On Friday (February 9), the U.S. dollar index held steady, slightly declining and ending a week of gains, but relinquishing most of its earlier advancements. Following a brief surge due to Canada’s better-than-expected unemployment rate, the Canadian dollar modestly retreated after testing higher on Friday. The USD/CAD pair pulled back from an 11-week high of 1.3544, entering a consolidation phase within the 1.3450-1.3500 range, and is currently at 1.34627, up by 0.03%.
The minor revisions to the U.S. CPI eased market concerns about data being revised upwards. The inflation rate at the end of last year in the U.S. remained broadly the same as initially reported after annual adjustments. Data from the U.S. Bureau of Labor Statistics shows the core CPI annual rate for the fourth quarter of 2023 at 3.3%, consistent with previous figures. The adjustments to the overall data were also minimal.
Following the downward revision of the U.S. December CPI monthly rate, U.S. Treasury yields recovered from their losses. The yield on 2-year U.S. Treasuries rose to 4.484%, the highest level since December 13 last year. The yield on 5-year U.S. Treasuries climbed to 4.137%, marking the highest point since the same date.
Steven Ricchiuto, the chief economist at Mizuho Securities USA, commented that the CPI revisions would not prompt the Federal Reserve to cut interest rates. The key point now is that the Fed is not in a hurry.
Brian Jacobsen, chief economist at Annex Wealth Management, mentioned that Powell’s focus on CPI revisions is an unnecessary concern. This phenomenon is becoming a trend: Fed officials mention a piece of data, leading to anxious anticipation, only to find it was much ado about nothing. Powell had emphasized the importance of the preliminary Michigan consumer sentiment index, which is no longer deemed critical. Core inflation rates once a focal point, are now similarly disregarded. The annualized inflation rate over the past three months, once under the spotlight, is evidently no longer of concern. CPI revisions will likely follow this fate. Perhaps the Fed is looking at a contrary indicator more than the actual phenomena observed when data is released.
Todd Jones, chief investment officer at Gratus Capital, predicts that the U.S. dollar will eventually trend downward as the Fed approaches rate cuts. According to CME FedWatch Tool data, investors widely expect the Fed to start cutting rates by May or June. Following the relatively stable U.S. inflation correction data, traders are weighing the Fed’s next moves. Investors have now shifted their focus to the upcoming January CPI data, with economists expecting the month-on-month data to drop from December’s 3.4% to 2.9%, the lowest level since early 2021.
Economists at Bank of America point out that the advantage of interest rate differentials could turn into significant headwinds. The U.S. dollar faces tough challenges, with the Fed expected to be among the first G10 central banks to cut rates, undermining the dollar’s interest rate differential advantage. Given the higher starting point of U.S. rates, potential rate cuts could significantly narrow the differential with other currencies, diminishing the dollar’s appeal. The dollar is one of the most overvalued currencies among the G10, a factor that may exacerbate its vulnerability in a rate-cutting environment. Lower U.S. rates typically boost global risk appetite, historically benefiting currencies other than the dollar.
Looking ahead, U.S. inflation rates are to be announced on February 13, with retail sales, industrial production, business inventories, NAHB housing market index, and long-term TIC net flows expected on February 15. Additionally, producer prices, housing starts, building permits, and the preliminary Michigan consumer sentiment index are scheduled for release on February 16.
Canada’s Job Market Achieves Largest Growth in Four Months
Canadian employment growth exceeded expectations, with wage growth slowing to 5.3%. At the beginning of the year, Canada’s job market saw its largest increase in four months, but a slowdown in wage growth suggests further easing of price pressures, potentially leading the Bank of Canada to consider rate cuts in the coming months. According to Statistics Canada, driven by an increase in part-time jobs, the country added 37,000 jobs in January, with the unemployment rate dropping to 5.7%, the first decrease since December 2022. The growth rate of full-time employee wages slowed from 5.7% a month earlier to 5.3%.
Royce Mendes, Head of Macro Strategy at Desjardins, said that Canadian employment data suggests that a rate cut by the Bank of Canada in June is more likely than in April. However, recent layoffs announced by major Canadian companies still indicate that the impact of past high interest rates continues to suppress economic activity, leading to a bumpy road for the Canadian economy. Therefore, a rate cut of 125 basis points is still expected this year, 25 basis points lower than previously estimated.
Derek Holt, Vice President of Capital Markets Economics at Scotiabank, noted the resilience of the Canadian job market, despite a recent slowdown in wage growth, with the overall trend remaining hot. Regarding the impact of January’s data on GDP, working hours are expected to significantly increase. To date, quarterly annualized working hours have grown by 2.6%, boding well for GDP rebound expectations.
Despite high borrowing costs stalling the economy and cooling demand, the job supply continues to expand. Further economic weakening could help lower wage levels. Overall, these data provide policymakers with more room to consider rate cuts as early as the first half of this year.
Andrew Grantham, Senior Economist at CIBC Capital Markets, stated that the employment data indicate the Bank of Canada won’t rush to cut rates, maintaining expectations for the first cut in June. Based on current data and previously announced GDP figures, the Canadian economy is in better condition than expected, with the forecasted rate cut by the end of the year reduced by 25 basis points to 3.75%, rather than 3.50%.
Doug Porter, Chief Economist at BMO Capital Markets, mentioned that this is the first time in over a year that the Canadian unemployment rate has decreased. This is not a sign of significant economic weakness. Although there’s a slight slowdown in wage indicators, they remain overheated, causing concern. Given the economy’s resilience, the Bank of Canada can afford to be patient, with no urgency to cut rates.
Oil prices continue to rise. Tensions in the Middle East could further disrupt oil supply, leading to price increases. Notably, Canada is a major oil exporter to the U.S., with rising oil prices supporting the Canadian dollar.
Economists at Scotiabank believe that USD/CAD will stabilize near the resistance level of 1.3540. Spot prices are expected to trade near last week’s low of 1.3360 in the coming week. Support is at 1.3440, with resistance at 1.3490/1.3500.