Canada’s economy contracted at a sharper pace than forecasted in the second quarter as exports pulled back in the face of US tariffs, Statistics Canada said on Friday.
The economy shrank by 1.6% on an annualised basis in the three months to June 30 after growth of 2.0% in the first quarter, albeit revised downwards.
This dismal showing brought first-half annualised growth for the year barely above zero at just 0.4%.
Its second-quarter pullback was the country’s first quarter of contraction in seven quarters, and highlighted a sudden loss of momentum. Analysts surveyed by Reuters had projected a lesser decline of 0.6%.
Weak exports and investment are weighing on growth
Exports were the most significant drag on the economy, falling 7.5% in the quarter, the largest drop in five years.
The decline in trade flows, exacerbated by US tariffs, overshadowed increases elsewhere in the economy.
Business investment exhibited symptoms of stress. Spending on machinery and equipment declined 0.6%, the first decrease since the outbreak.
The drop in exports and investment underscored Canada’s vulnerability to external shocks and global trade conditions.
Domestic demand cushions the blow
Despite external difficulties, domestic demand served as a buffer. Household final consumption expenditure increased 4.5% on an annualised basis, owing to strong consumer activity.
Residential investment rose 6.3%, while government final consumption spending increased 5.1%.
Overall, domestic demand increased by 3.5%, indicating that household and public sector expenditure remained strong despite a weak trade sector.
Monthly GDP highlights persistent weakness
Gross domestic product fell 0.1% in June, Statistics Canada also said Thursday, following drops in April and May.
The monthly decline was led by output in goods-producing sectors, which make up a quarter of Canada’s economy.
It represented the third straight month of contraction, the first time in three years that the economy has contracted three months in a row. June GDP was expected to grow 0.1%, according to analysts.
In July, an advance estimate indicated that the economy might have grown by 0.1%, signalling it could be on a path to a slight recovery in the third quarter.
Market reaction and rate-cut expectations rise
The disappointing GDP data added to expectations that the Bank of Canada (BoC) may be forced to ease its monetary policy. The key interest rate of the central bank has remained unchanged at 2.75% for the last three meetings.
The amount of Bank of Canada (BoC) rate cut priced in at the central bank’s September 17 meeting increased to 48% from 40% before the GDP release.
Financial markets responded immediately. The Canadian dollar fell 0.17% to 1.3771 per US dollar, or 72.62 US cents.
The two-year government bond yields decreased 2.8 basis points to 2.664% amid rising expectations for monetary policy easing.
Outlook: Cautious optimism amid uncertainty
While the second-quarter contraction was a significant setback, the durability of domestic demand and early signs of revival in July indicate that the economy may avoid a prolonged downturn.
Nonetheless, with exports under pressure and business investment slowing, Canada’s growth outlook remains uncertain.
The Bank of Canada confronts a difficult policy decision in September, balancing inflation risks against apparent indicators of a slowing economy.
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