth (by +8.4%) turns out to be underestimated and the annual CPI exceeds the forecasted value of +8.4%, then another increase in the interest rate by the Bank of Canada at its meeting in August by another 100 bp becomes almost inevitable. And this, in turn, should support the CAD, which may also begin to strengthen again if oil prices start to rise again.

As you know, CAD quotes are very sensitive to the dynamics of oil prices, since Canada is a major supplier of oil to the world market, primarily to the United States.

In view of this, market participants who follow the quotes of the Canadian dollar and the USD/CAD pair will also pay attention to the weekly report of the US Department of Energy with data on commercial stocks of oil and petroleum products.

US oil inventories are expected to rise (+1.357 million barrels after rising by 3.254 million barrels a week earlier). This is generally a negative factor for oil prices and CAD quotes. But if the growth of oil reserves is less strong or turns out to be negative, then oil prices may rise, which will also support the Canadian dollar.

At one point, USD/CAD was trading near 1.2863, remaining in the bull market zone - above the key support levels 1.2850, 1.2770, 1.2740. However, important short-term support levels 1.2975, 1.2918, 1.2880 have been broken, which indicates the development of a downward correction, which may last up to support levels 1.2770, 1.2740 (if the combination of factors is successful).