Strong consumer inflation lifted the Canadian dollar.

According to the latest inflation report, the Consumer Price Index rose in Canada faster than economists expected in May. The headline CPI figure was published at the level of 2.4% year-over-year versus 2.1% predicted and 2.0% previously, and 0.4% month-over-month versus 0.1% forecasted and 0.4% in April. Core CPI excluding food and energy prices jumped to 2.1% year-over-year while analysts were expecting a 1.2% increase after 1.5% growth posted in April. As a result of two-day bearish trade, USD/CAD dropped 1.4% on the back of expectations for the Bank of Canada to tighten monetary policy in the country later this year.

The BoC held a defensive position in regards of interest rates over the last 3 months, stating that there’s no justification for a rate hike despite the robust macroeconomic data. However, the regulator would not have any reason to stay pat on the rates in the meeting in July as the main target for any central bank in the world is to tackle inflation. Canadian labour market showed sustainable growth recently with several monthly reports beating the market’s expectations. Higher wages and spending affect a spike in consumption and retail sales, which drove the inflationary pressure higher in May. The Bank of Canada will have no choice rather than hike the interest rates at least once this year.

Another factor weighing on the USD/CAD currency pair was the divergence in hawkish BoC views with dovish rhetoric by the U.S. Federal Reserve, which announced readiness to ease the financial conditions and cut the interest rates at least once this year. The interest rates and yields divergence in government bonds used to support the pair on bullish trade at around 1.3500 earlier this year. However, if the difference in yields continued squeezing, the pair would keep falling to the psychological round-figure support at 1.3000.

The traditional dependence on the price of oil added supportive factors to the Loonie. WTI Crude oil price jumped 9% last week on the back of higher consumption, geopolitical tensions in the Middle East (possible U.S.-Iran conflict) and the overall risk appetite. The Canadian dollar could continue appreciating versus the U.S. dollar if oil prices continued climbing above $60 per barrel.
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