Canada's Economy Is Buckling Under The Tariff Weight, Says TD

12:21 PM EDT, 06/17/2025 (MT Newswires) -- Canada's economy got off to a slightly stronger start to 2025, but few forecasters are upgrading their outlook, said TD.

The "dark shadow" cast by United States tariffs on Canada's business environment is expected to lead the economy to contract through the middle of this year and send the unemployment rate to its highest level since 2012, wrote the bank in a note to clients.

The tariffs Canada will face going forward are also highly uncertain, stated TD. Right now, Canada has an overall effective U.S. rate between 10%-12% and the bank assumes that is halved by this Q4 as more Canadian exports become USMCA compliant and qualify for full exemption.

TD has downgraded its forecast for Canadian growth again for 2025, but sees momentum returning next year, boosted by a trade truce, lower interest rates, and a ramp-up in government spending.

The impact of tariffs on Canada's economy is clear in the economic data, according to TD. Most directly, exports to the U.S. have plummeted after surging through the winter and are down 14% versus a year ago as of April.

Consumers have also shied away from major purchases like homes and autos as they worry about losing their jobs or facing lower revenues in their businesses. Business investment in machinery and equipment was better than expected to start the year, but may represent some pull forward of spending to get ahead of tariff-related price increases.

As is typical during a weak period in the economic cycle, business investment is expected to contract sharply through the middle of this year, as uncertainty about Canada's access to its biggest market weighs on business outlays.

Thanks to the removal of the consumer carbon tax and lower energy prices, headline inflation has softened recently. But the Bank of Canada's preferred core inflation measures have picked up more than expected, putting Canada's central bank in a tough spot when it comes to considering further interest rate cuts.

The bank estimates that as economic fallout from the tariffs becomes evident, the BoC will make two additional quarter-point cuts later this year, taking the overnight rate to 2.25%. This should provide more support to growth down the line, particularly in residential investment, where TD expects pent-up demand for housing to start contributing to growth again in the second half of this year.

The other new development since March is on the political front, with Prime Minister Carney's minority Liberal government telegraphing a ramp-up in outlays to respond to U.S. trade hostilities. A modest personal income tax cut should provide a small boost to incomes in the near term, and higher defense spending appears to be next on the docket as Canada strives to meet NATO targets.

Investments in "nation building" infrastructure are also on the docket, however, it remains to be seen if the actions taken will truly reach the government's goal of "the largest transformation of its economy since the Second World War," added the bank.

Looking ahead to 2026, government spending ramps up significantly, and is a key source of upgrade to TD's forecast, although the federal government has committed in its recent Throne Speech to restrain operating spending growth, implying some significant belt tightening in other areas.

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