Forex Investment and Currency Trading

The Bank of Canada’s updated economic forecast is in line with market outlook. Market expects the economy to grow by 1.6% this year and 2.3% in 2009. The view remains that Canada’s trade sector will be the main impediment to growth as a result of the weaker U.S. economy and the high level of the Canadian dollar. Credit market conditions have tightened since the credit market crisis last summer, although this has done little to slow business and household credit growth as the improvement in Canada’s terms of trade bolsters incomes.

 
Canada’s labour market continues to be the easiest way to see how the terms of trade boost is supporting growth. The economy pumped out another 14,600 net new positions in March, building on the outsized gains in January and February to tally 104,000 jobs created in the first quarter. An unexpected surge in the labour force resulted in the unemployment rate rising to 6% in March from 5.8% in February — still a very low level.

 
The strong demand for labour is also supporting wage gains, which are expected to largely offset the impact of the tighter credit conditions and result in slightly slower, but still strong, consumer spending activity this year.

 
Low inflation giving Bank room to manoeuvre

The core and all-items inflation rates ended the first quarter near the low end of the Bank’s 1% to 3% target band, giving it leeway to keep policy geared toward mitigating the downside risks to Canada’s economy coming from the steady weakening in the pace of U.S. growth and the rising cost of capital. February’s unexpected decline in GDP suggests that the economy’s momentum is fading a bit and will likely cause the Bank to ease the policy rate as an “insurance” policy against a more substantive weakening. Market expects the Bank to hold the rate at 3% at its June fixed action date as they assess the impact of recent actions and ease on July 15 in reaction to soft U.S. economic numbers. The Bank of Canada’s business outlook survey in mid-April showed that companies were less optimistic about future sales and investment growth and that 41% of respondents faced tighter credit conditions. Still, the report indicated that “firms are not expecting a marked change in the pace of business activity”, meaning that the Bank is likely to ratchet down the pace of rate cuts, especially if financial market volatility continues to ebb and the U.S. economy looks as though it is on the road to recovery.

 
Government bond yields to inch higher but remain low
The great uncertainty surrounding the outlook for financial markets and the U.S. economy points to interest rates range-trading for most of 2008 until a clear case for a sustained recovery builds. Market forecasts that two-year U.S. Treasury rates will trade around 2.25 with 10-year rates holding around 3.85%. Some of the
risk premium that supported the flight-to-safety into U.S. Treasury bonds and depressed yields has dissipated. Canadian government bond yields are expected to be range-bound as well, with the 25 basis point rate cut largely priced in. Ten-year yields are forecast to hold between 3.5% and 3.75%, with two-year rates trading 2.75%.