Economy

Despite modestly lower economic growth forecasts as a result of immigration curbs, the longer term outlook remains solid compared to the G7 and favourable for Canadian commercial real estate demand over the long term.

Trends to Watch

1. Economic growth in Canada is expected to be lower, albeit only modestly, for the next few years as a result of the recently announced immigration curbs.
2. Interest rates are set to continue falling in 2025 as the Bank of Canada looks to bring its policy rate back into the neutral range.
3. For the next five-year period, Canada’s growth metrics are forecast to remain strong relative to the G7 which will be favourable for long term commercial real estate demand.

Immigration curbs to modestly cut Canada’s economic growth outlook

Following two years in a row of record high levels of population growth, the Canadian government has announced new measures aimed at slowing the number of new entrants over the next couple of years. The changes planned are mainly two-fold involving material reductions to the temporary and permanent resident programs.

Temporary residents have been a significant driver of Canada’s outsized population growth over the last two years, surging by nearly 1.5 million people over 2023 and 2024. In response, the federal government has established targets for the first time to lower the share of temporary residents to 5.0% of the population from its current level of 7.3% within a couple of years. For permanent residents, the government has reduced its acceptance targets from 500,000 annually down by over 20% across all its intake streams for the next two years.

The net effect of these policy changes, if fully realized, is expected to lead to modest declines in the population in 2025 and 2026. This would have wide-reaching implications for the economy and growth outlooks have been downgraded accordingly. However, many economist groups are not confident that the federal government will be able to quickly and successfully implement all of their announced changes. As a result, the revisions to economic growth have mostly been modest with Oxford Economics cutting Canada’s average annual gross domestic product (GDP) growth for 2024 to 2028 by 30 basis points (bps). While GDP for 2024 is on track to grow by 1.0%, falling well below the historical trend, it is expected to gradually strengthen thereafter. However, declining productivity levels are also a concern for durable long term growth in Canada that will need to be addressed.

Interest rates are on track to continue falling in 2025

The Bank of Canada has been consistently cutting its policy interest rate since June 2024, cumulatively lowering the interest rate by 125 bps to 3.75% to date. This shift towards loosening monetary policy comes as the central bank tries to navigate a ‘soft landing’ for the Canadian economy now that inflation has fallen back to target. In fact, the Bank of Canada has been explicit with its forward guidance that interest rates will continue to decline further as long as the inflation outlook progresses as expected. The goal is to bring the policy interest rate to the neutral range of between 2.25% and 3.25%, the hypothetical range where interest rates are supposed to be neither restrictive nor stimulative for the economy.

Speculation has been rising that the Bank of Canada may need to accelerate its pace of interest rate cuts in order to quickly get to the neutral range. With inflation already at its target level, there is little reason for the central bank to keep interest rates at its current, still-restrictive levels. As well, the Bank of Canada has started to express concerns that inflation could be at risk of falling below target if the economy ends up slowing more than expected. As a result, the current median projection of the major Canadian bank economist groups forecast the policy interest rate will drop to the lower end of the neutral range of 2.25% as early as Q2 2025. This would mean about 100 – 125 bps of interest rate cuts is expected over the first half of 2025.

However, if economic growth does not recover and ends up weaker than expected, this could necessitate lower and more stimulative interest rates from the Bank of Canada.

Overall, as the policy interest rate continues to fall to the neutral range, this should further ease macroeconomic constraints and promote stronger, more durable growth for the Canadian economy.

In the longer term context, population growth remains strong and positive for real estate demand

Despite the recently announced immigration curbs, Canada’s population growth over the next five-year period is still expected to be strong relative to the G7. The current outlook from Oxford Economics forecasts population growth to 2029 in Canada to average 0.5% annually, second among the G7 only to the United Kingdom which has a marginally faster growth rate. While curbs have been placed on temporary residents and immigration targets have been lowered, they are still positive on a gross basis and expected to remain a net positive over the long term given Canada’s aging demographic. In the context of longer term population growth, the modest potential declines in population over 2025 and 2026 can be viewed as more of a short term correction and not a fundamental change to Canada’s long term outlook. When combining the outsized population growth of the last two years with the slower forecasts for the next three years, the average annual growth rate for this 5-year period is 1.3%, effectively in line with the 50-year historical average of 1.2%.

Over the long term, a growing population ultimately means more workers and office space requirements, higher levels of consumer spending that drives retail and logistics demand as well as the need for more housing including rental. Real estate demand is highly correlated with population growth and a continued strong outlook is positive for the long term prospects of the Canadian commercial real estate market.