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Loonie drops below 88 cents, U.S. Fed seeks to clarify when it might hike rates

TORONTO - The Canadian dollar fell heavily Wednesday to close below 88 cents US for the first time since mid-2009 as markets interpreted comments by the chair of the Federal Reserve to mean the U.S. central bank could raise interest rates sooner than thought.

The loonie tumbled 0.86 of a cent to 88.93 cents US as the Fed reaffirmed its plan to keep short-term rates near zero but it no longer mentions a specific unemployment rate that might lead it eventually to raise rates. Instead, it will monitor a wide range of economic data before approving any rate increase.

Later, Fed chair Janet Yellen signalled that the central bank could begin raising short-term rates six months after it halts its bond purchases around year’s end.

The Fed also is further cutting its monthly bond purchases — a key piece of economic stimulus that has kept long-term rates low and encouraged significant gains on stock markets — by another $10 billion to $55 billion.

Speculation about Fed intentions came a day after the governor of the Bank of Canada indicated that interest rate hikes in Canada could be further away than thought.

The currency tumbled 0.68 of a cent on Tuesday after Stephen Poloz said that slower than normal growth may be the new norm. And he said those conditions will require central bankers to keep interest rates low for longer than they would have in the past.

And, he added that a rate cut by the Bank of Canada could not be ruled out.

"In the past week, we had Poloz hinting that inflation is still too low and not being particularly sure that the next move will be a rate hike but rather could still be a cut," said Avery Shenfeld, chief economist at CIBC World Markets.

"And today we had Yellen basically reinforcing the message that rates will rise in the U.S. in 2015 and a little earlier and a little higher than previously thought, so the reward for parking your money in Canadian dollars rather than US dollar appears to be shrinking."

Meanwhile, an economic forecast released by Royal Bank says the loonie will trade at about 87 cents US by the end of this year and dip to 85 cents by the end of 2015.

RBC is also predicting that economic growth should hit 2.5 per cent this year, despite a weak start to 2014 caused by severe winter weather, with growth picking up to 2.7 per cent in 2015.

That’s slightly stronger than the Bank of Canada’s call for 2.5 per cent growth in both years.

The Canadian Press

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