Better than expected economic data from Asia and Europe drove investors out of U.S. dollars and into high beta. The losses for the greenback should be limited however ahead of this afternoon’s Federal Reserve’s Beige Book report. A wider U.S. trade balance in the month of July contrasts with stronger GDP data from Australia and PMI Services from the U.K. and China. The unevenness of the U.S. recovery may be a problem but not one that is serious enough in our opinion to deter the Federal Reserve from tapering asset purchases this month. The worse than expected trade balance was caused by a decline in exports and increase in imports. The trade gap with China and the European Union specifically climbed to record highs as U.S. demand strengthened and global demand weakened. Today’s Beige Book report should provide a more timely and thorough look at how the U.S. economy is performing. We don’t anticipate any major surprises – the Fed districts will most likely report a continued but uneven recovery that will keep the market guessing about when the central bank will taper.
Meanwhile the Bank of Canada left interest rates at 1% today. While they sounded more cautious about the economic outlook, their guidance on interest rates remained unchanged. The BoC still believes that “over time, as the normalization of these conditions unfold, a gradual normalization of policy interest rates can also be expected, consistent with achieving the 2% inflation target.” Yet their concerns about emerging market volatility, global uncertainty, slightly less momentum in the U.S. and a moderation in the “dynamic” of the global economy means the central bank has grown a bit more cautious. There is hope however because household imbalances are evolving constructively and they expect the output gap in the economy to begin to narrow next year. Overall the tone of caution means that the central bank is comfortable with the current level of monetary policy and the Canadian dollar edged slightly higher in relief as the BoC did not drop its call for a gradual normalization of policy.
Economic data from Canada continues to be weak. Like the U.S., the country reported a wider trade gap this morning as metal exports declined, causing exports to fall 0.6% while imports rose by the same amount. If economic data continues to deteriorate, the BoC may eventually feel compelled to shift to neutral. This may be only the second monetary policy meeting led by Stephen Poloz but so far, he appears to be less hawkish than his predecessor but unfortunately this may not be enough to drive USD/CAD above 1.06.