The market is already pricing in a “fairly wide gap” between the Bank of Canada’s and U.S. Federal Reserve’s key policy rate, so it would take a significant tightening surprise to put pressure on the loonie, according to experts.

On Wednesday, the Bank of Canada held interest rates at 4.50 per cent for the first time in nine meetings.

But the narrative is different south of the border, with U.S. Federal Reserve Chair Jerome Powell saying earlier this week that they “would be prepared to increase the pace of rate hikes”

Avery Shenfeld, chief economist at CIBC, said it would take a significant interest rate divergence between the U.S. and Canada to have a large impact on the Canadian dollar.

“One area of concern about a differential would be if the Canadian dollar goes into a serious freefall and that adds to inflation pressure in Canada, but the market is already expecting a fairly wide gap between the two interest rates,” Shenfeld said in a phone interview on Wednesday.

“It would take a big surprise on the further pace of U.S. tightening to really send the Canadian dollar into more serious pressure.”

Royce Mendes, managing director and head of macro strategy at Desjardins Capital Markets, said while the U.S. dollar may appreciate in comparison to the loonie if the U.S. Fed keeps hiking rates, it’s also important to remember there are many factors that can weigh on the Canadian dollar.

“It's only one determinant of exchange rates, when you look at the past three tightening cycles in Canada and the U.S., it’s not so clear what the ultimate impact is on the Canadian dollar.” Mendes said in a phone interview on Wednesday.

“Even though the Fed hiked rates, as much as 100 basis points higher than the Bank of Canada, the impact on the exchange rate is unclear because there can be a lot of other things that affect the Canadian dollar.

He said commodity prices and the curve of bond yields can also impact the loonie as well.


Despite the Bank of Canada holding rates, Frances Donald, global chief economist and strategist at Manulife Investment Management, said economists shouldn’t “make too much of a big deal about this.”

“We have two very separate economies, yes the Canadian dollar is in part driven by yields but not solely driven by yields. In fact, what drives the Canadian dollar fluctuates over time,” Donald said in a television interview on Wednesday.

“This is a Bank of Canada that knows 25 basis point hike in Canada can be more powerful and bring growth down more in Canada than the equivalent in the United States. So this is caution we're hearing from them.”