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2010: Canada’s Breakout Year?

While Canada was playing host to the Winter Olympics, the Loonie has quietly posted some nice gains against the dollar. What gives?

Earlier this week, the Bank of Canada released its interest rate decision. As expected, there was no change in the interest rate, as the BOC kept it at 0.25%. The BOC did say, though, that inflation was rising and that the economy is growing faster than expected. Still, the BOC said that rates would continue to remain at current levels until June at the earliest.

Apparently, traders didn’t get the message, as they have continued to buy up the Loonie like hockey sticks! There appears to be a lot of doubt that the BOC will actually sit on its hands while there are more and more signs of growth. After trading as high as 1.0750 earlier in the year, the USDCAD pair is now perched right at the 1.0300 handle.

Taking a glance at Canada’s economic data would reveal that it has been faring relatively well. During the fourth quarter of 2009, the economy grew 5.0%, quite comparative to the 5.9% expansion posted by the US. Before we know it, Canada could be kicking the US’s behind in the economic skating rink too!

Furthermore, Canada’s consumer price index was able to rebound to 0.3% in January, marking its fastest pace of increase in more than a year. This translates to an annual inflation rate of 1.9%, well within the Bank of Canada’s 1-3% target band.

It doesn’t end there. Canada’s labor market has been consistently improvements in the past couple of months, pushing the country’s unemployment rate down to 8.3% which is a far cry from the US’s 9.8% jobless rate.

Healthy economic growth. Uptick in inflation. Upturn in employment. Don’t all of these remind you of Australia?

Well, Australia was one of the few major economies that escaped a technical recession in the midst of the recent global financial crisis. A great deal of it was due to China’s strong demand for Australian raw materials. While the other central banks continued to inject liquidity into their respective markets, the RBA was the only one to hike its rate, all the more making the Aussie the most attractive currency in 2009.

Unlike the RBA, the BOC did not even think of raising its interest rate last year. At present, the bank’s benchmark rate is still one of the lowest at 0.25%. It appears, however, that the Canada’s economic situation is looking up this 2010. And with the positive developments in its major trading partner, the US, things can only get better for Canada. Much like China having the Oz’s back, it seems like now the US has Canada’s as well.

These teams seem to be neck-and-neck in the race. I wonder which group will pull off a barn burner…

These improving economic prospects hint that BOC’s “Rate Hike Day” is fast approaching, which means that strong Loonie buying could be in store! For one thing, an interest rate hike would allow Canadian securities to offer relatively higher returns, making them much more attractive to investors.

But before investors  go on a shopping spree for these assets, they need to have a sufficient supply of Canadian dollars to pay for their purchases. The result? A surge in demand for the Loonie!

Now that Canada is on the right track towards sustainable economic growth, supported by rising inflation and a healthy labor market, the Loonie could soon be aiming to reach parity with the US dollar.