On the macro front, the Canadian Dollar has exploded to its strongest levels since last October. This leap is driven by a recent spike in Canada’s GDP and increasing concern over potential US trade actions. The Canadian dollar has been on a roll. This increase comes on heels of US President’s threat to raise steel and aluminum tariffs from 25% to 50%, which has already sent US Dollar tumbling about 10%. This unfortunate development has fanned the flames of the perennial “Sell America” trade. Traders are understandably overreacting to the latest hiccups in the US economy and its stuttering trade agenda.
While Canada’s economy demonstrated considerable resilience last quarter, this robust economic beat caught analysts off guard and significantly raised the odds for a hawkish hold from the Bank of Canada (BoC) at its next meeting. Current inflation trends in the US are playing a large role in creating a cautious market mood. Traders are immediately assessing the potential new tariffs and how they will affect bilateral trade.
Unexpected Growth in Canadian GDP
This morning, Statistics Canada came out with a surprise acceleration in GDP growth for the first quarter of this year. The good surprise is unambiguously good, signaling a better economic performance than that expected by analysts. Market participants have changed their view on the Bank of Canada. They’re expecting a much more aggressive path of monetary policy in response to this data now.
This remarkable growth has positioned Canada well when compared to its southern neighbour. Significantly, Canada is the largest steel exporter to the US. Positive economic signs bode well for Canada. It can use its newfound trade friendships to soften the blow if new US tariffs come crashing down.
The hawkish BoC stance is partly driven by the urgency to tackle inflation. Central banks adjust their benchmark policy rates to influence overall economic conditions, usually to curb inflation or stimulate growth. With inflation going down in the US, Canada is under greater pressure to adopt a pre-emptive hawkish tilt. Canada’s economic fortunes couldn’t be more different than the challenges now facing the US economy. It further underscores the urgent necessity of a healthy monetary policy watchdog.
Trade Tensions and Their Impact
In fact, US President’s threats to raise high steel and aluminum levies have rattled global financial markets. The anticipated increase from 25% to 50% has alarmed Canadian leaders. This would result in retaliatory action, escalating an already hostile trade war. However, recent developments have created an enormous weight on the US Dollar. Yet it has experienced broad declines as investors grow more skittish over risk as Trump’s trade policy turns wildly erratic.
As if this wasn’t enough, anxiety is bubbling up due to new tariffs and the looming US debt crisis. Consequently, investors are once more jumping into the “Sell America” trade. This strategy reflects a growing skepticism about the stability of the US economy, as market participants weigh the possible ramifications of escalating trade tensions on consumer confidence and investment.
Additionally, recently released reports showing China is violating trade agreements in the area of minerals has added to market uncertainty. In overseas markets, trade relations are undergoing several layers of duress. The resulting volatility of the US Dollar has prompted investors to look for safer assets, including the Canadian Dollar.
Diverging Monetary Policies
This divergence between Canadian and US monetary policies illustrates two very different economic realities. Members pledged to loose monetary policy, called “doves,” are concerned about inflationary pressures back stateside. In opposition, proponents of a dovish approach argue it is more effective to increase savings by raising interest rates.
Inflation in the US is clearly moving downward. This has led many to wonder how it will shape the Federal Reserve’s upcoming shifts for the future. Markets are watching very closely for indications from each central bank about the path of future interest rate changes. The latest market frenzy is centered on the unknowns surrounding the US trade agenda. This represents a safe bet as economic indicators are still very volatile, masking the potential downstream effects on the Canadian economy.
The BoC’s expected reaction to Canada’s strong GDP performance will compound these pressures, affecting both exchange rates and investor sentiment. If they decide to take a hawkish approach, the CAD may develop even more strength. This could make US-China tensions even worse.