Week Ahead – RBA and BoC to kick-start key round of central bank meetings

The US dollar pulled back this week as several US data forced investors to reconsider the likelihood of another hike by the Fed before the end credits of this tightening crusade roll, and to add more basis points worth of rate cuts for next year.

Just after Fed Chair Powell kept the prospect of more rate increases alive at Jackson Hole, investors lifted slightly their implied path, but on Tuesday, job openings for July hit their lowest since March 2021 and consumer sentiment for August deteriorated, while on Wednesday, the ADP employment report revealed that the US private sector added less jobs than expected during August.

Investors had second thoughts after the data and currently, they are evenly split on whether another hike by November is warranted. The US agenda will be light in the coming week, with Monday being a holiday due to Labor Day, but there is a data point that could well impact expectations regarding the Fed’s plans, and this is the ISM non-manufacturing PMI on Wednesday.

The preliminary manufacturing and services PMIs from S&P Global both confounded market expectations of largely unchanged points and instead declined in August. With that in mind, the risks surrounding the ISM index may be tilted to the downside. That said, whether the probability of another Fed hike will further decline may also depend on the new orders and prices subindices. If there are declines there as well, the dollar and Treasury yields could stay under pressure and equities may continue drifting higher as expectations of lower interest rates could keep the net present value (NPV) of high-growth firms elevated.

This may have prompted market participants to keep the option of another hike by the end of the year firmly on the table. Although they see only a 20% chance for action next week, they are assigning around a 50% probability for another 25bps hike by December.

Yes, inflation is above the Bank’s 2% objective, but with Canada’s core rate being closer to that number than underlying inflation rates in other major economies, and with the BoC maintaining a flexibility range around that target between 1-3%, officials may have the luxury to stay sidelined now and wait to see whether past hikes are still exerting downside pressure on prices.

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That said, similarly to the RBA, closing the door to future hikes before the objective is met may be a premature choice. Thus, even if they stand pat, Canadian policymakers could keep alive the possibility of more action if deemed necessary. This will confirm the view of those assigning decent chances for another move in the coming months and thus, it may allow the loonie to gain some ground.

However, whether the currency could have a sustained and decent post-meeting recovery may largely depend on Friday’s employment report for August. The July numbers pointed to some weakness, with the economy losing some jobs and the unemployment rate rising further. Should next week’s data reveal deeper wounds, those expecting another BoC rate increase may start having second thoughts. For the probability of further action to keep rising and take the loonie higher, improving labor-market conditions may be required.