Monetary Easing Cycle Has Commenced: Interest Rates in the Shadow of Economic Results

We’re very happy to report the Bank of Canada has begun lowering their policy rate now that inflation numbers are coming back to a comfort level and economic activity is largely at a standstill. In June and again in July, the Bank of Canada reduced their policy rate 0.25% (25 basis point) to the current rate of 4.50%. It is expected they will reduce 0.25% at each of the remaining announcement dates in 2024, being September 4^th, October 23^rd and December 11^th, to bring their rate down 3.75%.

Again, this is welcome news to all of us who invest in interest rate sensitive assets such as real estate and we should see further good news on this front as the market is projecting further policy rate cuts throughout 2025 with the consensus advising of policy rate ending at ±3.00%.

With this in mind, there are a number of interrelated items that are important to discuss as they materially impact short-term (Variable, 1 and 2 year) and long-term (5, 7 and 10+ year) interest rates, which are:

1. Long-term interest rates (think 5 year fixed rates) outlook
2. Canada’s economy is sputtering
3. Sustained recovery (economic and real estate) is several years away

Long-Term Interest Rate Outlook

As the saying goes, “the trend is your friend”, and we’ve experienced a strong reduction in long-term interest rates over the past 12 months. The 5-year Government of Canada Bond yield (which is what most 5-year fixed mortgage rates are based off) has dropped from 4.25% last October and we’re now hovering at the 3% mark. With the historical average lender risk premium of 2.00% (200 basis points) over the bond yield, we’re now solidly below 5.00% for 5-year fixed rate mortgages.

Going back over the past several decades, the average 5-year fixed rate mortgage is ±4.50% so we’re now within 0.50% (50 basis points) of the long-term average. What this means is the mortgage market has already shifted greatly and purchasing new commercial properties and/or refinancing existing mortgage debt should be moved to the front burner. There is great opportunity in the next 12 to 24 months to acquire good properties at reasonable prices with acceptable financing terms.

Regarding where we expect interest rates to go in the future, the trend appears to tell us interest rates will continue to drop over the next 12 months leading to lower rates in 2025/2026.

Canada’s Economy is Sputtering

Three items to discuss are the current “per capita recession”, labour productivity weakness and how much the public sector has expanded over the past 10 years since the Trudeau Liberal Government came to power.

Regarding the “per capita recession”, Canada has brought in a lot of new people into the country, but these new entrants haven’t been able to contribute meaningfully to economic growth. What this means is Canada (as a whole) is less wealthy today than in years past.

A bigger question is, when would Canada have entered into a true recession over the past years without the consumption spending of those new to Canada?

Regarding Canada’s productivity levels, we’ve been steadily declining since Covid. Tied with an increasing population, this is another measurement which advises Canadians are less wealthy today then we were in years past.

Regarding public sector expansion, Canada’s levels of government have expanded at a much greater rate than our private sector and self-employed sector. This is clearly something that should concern us all as it means we’re having to support bigger government within a declining productivity workforce.

At some point, this is not sustainable and Canada’s economy will have to balance itself.

Sustained Recovery Years Away

What we wanted to end off with is the thought that our economy is likely much weaker than what is published by all levels of government and the repercussions of our recent spell of high interest rates are likely going to take many years to work themselves out.

For those investing in real estate, this economic weakness should lead to a more stable period of lower interest rates as we’ll need a longer period of lower interest rates to get our economy back to any semblance of strength.

It’s going to be bumpy, but we’re always the optimists at Impact Commercial. Canada is a great place to live and invest in. Let’s just all do a better job of putting our economy and leadership in a growth mindset so we can prosper at a level we all want and need!

Written by Alan Haigh of Impact Commercial for William Wright Commercial