USD/CAD holds ground near 1.3750 as inflation risks add to Fed policy uncertainty

• USD/CAD gains ground as the Greenback advances, driven by persistent inflationary pressures.
• The CME FedWatch tool indicates more than 89% of a 25-basis-point Fed rate cut in September.
• The Q2 GDP contraction has led markets to advance expectations for Bank of Canada policy easing.

USD/CAD extends its gains for the second successive session, trading around 1.3750 during the Asian hours on Monday. The pair appreciates as the US Dollar (USD) is gaining ground as traders assess Friday's United States (US) Personal Consumption Expenditures (PCE) Price Index, which signaled persistent inflationary pressures and heightened uncertainty over potential rate cuts. The August ISM Manufacturing Purchasing Managers Index (PMI) will be eyed later in the day.

However, the upside of the USD/CAD pair could be limited as the US Dollar (USD) may struggle amid the increasing likelihood of a US Federal Reserve (Fed) rate cut in the September meeting. Traders are now pricing in more than 89% of a 25 basis points (bps) rate cut by the Fed at the September policy meeting, up from an 84% chance a week ago, according to the CME FedWatch tool.

Market participants are also awaiting labor market data this week that could shape the US Federal Reserve's (Fed) policy decision in September. Key reports include ADP Employment Change, Average Hourly Earnings, and Nonfarm Payrolls for August.

The Canadian Dollar (CAD) faces headwinds as the domestic economy slows more sharply than anticipated, weighed down by a simmering trade dispute with the United States and elevated tariffs under US President Donald Trump. Statistics Canada reported a 0.4% quarter-on-quarter contraction in Q2 real GDP, driven by weakness in exports and business investment, prompting markets to bring forward expectations for Bank of Canada (BoC) policy easing.