BMO Warns: U.S. Tariffs May Trigger Recession in Canada

The U.S.–Canada trade dispute is already affecting the Canadian economy, and a new BMO report warns that the future course of tariffs could push outcomes anywhere from slightly slower growth to a full recession. The report models three tariff scenarios and estimates their potential long-term impact on Canadian GDP. In the most optimistic path—where tariffs remain near the current average of about 7%—Canada could still see roughly a 1.5% decline in long-term GDP relative to the start-of-year outlook. A middle-case scenario, with tariffs averaging about 15% (comparable to measures imposed by other trading partners), could tack on materially slower near-term growth and cut long-term GDP by about 2.5%. And in a worst-case scenario where tariffs rise as high as 35% across many goods, the economy could experience a short-term moderate recession and lose about 5% of long-term growth.

‘Muddle through’ scenario expected as Canada-U.S. trade talks continue

BMO’s chief economist, Douglas Porter, says the most likely outcome is a continuation of roughly current tariff levels—what the report calls a “muddle through” scenario. Porter suggests that while some industry-specific duties could be adjusted, those shifts could go in either direction. In short, Canada is likely to face continued, targeted trade frictions rather than widespread tariffs, unless negotiations take a different course.

This diplomatic context includes an upcoming meeting between Canada’s prime minister and U.S. President Donald Trump, where trade and security topics are expected to be discussed. Observers hope the talks may deliver relief on specific duties such as steel tariffs, but Porter notes that any rollback could be offset by new measures in other sectors given the administration’s broader list of tariff options.

CUSMA’s future looms as trade talks signal potential renegotiations

Most Canadian exports to the U.S. still enter tariff-free due to protection under the Canada–U.S.–Mexico trade agreement (CUSMA). However, the United States has expanded the use of sector-specific levies, recently adding fresh tariffs on items such as furniture, pharmaceuticals, and lumber. Goods falling outside trade-agreement coverage remain vulnerable to higher duties—up to the 35% level used as the benchmark for the report’s severe scenario.

The fate of CUSMA is a critical backdrop to trade discussions. The agreement is scheduled for review next year, and the scope of any renegotiation will strongly influence Canada’s trade outlook. One important indicator to watch is whether the U.S. administration pursues Trade Promotion Authority from Congress—an action that would clear the way for more comprehensive changes to the deal if requested.

Canada uses monetary and fiscal tools to cushion impact of U.S. tariffs

To soften the economic impact from tariffs, Canada can deploy a mix of monetary easing, fiscal stimulus, and trade policy adjustments. According to Porter, both the Bank of Canada and the federal government have started to respond, which helps explain why the economy has held up better than some earlier projections suggested.

In September, the Bank of Canada lowered its key policy rate by a quarter percentage point to 2.5%, a move markets interpreted as the start of easier monetary policy. Financial market expectations at the time also pointed to the possibility of another cut later in the year. The rate reduction reflected moderating inflation pressures—partly tied to lower oil prices—and economic indicators that suggested additional policy support could be warranted.

Recent data show mixed economic momentum. Real GDP fell at an annualized rate of 1.6% in the second quarter, Statistics Canada reported July growth of 0.2%, and preliminary August numbers indicated virtually no growth. While overall expansion has been muted, equity markets have largely held near record levels, underlining that the tariff-related damage so far has been concentrated in specific industries—most notably steel and aluminum, autos, copper, and lumber—while many other sectors remain effectively protected by compliance with trade rules.

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