Will Canada Slip into a Recession Within the Next 12 Months?

Key Insights

Consumer and investor sentiment has deteriorated. The Canadian yield curve inverted in August, and its slope has trended downward since then—which signals that investors have a negative outlook on financial markets. The Bank’s aggressive tightening monetary policy can explain why investor sentiment has dampened recently. What’s more, households continue to cope with elevated prices—especially at grocery stores and gas pumps—causing consumer confidence to decline and growth in consumer spending to decelerate. According to our Index of Consumer Confidence, 76.3 per cent of respondents felt that their future financial situations would be the same or worse—a 1.5 percentage points increase from last month. Given that consumption makes up over 60 per cent of the economy, if consumers continue to have a negative outlook on the economy and spend less, recession fears could become a self-fulfilling prophecy. 

Not all recessions are created equal. In our view, a recession is defined as a decline in economic activity, significantly below potential, impacting many sectors, and lasting longer than a few months. Our recession probabilities are broadly based on this holistic approach and not the two-quarters of negative growth approach. This definition allows us to explore the severity of past and future recessions (depth, breadth, and duration). Just because a recession might occur, it may not necessarily mean it will be severe. The economy has remained overheated for several months; a recessionary period could be seen as a possible correction period—in which we see a trade-off between inflation and unemployment—before the economy returns to its normal state.

If a recession occurs, it will only be a mild one. In our most recent forecast update, we call for the economy to slow to a near stall in the early-to-mid part of 2023. An economic slowdown would undoubtedly impact consumers and businesses alike, but households should get by relatively unscathed, as aggregate household savings would help soften the blow. However, there are downside risks to our forecasts. If the war in Ukraine escalates further, the global economy could face a major downturn. Also, if inflation becomes sticky, households will have to endure a prolonged period of high prices in the short term, further dampening consumer confidence and spending. Our forecast represents the performance of the entire economy over the medium term, taking future changes in monetary and fiscal policy into account. On the other hand, our recession tracker assesses the risk of a recession within the next 12 months using current financial and macroeconomic indicators—and thus is not considered a forecast.