Joseph Coletti
Welcome back to Strategic Alternatives, the RBC Capital Markets podcast.
Trade and tariffs dominated the conversation for the first half of this week, and in this episode, you'll hear from Frances Donald, RBC's Chief Economist, in conversation with Ram Amarnath, Co-Head of Global Financial Sponsors and Head of Canadian Diversified Industries here at RBC Capital Markets. Frances will discuss the potential impact of the US trade tariffs on the Canadian economy, and explore the nuances and potential long term consequences if enacted.
She'll also talk about what corporations, investors and policymakers across Canada and the US need to think about in the weeks and months ahead. Now, let's dive into the conversation.
Ram Amarnath
My name is Ram Amarnath. I'm imagining director at RBC Capital Markets. Thank you for joining us for today's discussion. Navigating the impact of U.S. tariffs on Canada with RBC's chief economist, Francis Donald. Over the next 35 to 40 minutes, I'll moderate a session with Francis that will discuss the impact of events over the past couple of days.
The potential impact of U.S. tariffs on the Canadian economy, and the potential near and long term consequences that a US, Canada trade war could have for our corporate and commercial clients. Francis, great to be doing this with you.
Francis Donald
Difficult economic circumstances, but happy you're here. To help us. And really grateful for all of our, clients and relationships that, joined us today.
So I, along with, I'm sure most of our listeners on this call, have likely seen plenty of headlines and or several read several articles over the past 48 hours and trying to make sense of it all. Quite frankly, a lot of us are exhausted. Let's start from the top. We heard news last night that tariffs are delayed.
How does that change the way you're thinking about this development? What do you think we'll see over the next? Well, I'm certainly feeling a lot more relief, both because we don't have to make formal changes to our forecasts just yet, but also for the Canadian economy now. I will tell you, from Sunday was my husband's birthday, and of course, we canceled everything. He did not get his birthday nap. And when the headline came across that said no tariffs came in and he said, did I lose my birthday for nothing? And I said, no, you absolutely lost it for a good reason. Because this issue, as much as we've had short term good news, problematically did not disappear in the last 24 hours.
So we did get news that we're looking at a 30 day pause. I think a lot of political strategists feel like that is going to give us more possibility for off ramps. We have USMCA or in Canada, as we call it. Kuzma up for negotiation in July 2026. What we are seeing here could be a precursor to a lot more change happening next year.
There is the April 1st deadline for America First trade policy. That's another deadline that's coming through. And it's really amazing. Today we actually had huge global economic news. That is barely make a scratch because we went from crisis of massive, one of the biggest trade wars we've ever seen, to just 10% tariffs on China from the United States, along with retaliation that in the past, in 2018 would have been enough to move markets.
And a lot of chatter about European tariffs. So these issues that we're dealing with and and our relationships and our clients are dealing with, I think we can downgrade just how severe they are, but they aren't going away. And I think more importantly, the term I'm thinking about a lot this morning is it's really difficult for us to put the toothpaste toothpaste back in the tube on a lot of these conversations.
We do know a few things about 2018 and 2019. There are best playbook, of course, no comparison in terms of Fang data. But what we saw during that period is that even the threat or the higher potential for tariffs creates economic noise and impacts economic decisions. So we know that when faced with extraordinary uncertainty, as Canadian companies still are, there is a pullback on activity.
There is a pullback for households who are maybe thinking about large scale purchases and don't necessarily do that, especially if they're an industry they know is at risk. And then there's the business investment side. We do tend to see a pause. Sometimes it's a deferring of activity to a later part. Sometimes that pause period stops altogether. We've seen, of course, a general galvanization from households and businesses, around some of the vulnerable cities that perhaps we weren't discussing to the same extent and we could talk about it more on.
But I am expecting to see a shift in political priorities. And from an economist standpoint, fiscal priorities moving forward that is impacting our medium to long term view. At the end of the day. I think what's been really critical for a lot of economists is that what's happened in the 48 hours is the little reminder that a lot of trade agreements, on which the bulk of our economic models are operating, models are based on maybe, they're not as strong as we would have liked.
And this concept of free trade being the absolute best, the stalwart economic concept that almost everyone on this call would have learned out, learned of when they suffered through an econ 101 class. Well, maybe that's not the economic model that we're going to be dealing with for the next four, ten or longer years. So I am feeling some relief.
But we're not really putting this issue to bed just yet. Of course, those who've dialed in today know that, this is still a topic that we're going to have to be focusing on. We're going to hope that RBC economics can lead us through it. Thank you. And so clearly, we're not out of the woods. And it doesn't seem to be that the trade issue is going away.
Amarnath
You referenced the, the first Trump administration and the tariffs we had in 2018. What was the cost then and how do we compare that to what is proposed now? You know, how are economists thinking about the shifting geopolitical landscape you referenced?
Donald
One of the challenges and especially we hear this from, many of the American politicians is that, hey, we put on tariffs in 2018 and 2019 and and there was no inflation.
There was no big catastrophe that occurred. Well, in part that's because the magnitude of the tariffs applied in 2018, 2019 is so small compared to this 25% across the board, Mexico, Canada, an increase in China. So just to give you an example, China is about 15% of U.S. trade, but Mexico and Canada are a combined 30. So you're tripling the band of imports heading to the United States, really increasing the amount of global trade that becomes tariff.
The measure that economists like to use is the average import tariff for Americans. So what's the average tax they're paying on their imports? In 2018, that number rose from 1.5 to 3%. Had they gone through yesterday with 25% tariffs on Canada and Mexico, that number would have gone to 11%. That's a quadrupling of the tariffs that we would have seen in 2018, 2019.
And it's particularly problematic because it's targeting a manufacturing base that sees you talk about more or less, that sees product go across borders up to 7 or 8 times. So tariffs would be going through multiple times on products. This is the highest, increase in an average ratio that we've seen since 1943. And so in any way that you could measure a trade shock, what we've just apparently narrowly avoided for now, what is then one of the largest had the largest shock in almost 100 years to the North American trading system.
I say that without hyperbole. I am an economist. I am, you know, down to the decimal points when it comes to accuracy. This was extracted energy. It basically broke any playbook could have used 2018 2019. As I said, there were some things we learned about 2018, 2019. For example, currency can offset a little bit of the pain.
We saw that behavior of inventory hoarding. We saw that behavior of uncertainty and how it flows through. And some have even pointed out that by the end of 2019, we're actually starting to see manufacturing weaken and some of that prices coming up. But then, of course, you may remember Covid occurred. Wipe the slate clean on a bunch of data.
So yes, there are lessons. And we're using 2018 because it's the closest thing we got. But it's really a quarter of what we would have seen had this policy gone through. And I suspect as we move forward, if we see targeted, tariffs moving forward or any sort of variation, we're going to be looking at something that's of orders of magnitude that's greater than what we have a playbook for.
Amarnath
I'm going to hit on one thing you mentioned. Just to elaborate, you mentioned that Canada is not in a position to receive a shock right now, either. I think cyclically or structurally. Why is that?
Donald
So the way that I'm thinking about the Canadian economy more and more and, and actually the, the global system more recently is that started to think of economies as having their own economic immune systems.
That is to say that they developed the ability to withstand shocks, some of them better than others. You know, America, America's a really good example. Particularly in this American exceptionalism. I mean, you probably heard a lot of America actually has a very strong economic alcune system. Their ability to withstand shocks has been very high. They have huge AI developments.
And it's not just using ChatGPT and kids doing their homework faster, it's actually the data centers that are contributing to that investment for nominal massive amounts of government spending, more than America's ever seen outside of a recession. By the way, we could do another webinar on that one room for sure. And they've actually benefited from a surge in productivity.
So think of their immune system like, Arnold Schwarzenegger pumping iron on Venice Beach in California. Drinking free juice really has strong. Canada's economic immune system is a lot more like the person who's sitting on the couch, hasn't gotten a lot of exercise and eat a lot of potato chips. It has very weak ability to absorb shock, and we can measure this through things like potential GDP.
Potential GDP is effectively our measurement of how fast can the economy grow if everything's perfect, if everyone who wants a job has one and and businesses are spending as they should, that number has never been lower for Canada. We can measure this going back 50 years. Canada's potential growth, its ability to grow is now sub 1%. Even though I only have data going back to 1950s, I can extrapolate back another 67 years beyond that.
Say, we've never been in a position where we've had so few industries so much, so diminished productivity and so little population growth. So that was our starting place. That really fueled a lot of conversations about Canada last year. And this year. You heard Carolyn Rogers, the deputy governor at the Bank of Canada, a really formidable speech about breaking the glass on the emergency of productivity, where she's an economist.
So she called it productivity. But if an economist had written the speech, probably was said breaking the glass on Canada's ability to grow. So that was the starting place. And then, of course, as we round the corner into 2025, Canada was really just starting to get its feet under it. You see 200 basis points of cuts from the Bank of Canada. The Bank of Canada had said, hey, we have more coming. The unemployment rate still climbing in Canada. We had it going up to 7% before the trade shocks coming through, housing activity, very muddled business activity, really not accelerating just yet. And we've had per capita GDP declining in eight of the nine past quarters. Some people would say that's already a recession because the family take a box.
But I think a lot of Canadians have felt like it is very recessionary. So if you think about an immune system being your starting point, this tariff shock is really like getting hit by the mother of all colds. I'm in my young children era, so to me it's a daycare cold, the most wicked of them coming through and you don't have the ability to absorb it.
That's in part why, a lot of the almost all the banks, including us, saw this shock as really being potentially recessionary because we were so close to zero. It's easy to knock us below zero. Is this type of environment. So, what we were expecting is that it wouldn't even be very long of, it was a very long of a duration to create sizable problems in Canada.
And that's because our starting place very weak. You talk more about the U.S., of course, but they're coming at this from a very different economic strength. That gives them a bit of leverage in this conversation.
Amarnath
I think you in your recent report, you quantify that or puts in goalposts, let's say we do get tariffs. You talked about where we are today without if we do get tariffs, you know, what should businesses expect to happen in Canada.
Donald
We'll run a lot on how complicated is to measure this. And it's not wrong because we're lazy or we don't want to do the work. It's because I'm really trying to, be very transparent with Canadians that there are so many assumptions that go into these numbers that when you see a headline that says RBC econ says potential for three year recession, please read the second part of the sentence within the article, because there's so much that goes into East.
So when we think about the the flow through, of course, we have we talked about already what happens before the tariff, inventory hoarding and uncertainty. Then you see prices increase for Americans and the ban for a variety of our goods drop off. Now, their demand can only drop off if they have substitutes or they don't really eat that food.
That might be true a little bit more of things like cars or manufacturing. It's not true for energy. They are entirely dependent on energy. Things like nickel. 40% of American nickel comes from Canada, and there's places they can't shift around. We got a measure of retaliation. That's actually what kept us up. The latest on Sunday, aka my husband's birthday, was going through these massive lists of where retaliation numbers were in, how that would increase costs for Canadians on that side as well.
But where's the real part of the modeling comes in is you're going to shock a sector like penny factoring, for example. We have a good sense of how manufacturing respond. But let's say unfortunately, a manufacturing plant has to let folks go. Those individuals are less likely to go to restaurants. They're not going to go to movie theaters. They may not engage in discretionary spending. And that's the good side of it, because many of these folks are also going to struggle with necessities spending as well. So what we tend to see is that the tentacles of this shock bleed beyond just the sectors that are immediate, the tariff. And that might sound very negative, but there are things that Canada does, would likely do very, very quickly that would offset some of that.
And I'm not talking about, you know, new investments or trade negotiations. The first thing that we'd probably see is the Bank of Canada responding. And our take is the Bank of Canada would probably respond quickly and aggressively, with further rate cuts that would offset some of this challenge. And at least if you lost your job, your mortgage payment might come down a little bit.
Or if you're renting, maybe your credit card doesn't have a credit card. It's not the right one. Your line of credit doesn't have the same interest burden. That could be one area. And then we've heard a lot of governments talk about providing support to Canadians on a quote, forward basis. So there would be some offsetting, packages that come through to support Canadians through here.
And when we're trying to model the shop around, what's hard is that we have to big assumptions about how long things are going to be on. We also have to make assumptions about what the Bank of Canada would do and how governments would respond as well. And what really keeps you up at night. It's not what I can model in an Excel spreadsheet that a lot of these decisions are happening in rooms I'm not in, at least not yet in my career.
With individuals who are making decisions, whether it's in Washington, in Ottawa, Parliament, or at the Bank of Canada. And so really, you know, we're urging our clients there are goalposts. We've said three months duration is enough for recession risk to start increasing very quickly in Canada. But there also needs to be a wide factoring here.
And as I've been saying, as joining RBC about six months ago, we talked a lot about data from the aggregate. But this is going to be very sector specific, and there will be places of resilience that Canada and the places that are struggling a little bit more. So, fear mongering amongst economists, I would really downplay that and recognize we're trying to do our best to create a path forward, those goalposts, as you mentioned. But there's wide variability. We have to dive a little bit under the surface for that, if that's fair.
Amarnath
Makes sense. I mean, going back to the US, you talked about its ability to, you know, kind of withstand this a lot better. But that being said, how would you assess the US in a situation like this, you know, from that maybe not recession but a growth, perspective? And then how about inflation?
Donald
There's been a lot of discussion on inflation. We were absolutely prepared to revise down our U.S growth forecast. In fact, I think I finalized at around 255 yesterday. And now knowing full well that Prime Minister Trudeau and, President Trump were speaking at three, and so the the plan that was in place up until, just before 4 p.m. yesterday would have been enough by our models to shape growth by about 1% in the US.
To give you some context, we're expecting about 1.8 1.9% growth in 2025. So take 1% off that you're still in positive territory. Our equity strategist, Laurie Calvert, however, is always saying to be Frances, if you're going to have GDP meaningfully below 2%, that has impact for the markets above 2% is your safe sell. So this would have been enough to take us out of that safe zone.
Probably give some trepidation to markets. Again very uneven. But whereas in Canada, you know we talked a lot about the growth impacts and our concerns about recession. I don't think I didn't intend not to say it, but I don't think I said that inflation was going to be a big issue in Canada, probably because it wouldn't be short term the US, the bigger problem for them isn't going to be drop off growth.
That's in part because it's the country imposing the tariff that feels the inflationary impact. But it's also because the US is kind of running hot. They've had way too much fiscal spending. They have not cured inflation the same way that the big Canada has been able to bring it back down to 2%.
And they have a range of other policies that are inflationary that are coming down the pipeline, corporate tax cuts, deregulation. And in the policy we're focusing the most on, of course, is actually immigration in the United States. The US is really struggling from out of lack of jobs, from a lack of workers. In the United States, 40% of Americans do not work their labor force participation rate went a decline in the coming years because they have record amounts of retirees.
The most retirees literally. American history will retire in 2025, and they do not have anyone to replace them. In fact, there are three retirees in the United States. For every person looking new person looking for work, this ratio is expanding for practically, that will be the policy that shakes America in 2025 and 2026. Probably more than tariffs. So you could see there's this asymmetry very damaging tariffs for the United States.
But they're going to have to combat the inflation side of that stagflation sharing shock. Whereas Canada would be struggling with the growth side. More likely. That also is going to be different types of challenges. Like we're serving different eels to the Federal Reserve and the Canada. We're probably going to continue with larger divergence. I will mention on the United States, we don't have any evidence for 2018 or 2019, but the issues that tariffs are supposed to resolve for Americans actually function.
Well, to do that. So there was no change in the US's trade deficit from tariffs imposed on China. What we saw is actually, instead of bringing things in from China, China would send its goods through other ASEAN countries, and then they would come into the United States. The trade deficit fell with China, but rose for other Asian economies.
It's probably not going to revive the manufacturing sector in the United States as well, particularly not with the US dollar as strong as it is. But, you know, it's interesting, I talk about demographics at the United States. The place where we have the largest, shortage of workers is actually in the Midwest, the very areas that any factoring would probably come into play.
So we've really been trying to be as loud as we can in a barrack that needs workers, not jobs. So this tariff policy to rehome manufacturing, in I actually even have workers to work in the manufacturing sector unless we change the immigration policy, the challenge for the United States, and it's true, Canada, but it's even more true in the US is this concept of what we call the k shape the economy.
So one segment, the higher k accelerating and doing well off the back of higher interest rates, AI, fiscal stock market gains and the other part will leave you substantially worse every single quarter. That's low income and middle income Americans. Most of the data we look at will care about the aggregate and that's in part because the richest Americans disproportionately spend the top 20, but 40% the United States.
But it's adding a lot of our U.S data. What I find really fascinating is there's been some conversations. You might have heard this. The tack of the tariffs were supposed to provide revenue for tax cuts. Now, in part we can't get the math to work on that one. So the tariffs in best case scenario can bring in about a third of the revenue needed for the tax.
So we tried we were trying to be very ambitious at it. We were really trying to make that work. Can't get it done. But in the concept of the k-shaped economy for the United States, tariffs are disproportionately paid for by lower income Americans because they spend more of their money on things that are imported goods, lower cost goods.
You think of Walmart, for example, but tax cuts disproportionately benefit your higher income Americans. So this tariff for, tax cuts, it's just going to turn that lowercase k into an uppercase K. And I think this perspective on the US economy, even though that may not be most of the folks on this call, is operating environment. We can form a little bit about how asymmetric this trade discussion is, and how different the starting places are from the two economies and from the so different because for most of my career, you didn't really need to be a Canadian economist.
You could just be an 80% U.S economist and then, you know, spend the last hour of your day talking through the filter to Canada. These economies are separating cyclically and they're separating structurally. It's not going to be as easy for us to say when the U.S sneezes, Canada catches a cold or the reverse, that the U.S. could be the tie that lifts the Canadian boat as well.
We're seeing that now, and I suspect it accelerates in 2025 and 2026.
Amarnath
You know, with that being said, how do you expect the two governments to respond to what's ahead? You know, both the US and Canada? I probably had a little more insight on the Canadian side of that one. So I'll start there. And, I guess difficult task.
Donald
Of course, we don't even know who will be government. So there's, quite a bit of, uncertainty around there, but I'll stay agnostic to who is in that position. Just talk through a couple of the things that we've been discussing on the team as, as critical components or considerations. But this government, the first one is, is how much should be spent.
Canada has stayed in this beneficial position and that as much as we decry the $62 billion deficit, our position relative to the G7 and the OECD from a fiscal position has actually been one of the strongest, and we have to keep it that way because we're not a reserve currency. And, you know, when folks go to the Caribbean on vacation, they don't bring Canadian dollars, they bring American dollars.
A Canada is not a place of global investment. But from a bond market perspective, Canada has been effectively a darling. You know, if Canada wants to borrow, it has the capacity to do so because it's the cleanest dirty shirt. What has worried us about the tariff shock, however, is that in the past, when Canada has spent a huge chunk of money to help its economy in the global financial crisis or the pandemic, everybody was spending a huge amount of money at the same time.
Whereas the tariff shock and what needs to be done for Canada, possibly in the years ahead, is very Canada specific. So there's going to have to be I think the strength of fiscal spending will have more to do about Canada going it alone, but it will on fiscal anchors, which are effectively they're important effectively, sort of the same way that I tell my son bedtimes at 745.
But could it be 8:00? Yes, the world would disintegrate. So that's the first thing. The second thing is, where should this, where should support be targeted? And this is really complicated. So we've heard some government officials talk about pandemic era support, and economists have been trying to push back with this a little bit, not because Canadians are not deserving.
And this is not, you know, part of a such typical behavior. Canadians don't do anything wrong. Not that anyone ever deserves to have an economic crisis, but it's really out of our control. And you could see the calls on government to provide something like pandemic era support. The pandemic was a different type of economic shock. It was a pause with the expectation that we would unpause the economy, would more or less go back to where it was.
That's been generally true. Of course, we have some work from home and some variations, and I can't go to a restaurant any more and get a physical venue like I do the QR code thing, which drives me crazy, but we're still going in restaurants, right? The difference with the trade shock is that it creates the need for a reorientation of the economy, and we also don't know how long the shock will extend.
So as much as we want to create a bridge to the other side, we don't even know what that other side looks like. And we probably have to build the other side while we're building a bridge. So it's more complicated that, the other issue here is because we don't know the duration of the shock. If we overspent, we really risk some of the challenges that we learned from the pandemic, which is if you send out too much money, you think a lot of folks lives harder because inflation goes up.
So we got to make sure that it's really going to the places that are the industries that specifically need support and that we think about what's a pause button.
Amarnath
So the other side and what is maybe, a type of business that needs to reorient or reskill towards, a future Canada. What does that look like? The last thing, and it's on a similar type of thing, is, you know, what is the balance in the spending between short term support and long term support?
Donald
So if you go back to my, silly metaphor about the immune system in the daycare old, you're going to take your, your Tylenol cold and your cough drops to solve your cold. But then if you're like me, every time I catch a cold, I reconnect to the gym and decide I'm going to drink green juice, and I buy a green juicer and try to go get like a vitamin D shot or whatever.
So there's a balance between these two things that are happening. We can already see in the Canadian conversation a shift towards items that people have talked about for a long time. But the urgent see around some of this long term ones. There's three for me that are particularly interesting. The first one is interprovincial trade barriers. I got to tell you, we've been talking about this for ten years at fun economist parties.
But when you try to bring it up outside of economic circles, people's eyes rolled over. And there's great research out there that's going back over five, ten years. And it effectively shows the IMF has shown this. We're so concerned about 25% tariffs with cancer. You know, the average interprovincial tariff is 21% across our own country. We could solve that very, very quickly.
And there's research from economists like Trevor Tombe who says, if you could eliminate all of those wrong, no limit all of those, but you can actually boost growth from between 4 to 8% over the long term. You could offset tariffs from Trump by solving inter-provincial tariffs. That's just a policy decision. And it would probably very quickly be disinflationary for Canadian rates and help boost growth.
And frankly, if I can editorialize for a minute that I haven't been doing that for the last 30, it's sort of silly and it's within our control and that the premiers could call each other tomorrow and pretty much get it that. So that's number one. Number two, you may have seen about five days ago, Alberta Premier Danielle Smith, she talked about a Canada US joint grab military base at the Arctic.
Yeah I'm not sure what everyone's Saturday-Sunday reading is. Mine goes between like Robert Munch books and Baranski bears towards the New York Times back and forth Saturday morning. But I would really encourage everyone on this call. If you see content about Canada's Arctic, the 40% of our landmass is the Arctic, and it's a massive military value, strategic value unnoticed. A lot of these conversations are not economically driven. They're national security driven. That's an area where I'm really picking up, sort of on the side as much as I can on that area. I think that'll be a really key part of Canada's economic and national story
Donald
So Credit Canada is among the top ten global producers of major critical minerals lithium, graphite, nickel, cobalt. I'm hi. I'm a part time economist and full time geologist at this point. And it looks like Canada is the single largest supplier nickel to the United States. And there, you know, in theory, a politically aligned partner with the United States and many of the OECD that allows them to reduce their influence or their, reliance on China for a lot of these critical minerals.
But Canada can supply gallium, germanium. Those are two really significant inputs into defense technology. So we find ourselves suddenly, you know, really spending a lot of time thinking about critical minerals. I somehow forgot I'm a proud Canadian. I've been a Canadian economist, a market economist my entire career. I spent all my presentations talking about housing, talking about the Bank of Canada, talking about trade with the United States.
It's a probably forgotten national narrative that we have this phenomenal gift of economic resources that exist that our natural resource sector. So I'm hoping that as that this acted as a moment for Canadians to recognize just how sizable their role, critical minerals, their agricultural resources are and how Canada can help feed the world and protect the world. Those are narratives.
Amarnath
I think you're going to hear a lot more regardless of who is in government as governments change. But those who talk about Canada and what it has to, speak about are going to find themselves focusing on these issues a lot more in the next couple of years. And I urge all of us to really dive deep into them.
Donald
It's interesting. We've, a lot of these things may be in isolation. We would talk about or economists like you would talk about. But I think what's interesting is because of the events of the last couple of days, a lot of these issues have come up to bear. And, and people realize there are things that we can do in our control.
So I wonder, you know, when you think about, you know, the takeaways or the lessons that we've, you know, learned over the last couple days? I think you've you've highlighted some, some excellent ones, for us, I appreciate that. So we were talking earlier today about a day I had an early January in the morning. I was full of energy and talking about all the interesting things happening and I dinnertime, I was asked to give a presentation on Canada's outlook.
And when I sat down at my table afterwards, I heard, well, that was pretty depressing. And I thought at that moment, in the first week of January, yeah, I'm pretty depressed about the state of Canada. I don't know where to be excited about. But in the past three weeks, even though Canada has faced one of, the largest economic shocks of its entire existence, I found myself diving deeper into a range of really interesting things that Canada has to offer the world.
And what I'm optimistic about is not just that we have all of the Tinder to create this beautiful economic fire, but that, I think our policymakers, economists, business owners across the country are starting to see the potential that exists. So we may know changes to our forecasts for the past three weeks. But in a very short time, I found myself and I observed I team my family, the business owners that I know suddenly get really excited about where Canada's going to be in 5 to 10 years.
And I think that's something for us to lead into and is, amidst a very difficult 48 hours and a birthday party, of a nice silver lining, to this, to this period. That's super. I, I think that that would have been just a wonderful way to. And I did want to just hit one more thing.
I know we're running out of time, and I'm getting the, getting the nod here, but, you talked about the central bank. You know, this, this lower growth, but, you know, higher inflation and and and how what do you how do you see the Canadian central bank now acting going forward? So we already had the Bank of Canada cutting down to 2% by the end of this year.
I think we were slightly more dovish. I got to tell you, economists don't sit on the floor and fight over 25 basis points. We put something in the sand and then newspapers say we disagree, but not really. This is about everybody thought that we'd be cutting a lot more in 2025 because as I said, there's excess supply.
Inflation has come down and the unemployment rate is rising. You do not need a PhD in economics to see that. That's the situation for cutting interest rates further. What the Bank of Canada told us, just last week is that they recognize business investment slows and they don't want to prepare the economy for this potential shock, even if we don't get tariffs.
There are some, as I said, some slowdowns in activity that probably are will occur over the first quarter. And even the threat of tariffs in Canada probably weighs more on the growth side that the inflation side. So the Bank of Canada was already cutting. They may cut more in response to this story. And I think what's important is, yes, there is an element of this that's inflationary.
But if you look at my table of forecasts, you don't publish all of them. But in my Excel spreadsheet, you'll see that in a model tariff scenario, you'll actually see inflation climbing up towards 3% at the same time as the unemployment rate starts climbing to 8 or 9% at the same time break, the Bank of Canada could hike interest rates, and it would not bring down that type of inflation because that inflation is not interest rate sensitive.
It's coming from a one off, albeit permanent, shock that the central bank cannot attack. So it's more likely to think over a two year horizon, which is where central banks are effective, over what is the path of inflation over there. Pair of shocks diminish that path over the medium term. So on balance, we would expect that a central bank would respond with more cuts.
If we have huge government packages, they can do less if we see, smaller government packages that are maybe more poorly tailored, they can do more. The Bank of Canada can't save, Canada from a tariff type shock. But the good news is, it's not like they were in a hiking cycle, and now they have to reverse. This would just act as an accelerant over interest rates that are already defined.
Amarnath
Super powerful. I mean, a lot of takeaways. And, I think what you've also highlighted is perhaps some even if nothing happens, there might be some shift in policy, both from the government and even central bank, as they, you know, think about preparedness and what this all means. Any final comments on your end before we wrap up here, Frances?
Donald
I just see, you know, the situation is really fluid. RBC economics is publishing as much as we can to help, help our clients understand these types of shocks. I would, really encourage everyone to think about the models and the transmission mechanisms that these types of things work through, as opposed to maybe seeing one number in the news and getting, started about it.
There are pockets, strength in this country. We're turning a corner on how we know how to treat our economic immune system. And, we RBC wants to help be there to answer a lot of these questions along the way.
Amarnath
Really appreciate your valuable insights. Obviously, this is a rapidly evolving situation, and I'm sure the landscape will continue to change over the coming days and weeks.
For our listeners, you can stay up to date with detail reports from Frances and the economics team we posted to on the platform today, one which Frances published on Sunday on the first economic takeaways from what was announced.
Thank you. Frances for doing this, perhaps we'll be doing this again in 30 days or so.
Coletti
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