Canadian economy looks set to catch up in 2025

The Canadian and U.S. economies could resume their historic convergence in 2025 after drifting apart in recent years, says Jack Manley, vice-president and global market strategist at J.P. Morgan Asset Management.

Manley said the two economies, which have traditionally been in lockstep, have taken different paths since Covid-19. But with a growing likelihood that inflationary policies will be implemented south of the border, and with the Bank of Canada stimulating the economy north of the border, they could move back into tandem.

“As we move into 2025, the U.S. economy will slow modestly, and some of the issues that have plagued the Canadian economy are going to either get better or continue to get better, which will allow the Canadian economy to play a little bit of catch up,” he said.

Manley pointed out that market reactions to interest-rate moves are generally quicker in Canada than they are in the U.S. because Canadian mortgage terms are shorter.

“In the U.S., with the vast majority of our mortgages being fixed-rate, long-duration instruments, a lot of American consumers have been insulated from the impact of higher interest rates,” he said. “Many Canadian homeowners have been forced to refinance their mortgages at eye-wateringly high levels, which has had a dramatic impact on their ability to consume.”

Manley said if the Bank of Canada continues to cut rates through 2025, it will remove one of the major pain points in the Canadian economy, and consumer spending could propel GDP growth.

“I think the rate story is encouraging as we begin to move through this year,” Manley said.

As for the U.S., immigration and trade policies proposed by the incoming Trump administration look potentially inflationary and could be a challenge to growth.

“So I do think there should be something of a convergence in growth between the U.S. and Canada, with the U.S. slowing down just a little bit, and Canada hopefully picking up speed,” he said.

Manley stressed that the picture could change quickly, depending on how policies play out.

“There is not a lot of clarity on what the policy landscape is going to look like over the course of 2025,” he said, suggesting that the much-discussed tariff threat could prove to be an empty one, an example of political “sabre rattling.”

“A 25% tariff on Canadian exports to the United States would be disastrous for Canada. But it also seems extremely unlikely to actually happen,” he said. “The United States is not allowed to unilaterally levy tariffs on countries with which we have a free-trade agreement.”

Even if tariffs are implemented on Canada, he added, there are diplomatic and monetary strategies to deal with them.

“The Bank of Canada is going to be able to react to that swiftly and maybe even proactively, maybe even preventatively,” he said. “So I think all signs point to continued normalization this year, and there is a very good chance that the Bank of Canada, once again, cuts rates a little bit more than the Federal Reserve does.”

Manley said investor sentiment should improve this year, after negative predictions about the U.S. economy failed to materialize in 2023 and 2024.

“I would say this year investors are going to be cautiously optimistic. Because in 2023 the sentiment was quite negative, right? Everybody thought the U.S. economy would enter a recession, that the Federal Reserve would be forced to cut interest rates, that equity markets would be flat or down. And really none of that stuff happened,” he said. “While there are always going to be risks on the horizon, a lot of the things that worried us as investors over the past couple of years have gotten better as we look into the 2025.”

As for Canada’s muted economic performance in 2024, he says the country shared that experience with much of the developed economies of the world.

“It’s not like Canada was unique in that environment. Canada and many other developed countries were facing the same sets of issues,” he said.

“I would say, looking into 2025, Canadian investors should be cautiously optimistic about the prospects for their own economy, for the U.S. economy, and for economies around the world.”

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This article is part of the Soundbites program, sponsored by Canada Life. The article was written without sponsor input.