Monthly Economic Letter

Donald Trump’s policy agenda for a second term includes several key proposals that build on his previous presidency and his 2024 campaign promises. Here are some of the main points that could have an impact on Canada’s economy and why they matter for entrepreneurs as we move into the new year.

1. Tax Cuts

Trump proposes to enact large new tax cuts for workers and aims to make permanent individual and estate tax cuts from the 2018 Tax Cuts and Jobs Act. Tax cuts, aimed at households and corporations, would increase consumer spending and business investment, both contributing to higher growth in the U.S., which tends to support growth in Canada by raising demand for our exports.

However, if the U.S. reduces corporate taxes significantly, Canada might lose its competitive edge in attracting businesses and investments. A tax cut would also likely boost equity values and have spillover effects to other countries including Canada by increasing the wealth of investors.

2. Tariffs

Trump has said he plans to impose a universal baseline tariff on all U.S. imports of 10% and a 60% tariff on imports from China. Those tariffs would disrupt trade not just for Canada but globally. Tariffs imposed on Canadian exports could be negotiated and exceptions granted, given the tight supply chain integration between the two countries. Nevertheless, slower global economic growth and higher prices for Canadian exports into the U.S. would reduce demand for Canadian goods and exporters would feel the pinch.

Back in July, we estimated that a 10% tariff on exports to the U.S. would subtract $7 billion from Canadian GDP in the year of implementation, representing a 0.3% decline from the base scenario. This drop-in economic activity would translate into the loss of around 20,000 jobs in Canada.

Such measures would not only lower global trade and therefore global GDP growth, but they would also likely lead to higher inflation in the U.S. This could force the Federal Reserve to keep interest rates elevated.

A slower economy in Canada and the differential between the interest rate policies of the Bank of Canada and the Federal Reserve have already led to a depreciation in the loonie this year.

Although a low Canadian dollar tends to support exports by making Canadian goods less expensive in the U.S., tariffs would counteract that advantage. Moreover, a further drop in our exchange rate would hurt the purchasing power of Canadian households and businesses outside the country. The strength of the U.S. dollar elsewhere would also lower demand for goods traded on the international markets because they are typically priced in U.S. dollars.

3. Energy Production

Trump wants the U.S. to become the dominant energy producer in the world by increasing drilling and energy production. This could have an impact on the Canadian oil sector, but experts suggest Canada could well be spared any punitive action.

During his first mandate as president, Trump didn’t impose tariffs on the energy trade with Canada. That wasn’t the case for other intermediate goods such as steel and aluminum imports. In another sign the incoming administration might take a hands-off approach to Canadian energy, Trump backed the cancelled Keystone XL pipeline expansion, which would have shipped more western Canadian crude into the United States.

The impact on the energy market is likely to be felt more on a global stage. Increased oil activity and production in the U.S. would likely push prices down at a time when demand worldwide is weak. Moreover, 60% tariffs on Chinese imports would hurt the world’s No.1 oil importer, further tempering demand.

The impact in a nutshell

If all the policies proposed by Trump during the 2024 campaign came into effect, they would have a mixed impact on Canada’s economy. Some would stimulate growth on both sides of the border while others would dampen trade and have negative spillover effects.

• Tax cuts would spur business investment and consumer spending south of the board. The spillover effects would be positive for Canada if Americans buy more and visit more, but lower U.S. taxes could also reduce Canada’s business competitiveness.
• Imposing tariffs on all U.S. imports, including much greater ones on Chinese goods, would disrupt global trade, reduce demand for Canadian goods and add pressure on prices in the U.S., restraining the Fed’s ability to cut interest rates.
• Trump’s plan to increase U.S. energy production could lower oil prices and impact the Canadian oil sector; however, Canadian energy could very well be exempted from tariffs.

True to expectations, Canada's GDP stalled in August, following a monthly increase of just 0.1% in July. It was a mixed—and far from ideal picture—in August. The goods sector shrank (-0.4%) to its lowest level since December 2021 while the service sector, which accounts for a larger share of total GDP, grew modestly.

In September, the Canadian economy expanded but just barely, according to preliminary data from Statistics Canada. Growth was expected to reach 0.3%, bringing growth for all of Q3 to below 1.0%.

In the first eight months of the year, the Canadian economy grew by 1.1% compared with the same period in 2023. Considering the headwinds buffetting the economy, growth is likely to slow further in the final quarter of the year, or even decline for a month or two, putting growth at around 1.0% for the year as a whole.

Overcapacity continues to hold back growth

High interest rates over the past two years have depressed demand and the capacity utilization rate in the industrial (goods) sector is still at one of the lowest levels (79.1%), excluding any economic crisis, since Statistics Canada has been tracking this data.

Construction remains the sector where capacity utilization has fallen the most since the Bank of Canada began raising interest rates in March 2022. The natural resources sector is also struggling to return to pre-pandemic levels (with the exception of mining and fossil fuels).

According to the Bank of Canada's latest Business Outlook Survey, the vast majority of Canadian companies are reluctant to invest or hire, judging that they have adequate capacity to meet current and anticipated demand. In the absence of more favourable sales prospects, business investment will remain limited. Companies may also choose to delay investments because financing costs are still high.

BoC takes an axe to interest rates

A slowing economy and well-controlled inflation prompted the Bank of Canada to lower interest rates earlier than most central banks. The bank had cut its key rate three times in a row by 25 basis points in June, July and September, before the Board of Governors opted for a jumbo 50-basis-point cut in October.

The Bank of Canada still has one rate announcement to make before the end of the year. A further cut is expected on December 11, but its size will depend on the latest data available when the bank makes its decision.

Canadian households and businesses are likely to benefit from further interest rate relief in the first half of 2025 as well. The central bank could lower rates more quickly than now expected to a neutral 2.75% if inflation, the labour market or GDP slow more than anticipated.

Job market stalls in October

Following an upturn in private-sector job creation in September, the Canadian labour market remained fairly stable in October. The Canadian economy created almost 15,000 net jobs over the past month.

The recent announcement of lower immigration targets for 2025 and 2026 will lead to a slight contraction in the Canadian population. New residents were responsible for 98% of population growth in 2023 and 2024. With an aging population, the change in immigration policy will limit the total number of hours worked. This will probably halt the recent rise in the country's unemployment rate despite the slow economy.

What does this mean for entrepreneurs?

1. Excess production capacity remains high despite falling interest rates. Business owners need to focus on opportunities to manage operating costs effectively.
2. Although interest rates are falling, they remain high compared with recent years. Be diligent in ensuring your investments generate the expected return, even if demand is still slow.
3. Despite declining hiring intentions and a slowing labour market, the latest immigration targets could bring the return of labour shortages in some sectors or regions. Make sure you have a human resources policy in place. Offering competitive compensation to recruit and retain employees doesn't necessarily mean higher salaries. Various benefits, including health insurance plans and flexible working hours, as well as an attractive company culture, can be just as important to workers as a pay rise.

For more insights and advice, consult BDC's report entitled 4 key trends shaping the future of Canadian business.  

Economic growth south of the border held up well in the face of persistently high interest rates in the U.S. and uncertainty before the November 5 election.

Real GDP grew at an annualized rate of 2.8% in the third quarter. This represents a slight loss of momentum compared with the second quarter (+3.0%). Growth is likely to moderate further in the fourth quarter to around 2.0%, according to leading indicators.

Household consumption accounted for a high proportion of growth in recent months. In good news for Canadian businesses, U.S. imports have continued to rise, supporting growth in Canada.

Consumption on the rise... again

U.S. consumers didn't sit on their wallets in the third quarter. Over the course of the summer, spending accelerated at a rate of 3.7%. While the service sector continued to grow (+2.6%), it was goods consumption that led the way over the previous quarter (+6.0%).

American households are less sensitive to interest rate rises than Canadian households, due to the predominance of pre-pandemic fixed-rate debt and 30-year mortgages. Consumers were, therefore, better positioned to weather high interest rates imposed by the Federal Reserve. Now that the U.S. central bank has begun to ease monetary policy, we wonder if household spending could tick even higher.

Americans' balance sheets still look healthy enough to support higher spending. Real disposable income has risen a little more each month in 2024, and the savings rate remains at around 5%.

Is the job market in trouble?

However, consumers may have to slow the pace of their spending if a slowdown in the labour market and wages gains momentum.

The labour market crashed in October, with the U.S. Bureau of Labor Statistics estimating that only 12,000 jobs were created compared to September's level.  Extraordinary and temporary events may explain some of the slowdown in job creation, but the scale seems too great to be explained solely by hurricanes and a strike at Boeing.

Despite minimal employment gains, the unemployment rate held steady at 4.1% in October, underpinned by a shrinking labour force driven by a slowdown in immigration.

Fed cuts federal funds rate by 25 basis points

After an initial 50-point cut in September, the Federal Reserve stuck to a more standard cut in its November announcement, lowering the rate by 25 bps. The labour market's recent sluggish performance seems to support further rate cuts in the U.S., but persistent inflation still poses some risk to the economy achieving stable, sustainable growth.

The Consumer Price Index (CPI) continued to fall in September, with year-on-year growth of 2.4%, thanks to deflation in energy prices. Core CPI inflation (which excludes energy and food) was 3.3%. The core Personal Consumption Expenditure (PCE) price index is the inflation measure usually favored by the Federal Reserve, and the one on which its 2.0% target is based. It stabilized at 2.7%.

The impact on your business

• The U.S. economy once again performed well in the third quarter. Canadian companies are likely to have benefitted from growth south of the border, as consumer spending in the goods sector picked up and U.S. imports increased at a significant pace.
• The differential between U.S. and Canadian interest rates is holding, which will limit downward pressure on the Canadian dollar. The loonie has lost altitude due to a brighter economic picture in the U.S. A weaker Canadian dollar against the U.S. currency tends to favour exports. On the other hand, Canadian companies that depend on imports from the U.S. or inputs traded on world markets will have to pay higher prices. We expect the Canadian dollar to fall even further in the coming months.
• The slowdown in the U.S. labour market should limit consumption in coming months, which could exacerbate the slowdown in demand currently affecting Canadian businesses.
• The outcome of the U.S. election will obviously have an impact on economic growth in both countries. Find out what it means for the Canadian economy in this month's feature article.  

The main global oil benchmarks fell at the end of October. Brent slid to US$71.90 a barrel while WTI hit US$67.70. Despite relatively large daily fluctuations, monthly average prices held steady during the past two calendar months.

On November 4, however, the Organization of the Petroleum Exporting Countries and its allies (OPEC+) once again decided to postpone a planned increase in output (+ 180,000 barrels per day), which had been scheduled for December. The announcement was a signal that OPEC+ members want to see higher prices. In response, Brent and WTI rose by around 3% in one day.

OPEC+ doesn’t officially target an oil price level, but, historically, most member countries have favoured a price closer to $90 a barrel than the current $70. Prices have trended lower since last spring and many experts believe they could fall further over the coming months as production outpaces consumption.

Global economic conditions remain weak despite cooling inflation and falling interest rates. The restrictive monetary policies of the major central banks continue to hamper economic activity around the world as does a tense and uncertain geopolitical climate. A key impediment to higher prices is economic difficulties in China, the world’s No. 1 importer of oil.

And Canadian oil?

For Canadian oil producers, weakness in the dollar should compensate somewhat for the decline in global prices. The completion of the Trans Mountain pipeline extension in May also gave a boost to Canadian oil prices.

The spread between Western Canadian Select (WCS) and West Texas Intermediate (WTI) was around US$12 in October, a considerable improvement over the same period last year when it was closer to US$25.

In a nutshell...

Oil prices continued their slow descent in October before recovering following the OPEC+ announcement. Global demand remains weak and production from non-OPEC countries, including Canada, is rising.

OPEC+ has therefore put off its planned increase in production to support prices at the expense of market share. For the time being, consumers and central bankers should continue to welcome price weakness, which is reflected in lower pump prices and inflation.

Policy rate to reach 3.5% by year end

The next rate announcement by the Bank of Canada is scheduled on December 11^th. The Canadian economy will likely enjoy another drop in interest rates before the end of 2024. While the Bank of Canada proceeded with a “jumbo” cut of 50 bps at the October meeting, we believe the BoC will get back to a more modest pace of 25 bps. However, the Bank of Canada will continue to cut its policy rate until it reaches the neutral rate. According to the central bank owns’ estimates, the neutral rate range between 2.25% and 3.25%. Therefore, we foresee the policy rate will reach the mid-point (2.75%) of that bracket in Q2-2025.

The Loonie drops furthermore

The Canadian dollar decreased against the greenback in October. The downward trend accelerated since the U.S. election of November 5th. The Canadian dollar traded even below US$0.72 the day following Trump’s election—its lowest level since COVID hit back in 2020. The recent backdrop of the Canadian dollar stemmed from the differences between the two countries’ economic situation. While the U.S. GDP is still increasing at a relatively strong pace, the economy is creating numerous new jobs and increasing consumer spending, the Canadian economy is sluggish. With Trump election, the Canadian dollar is expected to slide even more and could get closer to the US$70.0 at the beginning of 2025 depending on which policies from the new U.S. administration takes centre stage.

Business confidence remains stable

Canadian business optimism has not changed much since May 2024. According to the CFIB business confidence index for the coming year, business optimism remained flat in October at 55.8. The index stayed above the fateful 50 threshold for six consecutive months now, without recording neither major gains nor losses. It confirms that businesses remain on the lookout while waiting for demand to pick up and interest rates to go down.

An indicator of 50 means that as many company managers expect the business environment to deteriorate versus an improvement over the period covered (either 12, or three months).