The first quarter of 2025 has seen a dynamic shift in Canada’s interest rate environment. Inflation, which had been brought back near the Bank of Canada’s 2% target, gave the central bank room to begin easing policy after the aggressive rate hikes of 2022–2023. By late January, the Bank of Canada (BoC) had reduced its overnight policy rate to 3.00%, the sixth cut in a row. Another cut in March brought the rate down to 2.75%, marking a decisive turn toward lower borrowing costs. Fixed mortgage rates have started to edge down in tandem, closely tracking declines in government bond yields.
However, this positive news for borrowers is unfolding against the backdrop of newly imposed U.S. tariffs on Canadian goods – a development that is injecting fresh uncertainty into the economic outlook. This article examines how fixed mortgage rates are trending in relation to bond yields, the influence of trade tensions on inflation and interest rate expectations, and what it all could mean for the remainder of 2025. We also highlight regional sensitivities in British Columbia and Ontario, and explore scenarios ranging from a quick resolution of tariffs to a protracted trade war.
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Fixed Mortgage Rates and Bond Yields in Early 2025
Fixed mortgage rates in Canada are heavily influenced by government bond yields, especially the 5-year Government of Canada bond yield which lenders use as a benchmark for pricing five-year fixed mortgages. In Q1 2025, bond yields have been on a roller coaster, and fixed rates have followed suit. Early in the quarter, yields actually rose on anticipation that inflation might stay stubborn – investors were wary that looming U.S. tariffs could push prices higher. However, once tariff threats turned into reality, the bond market dramatically reversed. Investors, fearing an economic slowdown, rushed into safe-haven government bonds, driving yields down sharply.
On February 3 (the first trading day after the U.S. tariff announcement), the Canadian 5-year bond yield plunged about 14 basis points to the 2.58% range – a low not seen since April 2022. By the time the tariffs officially took effect in early March, the 5-year yield had slipped further into the 2.50% range. This was a significant drop from just weeks prior, when yields had been climbing on trade uncertainty.
The slide in bond yields has directly benefited fixed mortgage shoppers. Lenders typically pass on lower funding costs to borrowers, and indeed many slashed their fixed rates as yields fell. By early March, some of the lowest five-year fixed mortgage offers in Canada were around 3.84%, down from the roughly mid-4% levels seen late last year. In other words, fixed rates reached their cheapest point in years, thanks to the bond market’s reaction to the tariff shock. For context, a 3.84% five-year fixed rate is the most competitive level recorded since mid-2022. Mortgage brokers report that lenders have been quick to adjust rates downward given the volatile market conditions, and borrowers who locked in rate holds during the dip are enjoying significant savings.
It is important to note the tight linkage between bond yields and fixed rates: when bond yields fall, fixed mortgage rates usually follow, and vice versa. The recent plunge in yields exemplifies this relationship.
The decline in yields has narrowed the typical spread between government bonds and mortgage rates, as lenders compete for a smaller pool of qualified borrowers amidst economic uncertainty. However, this window of lower fixed rates could prove temporary if conditions shift again. Financial markets are already bracing for volatility ahead – in fact, analysts describe a “whiplash” in Canada’s bond market, with yields swinging quickly in response to each new data point or trade headline. Should sentiment improve (for example, on positive trade talks or cooling inflation), bond yields could creep back up, potentially taking fixed mortgage rates with them. Borrowers have been advised to act sooner rather than later: securing a rate hold now can protect against future rate upticks.
Trade Tensions, Inflation and Central Bank Policy
The U.S. tariffs on Canadian imports – 25% on most goods and 10% on energy products – introduced a new wildcard for Canada’s inflation and interest rate trajectory in 2025. These tariffs, announced by the U.S. administration in January and implemented (after a brief pause) in early March, are a double-edged sword for the economy.
On one hand, they represent a cost-push inflationary pressure: many Canadian businesses face higher costs to sell into the U.S. market, and Canada’s retaliatory tariffs on U.S. goods (mirroring the 25% rate) mean Canadian consumers will pay more for certain imports. Economists estimate that if the tariff regime persists, Canada’s headline inflation could be roughly 0.7 percentage points higher than it would be otherwise. In other words, inflation, which was around 2% at the start of the year, might rise toward the high-2% range in the coming months. Indeed, some price increases are already in the pipeline – for instance, prices of food (especially perishables like fruits and vegetables) are expected to jump almost immediately due to trade frictions, while goods like appliances and cars would see gradual price hikes over a longer period.
On the other hand, tariffs act as a drag on economic growth. They disrupt exports, dent business confidence, and can lead to job losses in affected industries. Canada’s economy is highly dependent on trade with the U.S., and these tariffs are described by economists as possibly the most significant trade shock in nearly a century.
Major banks and forecasters have sharply downgraded growth expectations for 2025. Unemployment would likely climb (potentially +2–3 percentage points higher than otherwise), and consumer confidence is already deteriorating. The Bank of Canada has noted “pervasive uncertainty” gripping businesses and households, with many firms planning to scale back investment and hiring amid the turmoil. Essentially, Canada now faces a stagflationary threat – simultaneously weaker growth and higher inflation – which puts the central bank in a tough spot.
In normal times, rising inflation might compel the Bank to raise interest rates, but in this case the inflation is coming from a supply-side shock (tariffs) alongside a hit to growth. With inflation still near target and the economy at risk, the BoC has chosen to support growth by cutting rates even as tariffs loom. Governor Tiff Macklem acknowledged that monetary policy cannot counteract the direct price increases from tariffs, but the priority is to prevent those one-off price shocks from turning into persistent inflation through wage-price spirals. “With a single tool – our policy interest rate – we can’t lean against weaker output and higher inflation at the same time,” Macklem explained, underscoring the impossible trade-off.
The Bank’s strategy is to err on the side of growth for now, given inflation had been “happily” at 2% before the tariff drama. In practical terms, this means more rate relief is likely on the way: prior to the tariff shock, the BoC was expected to slow its pace of easing, perhaps only two or three small cuts in 2025. Now, analysts anticipate the Bank may cut at every meeting for the next few quarters, driving the policy rate down toward 1.50% by late 2025 if recession risks materialize.
At the same time, the Bank must keep an eye on inflation expectations. So far, expectations appear to be inching up only modestly. A recent survey indicated roughly half of Canadian businesses expect they’ll need to raise prices if tariffs persist, and short-term inflation expectations among consumers have also ticked higher.
Financial markets likewise foresee above-target inflation for a time – TD Economics, for instance, projects inflation will remain above 2% throughout 2025 before gradually easing back to target in subsequent years. The Bank of Canada’s own forecast, made in January before tariffs were confirmed, had inflation at 2.3% for 2025; this forecast will likely be revised upward in the next Monetary Policy Report if the trade war continues.
Bond markets have interpreted these signals as supportive of lower rates, with yields falling in anticipation of further policy easing. The Canada–U.S. 5-year bond spread widened dramatically, and the Canadian yield curve may begin to steepen as the BoC continues to cut.
For mortgage borrowers, the takeaway is that fixed rates are benefiting from the bond market’s optimism that inflation will not get out of hand. Variable rates, meanwhile, are directly dropping with each BoC cut. Many homeowners with adjustable-rate mortgages have already seen their payments decrease after the latest cut, and more relief is expected as the BoC slashes further.
Regional Sensitivities: British Columbia and Ontario
Across Canada, the effects of interest rate changes and trade uncertainty are not felt evenly. In British Columbia (B.C.) and Ontario, in particular, the housing markets and broader economies are highly sensitive to interest rate movements. These two provinces contain Canada’s priciest real estate markets – notably Vancouver and Toronto – which means households carry larger mortgages and higher debt loads. In fact, B.C. stands out with the highest average household debt burden in the country, largely due to its lofty home prices. This makes B.C. “uniquely sensitive to interest rates.”
Even a small change in mortgage rates can significantly impact affordability and monthly payments for B.C. homeowners. Over the past year, many B.C. borrowers have experienced a painful “rate shock” upon renewing their mortgages, as they moved from the ultra-low rates of the late 2010s/early 2020s to the much higher rates of 2023. Now, with rates finally easing, there is some relief in sight – those renewing in 2025 are generally seeing interest rates about a full percentage point lower than the peak in 2024, which helps alleviate the strain.
Ontario’s housing market is similarly interest-rate sensitive. Ontario’s central markets, such as the Greater Toronto Area, have been particularly challenged by the period of elevated mortgage rates. Over 2022–2023, home sales and prices in Toronto fell more sharply than in many other parts of Canada when rates spiked. Now, with borrowing costs inching down, there is pent-up demand ready to return – but buyers remain cautious.
Affordability is still stretched, and now a softer labour market and trade uncertainty are giving buyers pause. The Canadian Mortgage and Housing Corporation (CMHC) notes that the most unaffordable markets like Ontario and B.C. are likely to see sales stay below their 10-year averages in the near term despite improved mortgage rates, because economic uncertainty and past price gains have kept many buyers on the sidelines. By contrast, provinces with better affordability (e.g. Alberta, Saskatchewan) are expected to see much more robust homebuying activity in 2025.
A recent forecast from TD Economics projects that average home prices in 2025 will fall the most in Ontario (‑6.4%) and B.C. (‑4.1%), larger declines than any other province. These steep drops are attributed to “muted demand conditions” in those provinces and a supply-demand balance that currently favours buyers. Notably, within Ontario, the condominium segment in the Toronto area is singled out as particularly soft – an excess of new condo supply and investor-owned units is weighing on prices.
B.C. and Ontario also stand to be disproportionately impacted by the U.S. tariffs in terms of specific industries: Ontario’s manufacturing sector (especially auto production in Southern Ontario) is directly in the crosshairs of U.S. trade actions, and B.C.’s export sectors (forestry, and to some extent energy through oil/gas shipments) face collateral damage from trade barriers. Should factories scale back or mills lay off workers due to lost U.S. sales, the resulting job losses would hit local housing markets and consumer spending in those provinces more than elsewhere.
In essence, Ontario and B.C. are at the epicentre of both Canada’s housing affordability challenge and its exposure to trade shocks. Still, there is upside potential for these regions if conditions stabilize. Both B.C. and Ontario have significant housing demand fuelled by population growth and economic diversity. CMHC’s base outlook for 2025 predicts a rebound in home sales and prices nationally – including in Vancouver and Toronto – once borrowing costs come down and buyers adjust to the new normal.
Policy changes such as higher insured mortgage caps (recently introduced by Ottawa) are also aimed at helping more buyers qualify, which could particularly aid first-time buyers in expensive cities.
Scenarios for the Remainder of 2025: What If Tariffs End or Escalate?
At this juncture, multiple scenarios are possible, and market participants are watching trade developments closely. Below we outline two main scenarios – one optimistic and one pessimistic – along with their implications:
Rapid Resolution Scenario (Tariffs Short-Lived):
In this scenario, ongoing negotiations bear fruit and the U.S. tariffs on Canadian goods are lifted by late spring 2025. The tariff war would be brief, and Canada might avoid a full-blown recession. Inflationary pressure would be modest and short-lived, and the BoC could pause further cuts. Fixed mortgage rates could tick up slightly, but would remain relatively low. Housing activity in B.C. and Ontario would likely rebound as confidence returns.
Protracted Trade War Scenario (Tariffs Sustained):
In this more pessimistic scenario, the U.S.-Canada tariff battle drags on for most or all of 2025. A Canadian recession becomes increasingly likely. GDP could contract significantly. Inflation, paradoxically, could rise above target due to persistent import cost increases. The BoC may cut rates aggressively, possibly down to 1.50%, with fixed mortgage rates falling into the low-3% range. Housing markets in B.C. and Ontario may struggle further due to job losses and consumer hesitation, although lower rates would cushion some of the impact.
Middle-ground outcomes are possible as well – such as temporary or partially reversed tariffs – which could result in a softer economic slowdown and a more moderate interest rate path. Analysts generally expect further BoC rate cuts, but not a return to the rock-bottom levels of the pandemic era.
Conclusion
As Q1 2025 draws to a close, Canada’s mortgage landscape is being pulled in opposite directions by easing domestic monetary policy and rising external risks. Fixed mortgage rates have fallen from their recent peaks, offering welcome relief for borrowers. Yet this improvement comes amidst an atmosphere of uncertainty, driven largely by U.S. trade policy.
The relationship between fixed rates and bond yields remains key. Should bond yields rise on optimism, fixed rates may follow. But if recession fears deepen, yields could fall further.
British Columbia and Ontario will serve as bellwethers in the months ahead. Their sensitivity to interest rates and trade disruptions will determine how quickly markets stabilize. Professionals across real estate and finance should be prepared for a fluid environment, where adaptability and up-to-date insights are essential.
For now, the prudent move is to take advantage of today’s lower rates while preparing for a range of future outcomes. Whether the tariff storm dissipates or intensifies, Canada’s economy and housing market will adjust – and those best informed will be best positioned to navigate the changes ahead.
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