The Notebook with Theo Argitis: The top three economic challenges facing Canada’s next government

Welcome to The Notebook, where each week I’ll share notes on some of the most important economic issues impacting Canada right now. In this edition, I focus on the big economic choices that await the next government—no matter who wins. I also look at why the Bank of Canada chose to hold off from further interest rate cuts, for now.

As the federal election enters its final stretch, it’s becoming increasingly clear that whichever party forms the next government will face three defining economic policy challenges.

First, how to reconcile growth of Canada’s oil and gas sector—which both major parties claim to support—with the demands of a net-zero transition. Second, how to reset and strengthen our economic relationship with the United States. Third, how to create a new framework to boost capital investment and reverse Canada’s productivity decline. And all three are interconnected.

Oil, gas, and the climate agenda

While Canadians have a precarious relationship with their vast energy riches, in recent months, the oil and gas sector has emerged as a national economic security asset—much greater than the sum of its economic parts. Both Liberal leader Mark Carney and Conservative leader Pierre Poilievre have pledged to foster more energy exports. But Carney faces a tougher balancing act. Like Justin Trudeau before him, he’s trying to strike a grand bargain, promising to develop Canada’s resources while also leading on climate. The lesson from Trudeau, however, is that trying to please everyone often ends in pleasing no one.

Poilievre, for his part, has largely sidestepped climate ambition. That makes his position more consistent, though at the cost of having no serious emissions reduction plan. He’s shown little appetite for any regulatory regime, reflecting his concerns over taxes, central planning, competitiveness, and a political base rooted in Alberta.

For those interested in deeper context, I’d recommend three pieces: McGill University’s Chris Ragan on what’s been proposed so far by the campaigns and the Globe and Mail’s Jeffrey Jones and The Hub’s Sean Speer on some of the tensions in Carney’s plan.

Resetting the U.S. relationship

Canada faces four broad options in response to rising protectionism south of the border:

• Return to the status quo. The U.S. drops the tariffs, and we move on
• Diversify trade. Redirect exports toward Europe and Asia. This hinges heavily on energy exports and requires significant investment. Even if it works—and that’s debatable—it’s a long-term project
• Turn inward. Shift to a more closed economy, with a greater focus on domestic production. Think 1970s Canada.
• Deepen integration with the U.S. Align more closely with American policy, possibly including a joint trade strategy on China in exchange for tariff-free access.

Carney has effectively ruled out the first and fourth options. His rhetoric at times verges on economic nationalism, warning that Americans “want to own us.” His industrial policy proposals flirt with option three, with echoes of 1970s-style statism. Poilievre, by contrast, seems more open to brushing past tensions—bygones being bygones.

Both leaders support diversification.

No one—except Ontario’s Doug Ford—is publicly talking about deeper integration. Yet that may be the most likely outcome.

Even amid all the anti-American bluster, we’re already quietly aligning more closely with U.S. trade policy, particularly toward China. We’ve imposed massive tariffs on Chinese EVs, for example, at a cost to our farmers, who are facing retaliatory tariffs by China on agricultural products. And in February, as exporters scrambled to beat potential tariffs, the share of Canadian goods sold to the U.S. actually surged to 80 percent—the highest monthly share since 2006.

A new investment agenda

The third big challenge for the next government will be how to catalyze investment.

A decade ago, Trudeau tried to rebrand Canada’s economy. “Canada was mostly known for its resources. I want you to know Canadians for our resourcefulness,” he famously said. His government shifted emphasis to human capital via policies such as higher immigration and new social programs like childcare.

But that pivot failed to lift productivity. Under Trudeau, Canada has posted its weakest GDP per capita growth since the Great Depression, in part because real capital stock per worker has declined. The neglect of physical capital has eroded living standards and left the economy more vulnerable at a time of heightened global risk.

Both Carney and Poilievre now say they’re prepared to refocus on investment, and they offer starkly different approaches. Poilievre promises tax cuts and deregulation. Carney would use the public balance sheet to channel investment into strategic sectors through debt-financed programs.

“At the end of the day, it’s very difficult to achieve significant productivity gains if all you’re counting on is human capital. You need physical capital,” said Jean-François Perrault, chief economist at Scotiabank, in an interview this week with The Hub. He’s proposing the next government adopt a 2 percent GDP per capita growth target.

Perrault estimates that reaching that goal—similar to growth rates from the 1980s through early 2000s—would require about $60 billion in additional capital investment each year, or roughly a 15 percent increase.

So to wrap up—three big economic choices await whoever forms Canada’s next government: Can we balance energy and climate goals? Can we rethink our U.S. strategy? Can we finally fix our investment problem?

Bank of Canada

After lowering interest rates at seven consecutive policy decisions since June, the Bank of Canada put its cutting cycle on pause this week, citing massive uncertainty around U.S. trade policy and its inability to forecast the nation’s economic outlook with any precision.

The Ottawa-based central bank held its “overnight” policy rate unchanged at 2.75 percent. It’s the first hold on rates since the Bank of Canada began lowering borrowing costs in June. Prime rates offered by commercial banks are just over 2 percentage points above the central bank’s policy rate.

Effectively, the Bank of Canada is adopting a cautious wait-and-see approach despite the economy heading into a slowdown. It’s worried about the impact of tariffs on inflation. Coupled with the uncertainty around President Donald Trump’s next decision—will he escalate or de-escalate—they chose to pause. Economists are anticipating the central bank will eventually continue its cutting cycle in coming months—at least another half percentage point by the end of this year.

Moderate recession?

To underscore the uncertainty, the Bank of Canada, for the first time since the pandemic, decided not to release a base-case scenario for the nation’s economy. Instead, it chose to produce two hypothetical scenarios to illustrate the wide range of potential outcomes.

One scenario assumes most tariffs get negotiated away. We get a slowdown but no recession or significant pick-up of inflation.

The second scenario assumes global trade wars escalate, producing a recession. What I found interesting here is that the central bank’s estimated recession in this scenario is actually a moderate one, relative to what recessions have typically looked like. The central bank estimated a four-quarter downturn—which is lengthy—but with an average quarterly contraction of 1.2 percent, which is mild relatively speaking. (There is no such thing as a good recession, of course.)

For comparison, the 2008-2009 recession was a three-quarter downturn with a 5.9 percent average contraction per quarter. The 1990-1991 recession was a four-quarter downturn with an average 3.4 percent contraction. The 1981-1982 contraction lasted six quarters, averaging 3.6 percent per quarter. To be sure, deep recessions are tough to predict and arguably the central bank would be reckless to do so, potentially sparking panic. Still, there are two things worth noting about recessions.

One, the historical data show that moderate recessions are the exception, not the rule. Once economies begin to contract, they tend to contract hard. Anyone predicting a recession should keep that in mind.

Two, if this trade war really is one of the biggest economic shocks we’ve faced in decades, as some suggest, it’s not reflected in any of the economic forecasts—whether from the central bank or private sector economists. There’s an incongruity with the rhetoric.

Rich getting richer

The rich are getting relatively richer in Canada. Distributional data out this week shows lowest income households in 2024 received the smallest share of total disposable income since 2015. The top quintile had the highest share since 2007. Top quintile households have seven times the income of low quintile households.

A few more interesting results from the data. Quebec’s share of national household disposable income dropped to a record low of 19.6 percent, with Ontario more than doubling the French-speaking province’s household income for the first time ever. The results probably reflect Ontario’s faster population growth. British Columbia is third behind Ontario and Quebec in terms of total household disposable income, followed by Alberta.