Key Takeaways
- The Canadian economy shrank in the first quarter of 2026, driven by weak investment and a jump in imports.
- The economy could bounce back in the second quarter, supported by higher energy prices from the Iran war and government spending.
- Strong advanced data for April suggests a rebound.
The Canadian economy unexpectedly shrank in the first quarter of 2026, as weaker business and government spending offset higher household spending. But analysts say elevated energy prices linked to the Iran war and early signs of a rebound in the second quarter could keep the Bank of Canada in wait-and-see mode.
Statistics Canada reported a surprise slowdown in GDP, which shrank 0.1% on an annualized basis in the first quarter of 2026. That’s a stark contrast with the FactSet consensus estimate of 1.4% growth. The contraction follows a 1% decline in the final quarter of 2025.
The stall was led by a surge in spending on foreign goods, especially gold, which outweighed the gains from businesses stocking up on goods. At the same time, a tariff-driven quarterly decline of 0.1% in exports, led by passenger cars and trucks, further contributed to the quarterly GDP slowdown.
The slowdown marks two consecutive quarterly contractions in economic growth. This is the technical definition of a recession. It’s also the third quarterly decline out of the past four quarters. The last time Canada recorded back-to-back negative quarterly growth was in 2020, during the covid-19 pandemic.
Analysts don’t think the weaker data justifies an interest rate cut from the Bank of Canada, since higher energy prices due to the war in the Middle East and government spending could help cushion the economic slowdown. The Bank has not changed the rate at its past four meetings, holding it at 2.25%. Policymakers are due to make their next rate decision on June 10. Several analysts foresee a potential rate hike early next year, if not later this year.
Following the GDP report, two-year bond yields slid 0.04 percentage points to 2.79%, while the Canadian dollar fell 0.15% to trade at C$1.38, or 0.72 US cents, against the US dollar.
Here are excerpts from analyst commentaries on the first-quarter GDP report.
High Energy Prices Prevent the Bank from Cutting Rates
“The question now is whether the downside surprise to growth and the lack of momentum could push the Bank of Canada into action. With the economy visibly stalled and the labor market shedding about 120k jobs so far this year, the probability of a hike this year is now very low, but could it spur a cut? With energy prices remaining high, potentially leading to broader inflationary pressure, the Bank of Canada will need to balance these risks in its outlook. What is clear, though, is that if it were not for high energy prices, the Bank of Canada would be very likely to cut its policy rate at the next meeting.”
—Charles St-Arnaud, chief economist at Servus Credit Union
Economic Slowdown Pours Cold Water on Rate Hike Prospects
“There’s no sense sugar-coating this sour result, as the economy has clearly been struggling to grow since the start of the trade war, with headline growth also blunted by the rapid slowdown in population. Government spending had been supporting growth in the past few quarters, putting a floor under the economy, but that support wasn’t there in Q1.
“Importantly, consumer spending held up in the quarter and is up a steady 2.0% y/y, but is now dealing with the energy shock. Overall, this should really throw a wet blanket on rate-hike talk, as the economy is in no condition to deal with higher rates. (Even if it’s only a “technical recession” or a recession in name only, the market is still priced for rate hikes? Seriously?) A trade deal and/or lower energy prices would help support growth, but we can’t necessarily rely on either just yet.”
—Douglas Porter, chief economist at BMO Economics
Recession May Already Be Over Amid Rising Energy Prices
“The trade-induced contraction in GDP last quarter meant the economy tipped into a technical recession at the start of the year. But rising oil and gas activity means this is certain to already be over, with Statistics Canada’s preliminary estimate for April suggesting growth could rebound by as much as 2.0% annualized this quarter—above the Bank’s own 1.5% forecast. While this poses a risk to our view that policymakers will wait until early next year to return to rate hikes, we think higher gasoline prices and uncertainty around CUSMA [Canada-United States-Mexico Agreement] renegotiations will limit the rebound in activity outside the oil sector.”
—Bradley Saunders, North America economist at Capital Economics
Markets Still Price in a Hike This Year
“Overall, this was a very weak report from most angles that shows that trade uncertainty and tariffs are continuing to hold back growth, while consumers have little ammunition left for spending ahead, and interest-sensitive sectors are lagging. The report was also well below the Bank of Canada’s MPR projection for 1.5% growth, but the positive momentum implied by the April reading will still leave policymakers on hold, with growth in Q2 likely to receive a lift as government investment normalizes. Our base case also assumes progress towards reducing some tariffs (namely, aluminum and possibly steel) in the coming months, and if the oil price shock starts to fade over that period as well, GDP will return to sustainable growth for the rest of the year. The market looked past the downside headline miss, given the positive revisions to the prior year, and left odds of a rate hike in place for the year.”
—Katherine Judge, senior economist at CIBC Capital Markets
Economy Not Weak Enough to Merit a Rate Cut
“While the early economic results for 2026 aren’t encouraging, the Bank of Canada may be hesitant to put cuts back on the table. A second consecutive quarterly contraction in Canada’s population meant that per capita GDP was up almost 1% annualized. Recent communications from the central bank have highlighted the need to separate the structural slowdown in economic activity due to lower potential growth from any cyclical weakness. The fact that per capita GDP actually rose will limit the central bank’s ability to respond to the slowdown. That said, markets are correctly, in our opinion, pricing out the likelihood of rate hikes on the news of weaker than expected GDP numbers.”
—Royce Mendes, managing director and head of macro strategy at Desjardins Capital Markets
