Is the Bank of Canada ready to cut❓

Today we had the publication of CPI inflation from Canada, which fell far below expectations. How did today's data turn out?

• CPI inflation fell to 2.8% y/y on expectations of an increase to 3.1% y/y and with the previous level of 2.9% y/y
• Monthly inflation rose 0.3% m/m on expectations of a 0.6% m/m increase and with a previous change of 0.0% m/m
• BoC core inflation fell to 3.1% y/y from 3.4% y/y, although it was later revised to 3.3% y/y. It was expected to hold at 3.4% y/y
• The median CPI was 3.1% y/y with expectations of 3.3% y/y and the same level in January
• Trimmed CPI inflation was 3.2% y/y with 3.4% y/y earlier and with the same expectation
• Food inflation rose 2.4% y/y with January's reading of 3.4% y/y
• Prices of fresh fruits and vegetables, meat and fish declined. Prices related to processed foods rose

It is noteworthy that February was the first month since October 2021 when grocery prices rose less than overall inflation. In view of such readings, the likelihood of an interest rate cut in June is increasing. After the inflation reading, it rose to 75% from around 50%.

Probability of a rate cut in Canada. The market expects rates to be cut by about 75 basis points this year. Source: Bloomberg Finance LP

It may turn out that the Bank of Canada will again be the bank that decides to move first. It was the BoC that was ahead of the Fed in the case of the first hike in 2022, somewhat prematurely made a hold on hikes in 2023, but ultimately made the last hike in July, moments before the Fed. In view of such data, it can be expected that the BoC may decide to cut in June, while the Fed, after the recent turmoil, will do so in July or September.

What will inflation look like?

Although Macklem (head of the BoC) has recently pointed primarily to the trend in core inflation (which has also fallen), let's look at headline inflation. With average growth, at 0.2% m/m, inflation will hit the 2% target in a few months. What's more, we've recently seen a stabilization of wages and a slight increase in the unemployment rate, which may also entail a decline in Canadian earnings growth.

If inflation grows by 0.2% m/m, this year's target will momentarily be reached. Source: Bloomberg Finance LP, XTB

Wages have stabilized, but the rise in the unemployment rate may suggest that we may see a reduction in this pace in the near term. Source: Bloomberg Finance LP, XTB

USDCAD

The USDCAD pair rose very close to the 1.36 level after the publication of lower inflation. As you can see, the correlation between oil and USDCAD has reversed recently, although generally high oil prices should support the CAD. If tomorrow the Fed turns out to be more hawkish than expected and hints at a delayed cut, then the chance of a test of the 1.37-1.39 range. Nevertheless, these will most likely be local peaks. Seasonality points to possible declines, and CAD positioning is approaching extreme oversold.