Canadian Dollar edges higher as Fed rate hike bets recede, CPI data looms

The USD/CAD exchange rate dropped to approximately 1.3860 in the early European trading session on Monday. Traders reduced their expectations of US Federal Reserve (Fed) interest rate increases, causing the US Dollar (USD) to fall versus the Canadian Dollar (CAD). Canada's Consumer Price Index (CPI) inflation figures for July will be a focal point later on Friday.

The currency pair declined to the lowest level since June 3 following weak US economic data, including an unexpected decline in Retail Sales. Signs of easing inflation in the US have led to the market abandoning expectations of an imminent Fed rate hike. The likelihood of the Federal Open Market Committee (FOMC) remaining cautious in September has increased, according to Sal Guatieri, a senior economist at BMO Capital Markets.

The Bank of Canada (BoC) maintained its key overnight interest rate at 2.25% during its July policy meeting, marking the sixth consecutive hold. BoC Governor Tiff Macklem stated that while the Canadian central bank is monitoring near-term energy shocks, it will not let persistent higher energy prices become an issue. The BoC will hold its next policy meeting on September 2.

RBC Economics and CIBC anticipate the central bank will continue to hold off on rate hikes for the remainder of 2026 to closely monitor economic conditions. Strategists at Brown Brothers Harriman expect the upcoming Canada July CPI report to demonstrate subdued underlying price pressures and support a potential extended BoC pause.

They anticipate headline CPI to rise to "2.9% y/y" from "2.8% in June," while core inflation (excluding food and energy) is forecasted to be "1.8% y/y" compared to "1.8% in June." Core inflation (average of trim and median) is projected at "1.85% for a second consecutive month," reinforcing the view that core inflation remains below the BoC's 2% target.

The USD/CAD rate remains under pressure, trading below the 100-day simple moving average and the Bollinger middle band, suggesting a bearish near-term bias. The pair is near the Bollinger lower band, with the Relative Strength Index (14) at an oversold level around 28, indicating stretched downside momentum that is yet to reverse.

Support is near the Bollinger lower band at 1.3855; a break below this level could trigger further downward movement.