CIBC Deputy Chief Economist Benjamin Tal said the Canadian dollar could come under some weakness against its U.S. counterpart if the U.S. Federal Reserve ends up raising interest rates before the Bank of Canada does. 

“In this environment, we still expect the U.S. to close the output gap way faster than Canada,” said Tal in an interview. “At the same time, for some weird reason the market is still expecting the Bank of Canada to be much more aggressive than the Fed when we start raising interest rates in 2022 and into 2023.”

“I believe that simply does not make sense given the environment we are in,” he added.

That environment is currently shrouded in enough uncertainty for the BOC to leave its key interest rate unchanged Wednesday at 0.25 per cent, while also maintaining its current level of weekly asset purchasing at $2 billion.

The Canadian central bank struck an optimistic tone in a statement, predicting a strong second half for the Canadian economy while indicating it could start to taper bond purchases in October.

Tal thinks that would be a bit premature, pointing to the COVID-19 delta variant, which many expect will still weigh on the health care system this fall.

“The government will have to think twice about slowing down or stopping government assistance because we will be in the midst of another wave," Tal said.

“We are much more restrictive relative to other countries. That’s why the U.S. is above us when it comes to economic growth.”

Due to Canada’s more cautious approach to reopening and the possibility of reintroduced restrictions, Tal sees U.S. economic growth far outpacing Canada. That would lead to a more hawkish Fed, and potentially a weaker Canadian dollar.

“One of the reasons why the loonie is up there is this kind of expectation the Bank of Canada will be aggressive and the Fed will hardly be moving,” said Tal. “If that’s incorrect the loonie can lose a few cents.”

“The market is too muted on the Fed, and too aggressive on the Bank [of Canada], and I think that will reverse itself which will present some opportunities not only on the yield curve and playing the spreads between Canada and the U.S., but also in the loonie.”