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Loonie poised to close at 2-year high as data strengthen case for BoC rate path

The Canadian dollar strengthened on Friday after a rise in core inflation and solid May retail sales figures further strengthened the case for the Bank of Canada to hike rates again this year.

The Loonie – as the currency is colloquially called – climbed as much as 0.5 per cent to C$1.2522, putting it on track for its strongest closing level against the dollar in over two years.

The move comes after new data showed the BoC’s preferred measure of core consumer price inflation edging slightly higher to 1.4 per cent over the past 12 months in June, compared to the 1.3 per cent recorded the month prior.

While inflation in Canada has consistently undershot the BoC’s 2 per cent target, officials argued in their decision to raise interest rates last week, that weak inflation readings have largely been due to temporary factors. They said the recovery in the economy should push inflation back up to the target by the middle of 2018.

Their case for “braking well before the traffic light” – i.e tightening before inflation gets overheated, is given further credence by May retail sales, which posted their third straight month-on-month increase.

“June’s solid increase in services prices and May’s strong retail sales add to the argument for raising policy rates,” said Bill Adams, senior international economist at PNC Financial Services Group.

Analysts at Commerzbank were more cautious however, saying the Loonie, up 6.4 per cent over the past month alone, is poised to give up some of its recent gain.

The BoC will surely not welcome an excessive appreciation, because it could jeopardise the central bank’s courageous inflation outlook. Moreover, it would weigh on the already diminished competitiveness of Canada’s companies and exports. Adding in the consequences that could arise from a renegotiation of NAFTA, which the new US government is seeking, there is sufficient risk that justifies very cautious and slow actions by the BoC, even though the reversal of interest rates did take place very quickly.