Canada's economy turned in a solid performance in the second quarter, but the good times may not last. RBC Economics warns that momentum could cool quickly as the threat of new US tariffs hangs over trade, leaving the Bank of Canada (BoC) with an unusually difficult decision at its October meeting.
A strong quarter, but clouds ahead
The latest GDP figures showed a burst of activity, giving policymakers and investors some welcome relief after a period of sluggish growth. However, RBC's research team cautions that this strength may be temporary. The bank notes that the BoC has already flagged tariffs as a key risk, one that could pull Canada's fourth-quarter 2026 growth below a 1% annualized pace—even after the recent uptick.
Tariffs, which are taxes on imported goods, can disrupt supply chains and raise costs for businesses and consumers. For a trade-dependent economy like Canada's, the impact can be significant, particularly if the US—its largest trading partner—imposes new duties on Canadian products.
The Bank of Canada's balancing act
The BoC's October rate decision is shaping up to be a close call. On one side, oil-driven inflation risks could push prices higher, arguing for keeping interest rates elevated or even raising them. On the other, slower growth—potentially exacerbated by tariffs—could justify a rate cut to stimulate the economy.
RBC argues that when tariffs are the problem, the cleanest fix is often targeted government support for affected firms and workers, rather than using interest rates to address what is essentially a trade shock. Interest rate moves are a blunt tool; they affect the whole economy, not just the sectors hit by tariffs. Government aid, by contrast, can be aimed precisely at those who need it most.
This is not the first time RBC has flagged concerns about Canada's economic momentum. Earlier reports have pointed to a stalling in July activity, clouding the third-quarter outlook. The labor market, meanwhile, has shown resilience, with payrolls rising for a fifth straight month and wage growth cooling to 3.2%—a sign that the economy is not collapsing, but also not firing on all cylinders.
What it means for investors
For everyday investors, the key takeaway is that Canada's economic path is uncertain. A strong GDP print can boost confidence in Canadian stocks and the loonie, but the tariff threat could quickly reverse that sentiment. The BoC's decision will be closely watched, as it will influence borrowing costs for mortgages, loans, and savings accounts.
If the BoC cuts rates, that could be positive for stocks, as cheaper borrowing tends to support corporate profits. But if inflation remains sticky, the central bank may hold off, keeping rates higher for longer. That would be a headwind for growth and could weigh on the Canadian dollar.
Investors should also keep an eye on the broader market context. Recent sessions have seen the TSX drop 1% as rising US bond yields and falling metals dragged on the index. Copper, a key industrial metal, has pulled back from record highs amid dollar strength and lingering tariff uncertainty. These are signs that global trade tensions are already affecting Canadian markets.
For those with exposure to Canadian equities, diversification remains important. Sectors like energy and materials, which are sensitive to trade policy, could be more volatile. On the other hand, domestic-focused sectors like financials and consumer staples might be more resilient.
Looking ahead
The BoC's October meeting will be a pivotal moment. Investors will be parsing every piece of data between now and then—from inflation readings to trade figures—for clues about the central bank's next move. The bank's own guidance suggests it is weighing the risks carefully, and RBC's analysis underscores just how balanced the decision is.
In the meantime, the government's response to potential tariffs will also be crucial. If Ottawa steps in with targeted support, it could cushion the blow and help the economy navigate the uncertainty. But if tariffs hit hard and support is slow, the strong Q2 numbers could quickly become a distant memory.
For now, the message for investors is to stay informed and prepared for volatility. The Canadian economy has shown resilience, but the road ahead is far from smooth.
