The Canadian economy expanded at the fastest rate since 2023 in the second quarter, but showed signs of decelerating slightly into the third, helping reinforce expectations for a neutral message from the Bank of Canada next week. Numbers released by Statistics Canada this morning showed real gross domestic product growing at a 3.3-percent annualised pace in the three months ended June, matching market expectations and marking a solid rebound from the revised 0.3% expansion recorded in the previous quarter. Exports jumped at a quarter-over-quarter annualised 15.1% pace, business investment rose 12.3%, residential investment climbed 10.4%, and household consumption increased by 3.3%. Final domestic demand, often considered the cleanest read of underlying fundamentals, climbed at a 3.9% annualised rate.

A separately-reported monthly update showed real gross domestic product growing 0.3% in June before flatlining in July, signalling a slightly softer handoff into the third quarter.

The update comes as growth prospects dim in the face of a rapidly intensifying trade war with the United States. Following Friday’s collapse in trade talks, the Trump administration has imposed 50% tariffs on roughly $20bn in Canadian products, Ottawa has announced retaliatory levies on an equivalent volume of US goods, and the president has threatened to raise duties further on cars, car parts and steel. Ottawa is stepping up support, but downside risks have clearly risen, and most observers expect economic momentum to slow in the months ahead as households fortify their balance sheets and businesses shelve hiring and investment plans.

The Canadian dollar is trading flat as interest rate differentials hold firm ahead of next week’s Bank of Canada meeting. Overnight index swaps are pointing to two rate hikes by April next year, essentially unchanged from pre-release levels.

We think policymakers will acknowledge signs of growing economic resilience ahead of the latest trade escalation—noting an improvement in underlying growth momentum, strength in consumer spending and investment, and a corresponding stabilisation in labour markets—but that this will be overshadowed by mounting concern over the implications of a prolonged trade conflict. Demand-driven inflation risks should be downplayed against a backdrop of an economy still operating with extensive slack. In the near term, the Canadian dollar remains vulnerable to a dovish repricing of the Bank’s policy trajectory, even as its longer-run prospects brighten.