A single oil pump jack in the farm field. Calgary, Alberta, Canada. Image © Adobe Stock

The Pound to Canadian Dollar exchange rate remains in the grip of gravity and could be at risk of probing beneath the 1.55 handle afresh in the week ahead if Wednesday’s Bank of Canada (BoC) policy decision provides the Loonie with inspiration for fresh gains over other currencies.

Canada’s Dollar was little changed against the Pound after both featured as middle of the road performers among major currencies for the week to Monday although GBP/CAD remains close to 10-year lows and could be at risk of slipping further in the week ahead.

But much depends on the decision taken by the BoC this Wednesday as well as on its latest economic forecasts and any guidance given about the outlook for the cash rate, which financial markets see being lifted from 1.5% to 2.25%.

“The CAD is between a rock and a hard place. It is clear that the latest [Business Outlook Survey] showed that the BoC has an inflation expectations problem and that it will require a resolute stance to combat it,” says Mazen Issa, a senior FX strategist at TD Securities.

“Therein lies the problem however. The more aggressive the policy response, the faster the BoC front-loads or accelerates the inevitable pain facing overly indebted households,” Issa and colleagues warned on Friday after advocating that TD clients buy the USD/CAD rate.

Above: Pound to Canadian Dollar rate shown at daily intervals with Fibonacci retracements of February downtrend indicating short and medium-term technical resistances for Sterling and support for the Loonie. Click image for closer inspection.

The BoC said in June that it would be “prepared to act more forcefully if needed” after lifting its cash rate by a larger than usual increment of 0.5% for a second consecutive meeting while Governor Tiff Macklem and others have since elaborated on what was meant by this.

June’s language was intended to suggest the BoC would lift the cash rate in larger increments and at a faster pace if inflation rates, or expectations of future inflation, was to suggest that Canadian price growth would remain at rates in excess of the 2% target for much longer.

This would ultimately quicken the pace at which the BoC’s monetary policy slows the economy, with likely implications for the Canadian Dollar, which has led the TD Securities team to advocate that clients “target a move to 1.35 in the coming weeks,” for USD/CAD.

“Indeed, we think we are entering the stage where higher rates begin to have a perverse effect on FX. More specifically, the higher that rates go, the more that macro imbalances will manifest in the currency,” TD’s Issa said on Friday.

Wednesday’s BoC decision is the highlight of the week ahead for the Canadian Dollar and will follow closely behind Friday’s release of June labour market figures, which took economists and the market by surprise when revealing a -43.2k decline in employment for last month.

Above: USD/CAD shown at weekly intervals with Fibonacci retracements of 2020 downtrend indicating prospective areas of technical resistance for the U.S. Dollar and support for the Canadian Dollar. Click image for closer inspection.

“The 43,000 jobs decline was certainly a break from a run of hefty hiring since February, but other signposts, from brisk year-on-year wage gains, a climb in hours worked, and a new low in the unemployment rate, should be enough to have the Bank of Canada hiking rates by an outsized 75 basis points next week” says Avery Shenfeld, chief economist at CIBC Capital Markets.

The effect that Wednesday’s BoC decision has on USD/CAD will be an important influence on GBP/CAD during the week ahead as the latter tends to closely reflect the relative performances of Sterling and the Loonie when each is measured against the U.S. Dollar.

Put differently, and in a statement of the obvious, losses for the Loonie might be enough to keep GBP/CAD from fresh 10-year lows this week while gains would be likely to push Sterling to some of its lowest levels since soon after the years following immediately after global financial crisis.

However, and along the way, Sterling itself will also likely be responsive to input from Bank of England (BoE) Governor Andrew Bailey who speaks at an Official Monetary and Financial Institutions Forum (OMFIF) event on Tuesday.

This comes ahead of UK GDP data for the month of May due out early in the European Wednesday session, which economists expect will reveal a 0% change that would leave the economy on course to underperform the BoE’s forecast for the second quarter.

“We expect sterling to be only modestly influenced by the Tory leadership contest, and downside risks stemming from the challenging external environment, a grim domestic outlook and a potential dovish repricing of the Bank of England’s rate expectations look set to remain much more relevant,” says Chris Turner, global head of markets & regional head of research at ING.

Above: Pound to Canadian Dollar rate shown at monthly intervals.