Gravy & cheese curds. Tegan & Sara. Denim & denim…there’s only one iconic duo that trumps those to Canadains, and it’s the tightly integrated economies of Canada and the US. Like all bromances, this relationship is going through a bit of a rough patch, with the new American administration threatening to impose 25% tariffs on Canada, but only if we don’t make drastic changes to immigration and stop turning a blind eye to transnational organized crime. If hit with tariffs, Canada’s GDP would take a massive hit and plunge into one of the worst recessions on record. Surprisingly, Canada’s economy is now so dependent on organized crime that a crackdown to avoid tariffs may have a similar impact on GDP.
Canada & The US Have A Close Economic Relationship, Threatened By 25% Tariffs
Canada and the US have one of the most important strategic partnerships in the world. Each day an average of $3.5 billion in goods and services flow between the countries. Everything from energy to lumber, and even defence manufacturing. A combination of the world’s largest undefended border and close cultural ties make this relationship a huge net positive for both regions.
Our neighbors to the South have been struggling to deal with the fallout from Canada’s brief embrace of zero-scrutiny immigration. It first became an issue under the previous administration, but the new administration has ratcheted up the pressure to resolve the issue by threatening a 25% tariff. It’s unclear how serious the initial number is (China is only being threatened with 10%), but Canada countering with a threat appears to have made the issue much more real. Consequently, both economies may face a huge economic hit if things don’t resolve by Saturday’s deadline (assuming it’s not pushed back again).
Canadian Economy To Enter 2nd Worst Recession Ever If Hit With Tariff
Tariffs will hit both economies, but the damage it will do to the smaller Canadian economy is much bigger. In 2019, the Bank of Canada (BoC) studied the impact of a 25% broad tariff between Canada and the US, as a part of its routine assessment of tail risks—unlikely but still possible scenarios that the central bank needs to be prepared to face.
Their study estimates it would shave off a whopping 6% of the country’s GDP. That would make it the second largest recession that Canada has ever faced, only beaten by the 2020 recession. However, the 2020 hit to GDP was induced as part of a “pause” on trade, artificially worsening the impact and making a significant recovery just a year later as things resumed. In contrast, this would be a real recession with a permanent loss of business and a much longer recovery time.
This week the BoC also touched on the potential impact as well, during its rate announcement. They estimate Canada will shed 2.5% of its GDP by year-end if the tariffs go through. That roughly takes Canada’s economy back to 2022, wiping out 2 years of progress.
Canada Cracking Down On Money Laundering Can Have A Similar Impact To Tariffs
Sounds simple! Just clean up the border, tighten immigration controls, and crack down on illicit drugs, right? Tragically that would obliterate Canada’s 7th largest industry—money laundering.
Money laundering is the act of obfuscating the origin of funds, often obtained through illicit sources. It generally involves three phases to properly conceal it—placement, layering, and integration.
Placement is the first stage, and involves the introduction of capital into the system. This can be cash deposits at a bank, a bar/restaurant invoicing extra sales, an art dealer selling pieces at inflated prices, or a developer taking a bag of cash as a deposit on a new home.
Layering is the second step, and involves obfuscating the point of placement by layering on transactions. Business activity is generated, multiple times in the best operations. One example would be taking “casino winnings” and turning it into a deposit on a home, and using a falsified tenant to pay “rent” on the units. Activity that is innocuous and mixed with real income to conceal the origin—making it difficult to sort out what’s illicit and what’s real.
Integration is the final phase, and is exactly like it sounds—the funds are integrated into the general economy in a way that makes it impossible to remove without stamping out legitimate funds. If it were a movie, this is where the dodgy criminal yells “this is harassment, I’m a legitimate businessman” at a cop asking questions about the source of funds. In order to not attract attention when spending laundered cash, the line between real and artificial business needs to be indistinguishable.
Notice something important? In each phase of laundering, significant economic activity is generated. It even generates a significant amount of tax dollars… something most policymakers with an addiction to spending hate to lose. Since spending flows through the economy and results in spin-off activity, this generally boosts the economy. In fact, since the objective is to spend as much, as quickly as possible—laundering is likely to be a much higher velocity contributor to GDP. However, let’s stick with the average capital velocity of a GDP component for the math on this one.
Most Canadians can’t even imagine how extensive the country’s problem has become. When BC’s anti-money laundering inquiry released its final report in 2022, it estimated the national volume of funds obviously laundered to be around $100b annually as of 2018. Using a standard GDP multiplier, that works out to just over 6% of the economy.
So you know how Nova Scotia is 🇨🇦’s money laundering capital?
Oh, you don’t? Probably because 🇨🇦 intentionally ignores it, despite the Halifax port frequently mentioned in 🇺🇸 intel.
Anyway, Atlantic Canada launders over 2/3 the amount of BC w/less than half the population. pic.twitter.com/ivCzXYGiwW
— Stephen Punwasi 🏚️📉🐈☃️ (@StephenPunwasi) May 30, 2024
Shockingly, that’s right around where Canada would be with broad tariffs for not cracking down on the illicit activity that’s backstopped the economy. If half the impact occurs at once to avoid tariffs, that could very well be larger than the 2.5% tariff driven GDP contraction.
It would be surprising if policymakers weren’t aware how this impacts the economy, especially their tax revenues either way. However, if they are aware—it makes sense why all but one political leader decided to take the path of highest conflict instead of aiming for a speedy resolve.
At least we know the impact means we’re damned if we do, and damned if we don’t.