Canadian dollar drifting ahead of CPI release

• Canada’s inflation rate expected to fall to 2.9%
• Fed members push back against rate cut expectations

The Canadian dollar is showing little movement on Tuesday. In the European session, USD/CAD is trading at 1.3382, down 0.13%. We could see stronger movement from the Canadian dollar in the North American session, with the release of the Canadian inflation report.

Canadian inflation expected to ease to 2.9%

Canada releases the November inflation report later on Tuesday. In October, inflation dropped to 3.1% y/y, down sharply from 3.8%. The market consensus for November stands at 2.9%. Two key core inflation indicators are expected to ease to an average of 3.3%, down from an average of 3.5% in October.

A further drop in inflation would be an encouraging sign for the Bank of Canada, which has raised the cash rate to 5.0% but has paused three straight times. The BoC remained hawkish at the December meeting and kept the door open to additional rate hikes but the markets are convinced that the rate-tightening cycle is over and have priced in rate cuts next year, starting in mid-2024. A drop in the November inflation report would bolster expectations for rate cuts next year. If inflation surprises on the upside, it would bolster the Canadian dollar and force the BoC to continue pausing rates at restrictive levels (‘higher for lower’).

The US dollar has hit a rough patch since the Fed meeting last week when Fed Chair Powell penciled in three rate cuts next year. Traders are far more bullish and have priced in six rate hikes in 2024, starting in March.

We’re seeing some pushback from the Fed to dampen rate-cut fever in the markets. On Friday, New York Fed President John Williams said a rate cut in March was “premature” and even warned that rates could move higher if inflation were to stall or reverse. Cleveland Fed President Mester said on Monday that the markets are a “bit ahead” of the Fed on rate cuts, as the Fed was focused on how long it would need to maintain rates in restrictive territory, while the markets were focused on rate cuts.

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USD/CAD Technical

• USD/CAD is testing support at 1.3363. Below, there is support at 1.3327
• There is resistance at 1.3386 and 1.3422

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