As inflation continues to decline, central banks in both the US and Canada are expected to gradually ease monetary policy. However, credit market volatility, geopolitical uncertainties and technological disruption will present significant challenges. Economic outlook and monetary policy In the US, the IMF projected GDP growth to slow to 2.7% in 2025, while Canada’s growth is forecasted at 2.0%. Despite stable growth prospects, the banking industry faces mounting risks from CRE exposure, rising household debt and potential shifts in trade policy under the Trump administration. Meanwhile, Paul Atkins’ nomination as chair of the Securities and Exchange Commission (SEC) signals possible deregulation in capital markets, which could spur fintech growth but also introduce market risks. The Bank of Canada (BOC) gradually lowered its policy rate to 3.25% by the end of 2024. Projections suggest that further cuts could continue into 2025, with rates potentially dropping 2.25% by the end of the year. This trend reflects efforts to ease financial pressures as inflation moderates. The US banking sector is preparing for a shift in monetary policy as the Federal Reserve signals potential rate cuts in response to cooling inflation. After years of aggressive tightening, the Fed has recently reduced the benchmark federal funds rate by a quarter point, bringing it to a range of 4.25% to 4.5%. Inflation has moderated from its peak, with projections indicating it will remain near current levels, slightly above the Fed’s 2% target, at around 2.5% to 2.6% in 2025. However, growth in the US is anticipated to moderate, driven by infrastructure investments and a resilient labour market, but tempered by lingering credit risks. In Canada, the economic landscape mirrors that of the US, albeit with additional pressure from the housing market. The Bank of Canada’s decision to maintain higher rates for much of 2024 was aimed at curbing inflation, but with rates expected to fall further by mid-2025, banks are preparing for renewed lending activity. Yet, concerns persist over the long-term stability of the housing market, as nearly half of Canadian mortgages are set to renew at significantly higher rates, which could elevate delinquencies and impact banks’ mortgage portfolios. For US banks, the prospect of lower interest rates offers opportunities to drive loan origination and stimulate mortgage activity, but this may come at the cost of narrowing net interest margins. Canadian banks are similarly poised to benefit from lower rates but remain wary of vulnerabilities in consumer lending, particularly as high levels of debt persist. The ability to navigate this environment will depend on banks’ capacity to strengthen balance sheets and tighten lending standards in anticipation of potential headwinds. Housing market and consumer debt The banking sectors in the US and Canada face significant challenges as debt levels rise across both economies. In Canada, regulatory priorities are centred around housing market stability. Policymakers are increasing scrutiny on mortgage lending practices, with particular attention to highly leveraged borrowers. Canadian banks, heavily reliant on housing and commodities, are grappling with high levels of household debt, alongside a cooling housing market. Canadian household debt is estimated to exceed 181% of disposable income, placing immense pressure on borrowers as mortgage renewals approach. Despite the anticipated rate cuts, a significant number of Canadian homeowners face looming mortgage renewals in 2025. Approximately 1.2 million fixed-rate mortgages—many originally secured at rates near 1%—are set to renew at higher rates. Even with the BOC’s easing cycle, borrowers may encounter substantial increases in their monthly payments. Some estimates indicate payment hikes of up to 40% for those seeking to maintain their existing amortisation schedules. With an estimated 45% of mortgages set for renewal in 2025, many homeowners are bracing for higher monthly payments, increasing the risk of defaults and straining banks’ mortgage portfolios. Similarly, in the US, defaults in CRE loans are on the rise, driven by weak demand for office spaces and declining property valuations. Banks are responding by tightening credit standards and increasing loan-loss provisions to guard against future impairments. However, the risk of contagion remains, particularly in sectors heavily reliant on real estate and consumer credit. As delinquencies rise, banks must carefully manage their exposure to high-risk sectors while continuing to meet capital adequacy requirements. Regulatory shifts and market implications The return of Donald Trump to the presidency introduces policy uncertainty for the banking sector. While his administration’s focus on extending and expanding corporate tax cuts and infrastructure spending may stimulate short-term economic growth, the resulting fiscal expansion could widen deficits and stoke inflationary pressures in the long term. For banks, this presents both opportunities in terms of increased capital market activity and risks associated with higher public debt levels. The nomination of Paul Atkins as chair of the SEC marks a shift towards deregulation, with a focus on easing restrictions on capital markets and reducing compliance costs. Atkins’ appointment if confirmed is expected to encourage growth in fintech and digital asset markets by fostering a more innovation-friendly regulatory environment. However, this deregulation may also lead to reduced oversight, raising concerns about market transparency and investor protection. For traditional banks, deregulation could enhance competitiveness but may also intensify competition from non-bank financial institutions and fintech firms entering the market with fewer constraints. Trade policy and geopolitical risks Trade policy uncertainties add another layer of complexity, particularly for Canadian banks with significant cross-border exposure. Any potential renegotiation of the US, Mexico and Canada (USMCA) trade agreement under Trump could disrupt supply chains, reducing trade volumes and increasing volatility for banks involved in export financing. Any reintroduction of tariffs, such as a universal baseline import tariff of between 10% and 20%, and up to 60% for Chinese imports, and other protectionist measures could dampen economic activity in sectors such as manufacturing and energy, directly affecting loan performance and profitability. Technological disruption and cybersecurity The increasing digitisation of banking services also exposes financial institutions to heightened cybersecurity risks. In 2024, an increasing number of North American banks reported a rise in cyberattacks, targeting payment systems, customer data and online platforms. As banks expand their digital offerings, the threat landscape grows, necessitating significant investments in cybersecurity infrastructure and artificial intelligence (AI)-driven fraud detection systems. Despite the challenges, there are significant opportunities for growth in the North American banking sector. The acceleration of digital transformation is reshaping banking operations, with institutions leveraging AI, blockchain and cloud technologies to enhance efficiency and improve customer engagement. Leading banks such as JP Morgan and Canadian Imperial Bank of Commerce (CIBC) are at the forefront of this transformation, using AI-driven trading platforms and partnering with fintech firms to expand digital services. An IMF study concluded that continued investment in digital transformation could boost banking sector competitiveness and efficiency in the long term. Sustainable finance and market diversification Sustainable finance is another area of growth, particularly in Canada, where green bond issuances has increased significantly in 2024. In parallel, the government is expanding its green finance initiatives, encouraging banks to increase their issuance of green bonds and sustainable investment products to align with Canada’s climate targets. US banks are also expanding their ESG-linked loans and financing for renewable energy projects, reflecting increasing investor demand for environmentally conscious financial products. These initiatives not only align with regulatory requirements but also open new avenues for revenue generation in sectors poised for long-term growth. Market diversification remains a key strategy for Canadian banks seeking to offset domestic risks. Institutions such as Scotiabank, National Bank of Canada and Bank of Montreal (BMO) are expanding their footprint in Latin America, Southeast Asia and China, respectively, capitalising on faster-growing emerging markets. This regional diversification allows banks to reduce their dependence on domestic markets, providing greater resilience against economic downturns at home. Banking sector resilience and opportunities The banking sectors in the US and Canada are entering 2025 with cautious optimism, as economic moderation, evolving regulations and technological disruption shape the financial landscape. While interest rate cuts and fiscal expansion present growth opportunities, rising debt, cybersecurity threats and geopolitical uncertainty pose challenges. By embracing digital transformation, expanding sustainable finance initiatives and diversifying market exposure, banks can navigate these complexities and drive long-term stability and profitability in the evolving economic environment.
