Cargo containers at the Port of Vancouver. Canada’s economy shrank sharply in Q2 as U.S. tariffs hit exports, though household and government spending softened the blow. Photo: CBC
Canada’s economy suffered a steeper-than-expected contraction in the second quarter, largely due to tumbling exports pressured by U.S. tariffs. New data from Statistics Canada shows the downturn was partly cushioned by higher consumer and government spending.
The country’s GDP declined by 1.6 per cent on an annualized basis in the quarter ending June 30. That followed a downwardly revised two per cent growth in the first quarter. Overall, Canada managed an annualized growth of just 0.4 per cent in the first six months of the year.
This marks the first quarterly slowdown in nearly two years and raises questions about the strength of the economic recovery.
Interest Rate Cuts Back in Focus
The deeper-than-expected contraction has fueled speculation that the Bank of Canada could trim interest rates in September. The central bank has held its policy rate steady at 2.75 per cent for three straight meetings.
In July, the bank had forecast a second-quarter decline of around 1.5 per cent. The actual contraction came in slightly worse. Following the GDP release, money markets raised the probability of a September 17 rate cut to 48 per cent, up from 40 per cent beforehand.
Economists caution, however, that upcoming employment and inflation data will weigh heavily on the central bank’s decision.
Weak Momentum Raises Concerns
Monthly data added to worries about Canada’s economic outlook. GDP slipped 0.1 per cent in June, dragged down by a decline in goods-producing industries, which make up about one-quarter of national output.
Analysts had expected a very different outcome — a 0.6 per cent quarterly contraction and modest 0.1 per cent growth in June. Instead, the data signalled weaker momentum heading into the third quarter.
“The most concerning aspect is the lack of momentum at the end of Q2,” said Andrew Grantham, senior economist at CIBC Capital Markets. He argued that conditions support a 25-basis-point rate cut in September but added that employment numbers remain critical to that call.
Exports Suffer Biggest Decline in Five Years
Exports were the main drag on growth, tumbling 7.5 per cent in the second quarter — the sharpest drop in five years. The fall underscored the heavy toll of U.S. tariffs on Canadian goods.
Business investment also showed signs of strain. Spending on machinery and equipment shrank by 0.6 per cent, its first decline since the pandemic.
Domestic Spending Provides a Cushion
Despite the export slump, domestic demand showed resilience. Household spending rose 4.5 per cent on an annualized basis, while residential investment surged 6.3 per cent. Government expenditures on goods and services jumped 5.1 per cent, further softening the overall contraction.
“It’s no surprise the economy struggled as tariffs escalated,” said Benjamin Reitzes, macrostrategist at the Bank of Montreal. “Still, domestic strength is somewhat comforting, though its sustainability is uncertain.”
Reitzes added that the economy remains broadly in line with the central bank’s July forecast, suggesting officials may wait for further data before adjusting rates.
For now, the contraction highlights Canada’s vulnerability to external shocks, even as households and government spending keep the economy afloat.
