As of early 2025, the evident contraction in consumption within the Canadian economy has led to abrupt shifts in government policies. In January, retail sales declined by 0.6%, and preliminary assessments for February indicate that this downward trend will continue at a rate of 0.4%.[1] This scenario suggests weakening consumer spending and a cooling economic activity. In response to this economic outlook, the federal government led by Prime Minister Mark Carney made a significant policy shift by withdrawing the proposal to increase the tax on capital gains.[2]
According to data released by Statistics Canada on March 21, 2025, total retail sales in January fell by 0.6% compared to the previous month, declining to CAD 69.4 billion.[3] This drop stands out as the most significant volume-based decrease recorded in the past two years. Notably, automotive and parts sales shrank by 2.6%, while food and beverage retailers experienced a 2.5% contraction.[4] While some economists attribute this decline to a seasonal correction following the shopping surge in December, the data indicate a broader decline in consumer confidence, hinting at a more structural economic slowdown.
Several key factors underpin this downturn. Firstly, a temporary sales tax exemption implemented in December 2024 and ending in mid-February 2025 artificially boosted year-end consumption. However, once this stimulus effect dissipated, consumption not only returned to normal but also exhibited a real contraction. The 1.1% drop in volume-based sales supports this argument.[5]
The pressures on the Canadian economy are not limited to domestic demand contraction. The newly implemented U.S. tariffs, introduced by President Donald Trump in early 2025, have generated uncertainty for Canadian exporters and the broader economic environment. While the Bank of Canada anticipates that the direct effects of these tariffs will become evident in March data, consumers have already begun to curtail their spending in response to these developments. This climate of uncertainty has led not only businesses but also households to adopt a more cautious outlook toward the future.
Given these conditions, the Bank of Canada has revised its growth projections downward. Considering that consumer spending accounts for approximately 40% of total GDP, a contraction in this area could place significant pressure on economic growth.[6]
Amidst this unfavourable economic trajectory, Prime Minister Mark Carney’s office announced on March 21, 2025, that the proposal to increase the capital gains tax inclusion rate had been withdrawn.[7] Initially, this tax hike aimed to increase the inclusion rate for capital gains taxation, targeting higher-income investors to generate additional government revenue.
However, instead of implementing this policy, the government opted to backtrack. The primary rationale behind this decision was the potential risk of capital flight, which could harm economic growth, as well as the possibility of sending negative signals to the business community amid prevailing economic uncertainty. Additionally, the government has announced that it will maintain its decision to raise the lifetime capital gains exemption limit to 1.25 million Canadian dollars for small businesses, farmers, and fishers on the proceeds from their sales.[8] This can be interpreted as an indication that the government is attempting to support the economic recovery process.
The withdrawal of the tax hike is not solely linked to economic data but also to political pressures. Business representatives, negative feedback from potential investors, and opposition parties branding the measure as an “anti-investment” policy contributed to the government’s decision to retreat. From the Carney administration’s perspective, this decision can be interpreted as an effort to stabilize the markets and restore confidence.
However, this policy reversal raises concerns about a potential fiscal gap. If economic growth slows more than expected and public revenues shrink, the Carney government may be compelled to pursue fiscal tightening in other areas or adjust different tax policies.
Considering current data and policy trends, the Canadian economy is likely to experience low growth and limited domestic demand in the coming quarters. The persistence of consumer spending deceleration could significantly hinder economic recovery. Uncertainty in trade relations with the U.S. and a contraction in global trade are also weakening external demand channels. In this environment, the government may seek to stimulate domestic demand through expansionary fiscal policies, but constraints on public finances could limit such efforts. While the Bank of Canada is expected to adopt a more cautious approach to interest rate policy, restoring investor and consumer confidence could play a crucial role in achieving economic stability. Consequently, in the short term, the Canadian economy is likely to follow a “soft landing” trajectory. However, if structural reforms and diversification of trade channels are not achieved, this downturn could evolve into a more prolonged economic challenge.
[1] “Canada January Retail Sales Fall 0.6%; Seen down 0.4% in February”, Reuters, https://www.reuters.com/markets/canada-january-retail-sales-fall-06-seen-down-04-february-2025-03-21/, (Access Date: 23.03.2025).
[2] “Canada PM Carney Cancels Proposed Capital Gains Tax Increase”, Reuters, https://www.reuters.com/world/americas/canada-pm-carney-cancels-proposed-capital-gains-tax-increase-2025-03-21/, (Access Date: 23.03.2025).
[3] Mukherjee, Promit. “Canada’s January Retail Sales Shrink by 0.6%, February Sales Likely to Fall 0.4%”, Reuters, https://www.reuters.com/markets/canada-january-retail-sales-shrink-by-06-february-sales-likely-fall-04-2025-03-21/, (Access Date: 23.03.2025).
[4] Ibid.
[5] Ibid.
[6] Ibid.
[7] “Canada PM Carney Cancels Proposed Capital Gains Tax Increase.”, a.g.e., (Access Date: 23.03.2025).
[8] Ibid.
