Canada joins the central bank surprise train

The Royal Bank of Canada (RBC) became the latest central bank to switch its monetary policy stance and provide the markets with an unexpected surprise yesterday. The RBC cut its benchmark interest rates to 0.75%, resulting in the USDCAD exploding to a new 5-year high at 1.2393. The pair had already been in complete overdrive since the RBC admitted late last year that the substantial drop in the price of oil would be negative for the Canadian economy, with the unexpected rate cut yesterday putting the foot on the USDCAD accelerator even harder.

When you consider the RBC’s comments late last year that the substantial drop in oil would be negative for the Canadian economy, one would look at the lower oil prices as being the main catalyst behind the unexpected rate cut. However, when you also consider that oil exports only represent around 25% of the Canadian GDP (less than other oil export reliant nations) it also goes to show there is likely another concern behind the RBC’s shift in monetary stance and this is proving to be a global concern for central banks – disinflation. Either way, when you think back to early last summer when the RBC and Bank of England (BoE) were hotly picked to become the first major central banks to begin raising interest rates, the RBC rate cut does go to show the complete twist in commitment we are seeing from central banks. Within the past three months, we have seen unexpected monetary easing come from a variety of different central banks around the globe with the past week alone seeing Switzerland, Denmark and Canada join the party.

Who could be next? Many point to Australia but I think if the Reserve Bank of Australia (RBA) also joined this party, it might be later this year. Meanwhile, I will be keeping my eye on both Norway and Sweden next month. In regards to the former, we know it is going to be impacted by the falling oil prices and although Norway already cut rates once late last year, commodity prices have fallen further since then and I wouldn’t be entirely shocked if the Norges Bank do act again, to be honest. Why Sweden? Its economy is still suffering with disinflation and the recent devaluation in the Euro might inspire its central bank to weaken its currency to not only combat disinflation, but to ensure export competitiveness.

Meanwhile, just as I was beginning to think the negative GBP sentiment which was already weakening investor attraction towards the GBP was unable to deteriorate any further, it has done exactly that. The GBPUSD appeared at risk to dropping below 1.50 yesterday after falling to 1.5034 following the BoE minutes unexpectedly announcing that that the two dissenting members of the Monetary Policy Committee (MPC) had committed a complete U-turn and switched their votes back to “NO” against a UK interest rate rise. The reasoning behind the switching in votes is linked to the BoE’s ever-growing dovish views on inflation, nonetheless the switching in allegiance from the dissenting members has most likely swept away any remaining optimism that the BoE might have raised rates this year.

As a result, we are looking at the increasing prospects for the GBP to continue suffering from a lack of attraction for perhaps at least the first half of the current year. There are multiple different factors that are going to be weighing on investors’ minds right now, with each factor possibly making an investor even more reluctant to enter the GBP. For example, the common consensus is that UK inflation levels are going to continue weakening and possibly enter a short-term disinflation period before inflation rises again later on. There is also a UK General Election in a few months and after the complete whirlwind of political uncertainty with the Scottish Referendum last September, you would expect potential buyers would prefer to wait for any potential uncertainty to clear up before considering purchasing.

Other than the above, the overwhelming majority of the financial markets are preparing for the European Central Bank (ECB) to formally confirm that ECB QE is going to be introduced this afternoon. Aside from actually confirming that QE is going to be introduced, the major downside risk for the Euro in my eyes could really be more dependent on how hard, and for what length of time Mario Draghi is prepared to press the highly-anticipated QE button. Although confirmation of QE occurring should inspire some action in the financial markets anyway, if the ECB disappoints or doesn’t produce the levels of QE that observers are clearly desiring – I am preparing for some fireworks.

Written by Jameel Ahmad, Chief Market Analyst at FXTM.

Follow Jameel on Twitter @Jameel_FXTM

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