June 5, 2012 / 12:27 PM / in 5 years

Canadian dollar firms after BoC holds key rate

TORONTO (Reuters) - The Canadian dollar was slightly stronger against its U.S. counterpart on Tuesday after the Bank of Canada held its key interest rate in check at 1 percent, but signaled it may have to raise it later.

The renewed turbulence in Europe had investors keenly interested in whether and how the Bank of Canada might temper the language from its April 17 decision, when it said modest withdrawal might become appropriate “in light of the reduced slack in the economy and firmer underlying inflation.”

On Tuesday, Canada’s central bank acknowledged that the global outlook had weakened in recent weeks due primarily to an escalation in the European debt crisis, but it did not remove the possibility of a rate increase further down the road should the Canadian economy maintain its current momentum.

In reference to language used back in April, Bank of Canada Governor Mark Carney said “some modest withdrawal of the present considerable monetary policy stimulus may become appropriate.”

At 10:06 a.m. (1406 GMT), the Canadian currency was at C$1.0369 against the U.S. dollar, or 96.44 U.S. cents, up slightly from Monday’s close at C$1.0397, versus the greenback, or 96.18 U.S. cents..

“The market consensus was getting ahead of itself with respect to the next move being a cut, and (Carney) successfully scaled back those expectations,” said Jack Spitz, managing director of foreign exchange at National Bank Financial. “As a result we’ve seen a move higher for the Canadian dollar.”

The boost from the Bank of Canada announcement was pared by lingering fears about the state of Spain’s fragile banking sector. Spain’s high borrowing costs mean it is effectively shut out of the bond market and the European Union should help Madrid recapitalize its debt-laden banks, Treasury minister Cristobal Montoro said on Tuesday.

The euro fell to a session low against the dollar and Bund futures rose in response to Montoro’s assessment. However, Spain’s stock market was up on the day and 10-year Spanish yields were steady below 6.4 percent. <GVD/EUR>

“I think the vulnerability of markets and the volatility predominately out of Europe will continue to weigh on a currency like Canada,” said Spitz, adding the Canadian dollar was not likely to firm beyond its overnight high of C$1.0361.

Canadian bond markets were mostly lower. Canada’s two-year bond fell 7 Canadian cents to yield 1.007 percent, while the benchmark 10-year bond dropped 32 cents to yield 1.711 percent.

Additional reporting by Andrea Hopkins; Editing by Theodore d'Afflisio

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