Tariffs would have, and still could, cause a recession, chief economist says

Despite a last-minute decision to delay their implementation by 30 days, Canada would enter a recession if Trump’s 25 per cent tariffs end up as a long-term policy, says Eric Lascelles Chief Economist at RBC Global Asset Management. The policy, which had been set to take effect today, as well as retaliatory tariffs by Canada could see our country’s GDP plunge. The US would likely face a growth setback, too, but Lascelles doesn’t believe it would put that country into a recession. Lascelles offers a bit of optimism, however, noting that these tariffs may not be implemented after all. Even if they are eventually made policy, he believes they might not last.

“I'd be surprised if tariffs of that magnitude were in place several months from now. I'm of the view that these tariff threats are useful for exacting concessions from countries like Canada,” Lascelles says. “But, ultimately, it would be ill advised to keep them in place, as per some of the economic damage that that would accrue.”

Should tariffs be implemented eventually, with a subsequent deal reached, Lascelles believes the economic impact would be more akin to a natural disaster — where we see a big drop in GDP for a short time, followed by a relatively quick recovery from that initial shock and a broad softening of the impact over the long-term.

In the wake of these potential tariffs, Lascelles outlined what the broad economic outlook for Canada and the US might be. He explained how central banks might react as tariffs conspire to increase inflation while eroding growth for both the US and Canada. He outlined what impacts we may expect to see across the Canadian economy and highlighted where these tariffs will be most acutely felt.

In terms of geography, Lascelles notes that Ontario and Quebec are likely the most exposed to these tariffs, given their high degree of economic interconnectedness with the US. B.C. may be somewhat more insulated due to its Asia Pacific trade links while Alberta’s energy exports are set to face a lower rate of tariffs, which might soften the blow for that province.

Larger companies, Lascelles said, may be more immediately impacted given the tendency for bigger companies to require inputs from across the border. Companies in relatively inelastic sectors, too, should be somewhat more insulated by the demand for their products. Key inputs may continue to see demand despite tariffs, with costs largely passed on to US consumers. “There’s reason to think that a big chunk of the oil tariff will be paid by US drivers and not Alberta oil producers,” Lascelles says. Conversely, he predicts Canadian purveyors of discretionary goods to take more of a hit.

One of the possible Canadian countermeasures that have been discussed during this oncoming trade tension has been a reduction in interprovincial trade barriers. While Lascelles acknowledges that the scale of that economic benefit could possibly offset the damage done by US tariffs, he also thinks that interprovincial free trade is unlikely as it runs against the structure of Canadian federalism. He believes that it is almost impossible that the provinces would give the Federal Government the degree of control required to dismantle those trade barriers. Nevertheless, he does think it’s a worthwhile conversation for political leaders to have.

Tariffs tend to have the dual impact of increasing inflation while reducing growth and Lascelles says we might see that inflationary impact come quickly. He expects there to be a single price shock resulting from these tariffs. If the 25 per cent tariffs stay in place, RBC’s models predict a two per cent spike in Canadian inflation and a .05 to .75 per cent increase in US inflation. While that is not a sticky form of inflation, and those prices could come down, there may be an immediate shock to both economies.

While the Canadian inflation spike would be larger, Lascelles notes that because Canadian inflation is currently more tame and below the Bank of Canada’s two per cent target, it may be more easily digested by Canadians. He expects the Bank of Canada will likely focus more on the growth impacts and continue cutting interest rates. South of the border inflation has been stickier and an uptick in inflation may mean the US Fed continues to hold its interest rates steady rather than cut.

Amid a new set of economic uncertainties, Lascelles believes it is advisors’ job to offer clients a reminder of their overall portfolio strategy, financial plan, and the tools in place to manage their exposure to risk and uncertainty.

“Moments like this first and foremost, are an excuse to remind clients why they have a diversified portfolio, why they're not only in US stocks or Canadian stocks, and why they may own a fixed income sleeve and have some other investment options that are not quite so buffeted or might be traveling in a slightly different direction,” Lascelles says. “It’s a chance to remind people that investing is meant to maximize returns and put people in a good position for retirement, and that making decisions on the basis of one piece of political news is unlikely to be something that maximizes returns.”