Canada’s Royal Bank and the Bank of Monreal predict that interest rates could drop more quickly and settle lower, as a trade dispute with the U.S. is expected to impact the Canadian economy.
U.S. President Donald Trump’s executive order imposing a 25 percent tariff on most Canadian imports, excluding energy products taxed at 10 per cent, took effect at 12:01 a.m. EST on Tuesday.
This move caused turmoil in global financial markets and led the Bank of Montreal (BMO) to adjust its outlook on economic and interest rates. The bank now forecasts the Bank of Canada will introduce at least twice as many rate cuts this year compared to previous expectations.
“We now anticipate a quarter-point reduction at each of the next four meetings, bringing the rate to two per cent by July,” wrote Douglas Porter, chief economist and managing director of economics at BMO, in an economic note released to Bloomberg Tuesday.
Porter added that rates could drop even further if the Bank of Canada feels inflation remains manageable later in the year.
In the report, Porter described the ongoing trade tensions as a “fluid situation.”
“More adjustments may be needed in the coming weeks as additional details emerge regarding Canada’s fiscal response, potential U.S. countermeasures, or a resolution to the tariffs,” he wrote.
“For now, we are working with the information available and assuming the tariffs will remain in place for a year.”
Bank of Canada Noncommital
In a separate note released Tuesday, Royal Bank of Canada’s chief economist Frances Donald and assistant chief economist Cynthia Leach said the Bank of Canada has so far been “noncommittal” about its response to implemented tariffs.
“Without tariffs, we expected the Bank of Canada to gradually reduce rates to 2.25 per cent. However, the longer the tariffs remain, the more likely it is that rates will fall faster and further,” they wrote.
The economists also noted that federal and provincial government efforts to offset the negative effects of a prolonged trade conflict would influence the Bank of Canada’s decisions.
“In the event of an extended economic shock, governments would need to address the immediate recession while strengthening the economy’s ability to handle such setbacks,” the report stated.
“Targeted support could help limit the impact on growth, but broad cash transfers risk fuelling inflation, which could complicate the Bank of Canada’s job and reduce future fiscal flexibility.”
Porter emphasized that while the Bank of Canada’s priority will be to mitigate the effects of an economic slowdown and potential recession, it must also monitor inflation closely.
“Policy easing will be handled cautiously, as inflationary pressures could rise due to retaliatory tariffs and a weaker Canadian dollar,” he said.
The Bank of Canada is scheduled to announce its next policy decision on Wednesday, March 12.
Recession Looming for Canada
Economists warn that Canada could face a recession this year if the U.S. tariffs introduced on Tuesday remain in place. RSM Canada economist Tu Nguyen stated that Canada’s economy is about to experience significant changes.
She explained that measures on both sides of the border will lead to higher prices, increased unemployment, and reduced consumer spending. While sectors like manufacturing, energy, and food will feel the immediate impact, Nguyen emphasized that no industry will escape unscathed, forcing businesses to cut jobs.
The tariffs, imposed by U.S. President Donald Trump’s executive order, include a 25 per cent charge on most Canadian imports and a 10 per cent tariff specifically on Canadian energy. These measures came into effect at 12:01 a.m. ET.
In response, Prime Minister Justin Trudeau announced that Canada would impose retaliatory tariffs on $155 billion worth of U.S. goods. This includes $30 billion in immediate tariffs, with the remaining $125 billion to follow in 21 days.
Nguyen noted that, unlike the pandemic recovery, the effects of these tariffs represent a lasting shock to Canada’s economy. She believes the repercussions will be felt for years.
Michael Dobner, PwC Canada’s national economics and policy leader, advised Canadian businesses to review their supply chains thoroughly. He stressed the importance of understanding the additional costs businesses now face and whether those costs can be passed on to consumers.
Dobner posed the question: “Can your business pass on some or all of these tariffs to customers, or will you have to absorb the costs yourself?”
Competition with US Counterparts
Corey Seale, who co-owns Nummy Creations with his wife, expressed concern over their U.S. business prospects. The company, which produces a caffeine-free coffee alternative, imports its product from Europe and distributes it across Canada and the U.S. Seale said the new tariffs make it too costly to send products to the U.S., leaving them unable to compete with American manufacturers.
Seale is considering shipping directly to U.S. customers from Europe but noted that smaller shipments would drive up freight costs, making this option far from ideal. The company had just secured a deal with a large U.S. grocery chain and hoped to expand production in Canada, but the tariffs may force them to reconsider.
Dobner suggested some Canadian companies may look to expand into other international markets or, in some cases, move production to the U.S. Trump himself encouraged this idea, posting on his Truth Social platform that companies relocating to the U.S. would avoid tariffs altogether.
For businesses heavily reliant on U.S. trade, Dobner acknowledged that moving operations south of the border might be necessary to survive. However, he warned that shifting production could mean losing some competitive advantages, such as lower labour costs in Canada. Transitioning operations would also come with its own set of challenges.
Despite the escalating tensions, Stephen Brown of Capital Economics noted that financial markets seem to expect the Trump administration to reverse course soon, given the limited drop in the Canadian dollar. As of Tuesday afternoon, the loonie was trading at 68.94 cents U.S., down from 69.31 cents U.S. on Monday.
Canada’s Weakened Economy
Brown pointed out that even if tariffs were lifted quickly, the trade dynamic between the U.S. and Canada would still face lasting changes. Should the tariffs remain in place, he predicted a recession for Canada. In response, Brown expects the Bank of Canada to cut interest rates further to support the weakened economy.
Brown previously estimated that the tariffs could reduce Canada’s GDP by three per cent in the first year. He added that the smaller 10 per cent tariff on energy exports would not significantly alter this outlook, as it would be offset by higher rates on products like steel and aluminium. Exporters of these materials could soon face 50 per cent tariffs when new measures go into effect on March 12.
On top of this, Trump has signed additional orders to implement “reciprocal tariffs” starting April 2, with potential duties on cars, copper, lumber, and agriculture products.
Brown also highlighted potential delays in Canada’s fiscal response, given Parliament’s prorogation until March 24 and leadership changes following Trudeau’s resignation. He warned that prolonged tariffs could permanently harm Canada’s economic growth, with limited options available to fully counteract the damage.
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