The external challenge for Canada’s economy from President Trump’s acrobatic and erratic tariff policy choices makes headlines; the internal challenges of slow productivity growth show up in economic research and background papers. But for Canada, the internal challenges matter at least as much. The International Monetary Fund provides an overview of both challenges in “Canada: 2025 Article IV Consultation-Press Release; and Staff Report” (January 20, 2026).
Canada and the United States are the single largest national trading partners for each other. Moreover, the global economy that has been dividing into three main trading blocs–one based around the European Union, one based around China, Japan, and Korea, and one in North America. However, during his first term of office, Trump strongly criticized the North American Free Trade Agreement and negotiated to replace it with the US-Mexico-Canada Agreement. The 2020 USMCA involved relatively modest changes from NAFTA. But upon signing the treaty in 2020, Trump said: “The USMCA is the largest, fairest, most balanced, and modern trade agreement ever achieved. There’s never been anything like it.” In 2026, Trump now says that the agreement is “irrelevant” for the United States, although I have not yet heard him offer strong criticism of the politicians who so foolishly negotiated and signed off on the 2020 treaty.
Thus, the current external challenge for Canada’s economy is to react to the somersaults of US tariff policy. The IMF analysis is mildly positive on this score: “Canada is adjusting to the largest shift in North American trade policy since NAFTA. The economy has been more resilient than initially feared, supported by USMCA exemptions, resilient consumption, and policy cushioning. Nonetheless, elevated trade uncertainty has weighed on exports, investment, and confidence, reinforcing long-standing weaknesses in productivity and competitiveness.”
Here, I want to focus on those “long-standing weaknesses” that the IMF mentions. The IMF writes:
Canada’s productivity slowdown is a defining constraint on long-term growth and living standards. Despite strong institutions, sound macroeconomic management, and deep global integration, labor productivity continues to lag peers, including other commodity-exporting advanced economies such as Australia and Norway. Output per hour worked is now roughly 30 percent lower than in the United States, with the gap having widened over time. Productivity shortfalls are broad-based but particularly pronounced in technology and service sectors. …
Firm-level evidence shows a steady decline in entry since 2000, with the share of young firms in output falling from about 30 to 20 percent. … Industrial concentration has risen in around half of industries—particularly in mature service sectors such as retail, finance, and transportation—and markups have increased mainly among top firms. Higher concentration and markups are associated with weaker subsequent productivity growth (a 1 percent increase in markups is linked to about a 0.4 percent decline), pointing to structural barriers to competition. Limited turnover at the top suggests entrenched incumbents and fewer disruptive entrants, weighing on aggregate productivity despite high capital intensity among market leaders. …
Despite strong external openness, Canada’s internal market is fragmented by regulatory barriers. Differences in standards, licensing and credential recognition, procurement rules, and marketing regulations create de facto internal borders that restrict the movement of goods and services across provinces. Staff estimates suggest these frictions are equivalent to an average ad valorem tariff of about 9 percent, with barriers particularly high in services often exceeding 50 percent in sectors such as health, education, and retail. These barriers disproportionately affect smaller and more remote provinces by constraining market size and labor mobility. Deepening internal market integration offers among Canada’s highest-return structural reforms. Fully eliminating non-geographic internal trade barriers could raise real GDP by up to 7 percent over time, largely through efficiency gains as resources reallocate toward more productive firms and regions. …
Canada’s innovation performance has declined over the past 15 years (lowest among the G7), despite generous R&D tax subsidies, … R&D subsidies are ineffective when scientific talent is scarce. With a fixed supply of researchers, higher subsidies mainly bid up wages, offsetting cost advantages and limiting gains in technology creation. … Making Canada’s innovation framework effective requires pairing R&D tax support with policies that expand the pool of high-skilled workers—through education, immigration, and skill formation—so that incentives translate into sustained productivity and growth.
There is a tendency for Canadian politicians define themselves relative to US politicians and policies. Blaming foreign influence is always easier than cleaning up one’s one house, on both sides of the Canada-US border. But Canada has its own long-standing internal productivity issues as well.
