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The market might be underestimating the odds of a July interest rate cut at the Bank of Canada in July, which hints at downside risks for the currency.
Current market odds on a rate cut at the Bank's late-July decision are set at about 33%.
One of Canada's largest domestic banks, CIBC, thinks the BoC will cut again on July 30. If correct, it suggests the market faces a decent adjustment in interest rate expectations in the next couple of weeks that will have repercussions for the Canadian Dollar.
Currencies are sensitive to shifts in interest rate expectations, tending to fall when markets reprice in favour of earlier, or more, interest rate cuts.
Given this, any readjustment in BoC rate cut expectations would pose headwinds to the Canadian Dollar.
The Canadian economy shrank 0.1% in April said Statistics Canada, with weakness driven by those sectors most affected by the ongoing trade disputes with the U.S.
"It is clear that the imposition of tariffs has undermined factory output," says Daren King, economist at National Bank Canada. "Looking ahead, Statistics Canada’s flash estimate suggests that GDP may have declined by 0.1% in May, with early signs that weakness is spreading to other sectors such as mining, oil and gas, public administration, and retail trade."
Given the prospect of ongoing weakness in the economy, National Bank expect GDP to temporarily dip into negative territory in Q2 2025 for the first time since Q3 2023.
"In this context of economic slowdown accompanied by a sustained deterioration in the labour market, a very low level of activity in the real estate market, and overall contained inflation, we believe that a rate cut by the Bank of Canada in July is needed to support the Canadian economy," says King.
However, he concedes the cut is not yet nailed on as the BoC "is hyper-focused on inflation."
"The Canadian economy kept decelerating last month, but avoided the type of extreme growth contraction that might have forced the Bank of Canada to ease policy more aggressively at the end of next month," says Karl Schamotta, analyst at Corpay.
Because the BoC appears to be giving more weight to inflation than the economic slowdown, all eyes now turn to the July edition of StatCan's inflation release, which should form a consensus on what will happen at the July 30 interest rate meeting.
The Canadian Dollar continues to strengthen against the U.S. Dollar, as most currencies currently are. However, it is facing resistance against the rest of its G10 peers, with losses rolling in against the likes of the Euro and Pound.
This means it is these non-USD Canadian Dollar exchange rates that are most at risk of another 'dovish' adjustment in domestic rate expectations.