Economy Contracts More Than Expected

The Canadian economy shrinks faster than economists predicted, falling 1.6% in the second quarter as U.S. tariffs slammed exports. While the contraction marks the first slowdown in nearly two years, rising household and government spending helped limit the damage. Statistics Canada released the latest figures on Friday, confirming a sharper-than-expected hit to growth.

GDP Shows Unexpected Weakness

Gross domestic product dropped at an annualized rate of 1.6% in the quarter ending June 30. In contrast, first-quarter growth was revised down to 2%. Taken together, the first half of the year averaged just 0.4% growth.

The results highlight a clear loss of momentum. In fact, this was Canada’s first quarterly decline in seven quarters. The sharp slowdown has also fueled fresh speculation that the Bank of Canada may lower interest rates at its September meeting.

Interest Rate Speculation Builds

The central bank has kept its key rate steady at 2.75% during the past three meetings. In July, it forecasted a possible 1.5% decline for the second quarter. Now, with the actual 1.6% contraction confirmed, markets quickly reacted.

Money markets raised the probability of a September 17th rate cut to 48%, up from 40% before the GDP numbers were released. CIBC economist Andrew Grantham noted that weak momentum heading into Q3 supports the case for a modest rate cut. Still, upcoming employment figures will play a critical role in shaping the final decision.

Exports Drag Growth Down

Exports were the biggest drag, tumbling 7.5% in the quarter. This drop, the steepest in five years, came largely due to tariffs disrupting cross-border trade. Business investment also weakened, with machinery and equipment spending falling 0.6% — the first decline since the pandemic.

Such results underline the heavy toll of external pressures. Global trade disputes continue to weigh on Canada’s export-driven industries, leaving growth vulnerable to international headwinds.

Domestic Demand Offers Relief

Despite trade struggles, domestic demand painted a brighter picture. Household spending climbed 4.5% on an annualized basis, supported by stronger residential investment, which rose 6.3%. Government spending also provided a lift, jumping 5.1%.

Together, these gains pushed domestic demand up 3.5%, showing resilience within the Canadian market. Economists at BMO noted that while tariffs strained the broader outlook, consumer and government activity prevented an even deeper downturn.

Outlook for the Rest of the Year

Looking ahead, economists remain divided. Some believe the weakness could push the central bank toward an early rate cut, while others expect policymakers to wait for additional employment and inflation data.

Benjamin Reitzes of BMO argued the economy is evolving “largely in line” with the Bank of Canada’s July forecast. He added that the GDP report alone is unlikely to force a September cut, especially with more key data still pending.

Canada’s economy may be facing turbulence, but domestic demand remains a steady anchor. How policymakers respond in September will shape the path forward.

Stay tuned to Maple Wire for the next big update on Canada’s economy and financial markets.