June 19, 2025 | The Legacy of Zero Interest Rate Policy: Misallocated Resources

Interest-rate suppression experiments of central banks dominated the world from 2008 to 2022, incentivizing the misallocation of $trillions of resources, record debt, and uneconomical asset prices.

Real estate — the most widely owned and leveraged asset in the world — is one of the most glaring and consequential hangovers, with many areas now drowning in a glut of superfluous spaces driven by outdated technology that fails to capitalize on opportunities for improved efficiency.

North America is mired in a mountain of mindless square footage, built and bought only because ultra-easy credit enabled it. On one end of the spectrum, sub-500-square-foot condos churned out for so-called ‘investors’ armed with credit, greed and little common sense. On the other extreme, the median square footage of single-family homes ballooned 50% to 2400 square feet by 2022 (from 1600 in 1980) even as family sizes shrank. The percentage of those owning more than one personal residence doubled.

Amid the buying frenzy, prices soared far above long-standing affordability norms such as 3x household income. Then, interest rates normalized up toward historic averages, and excessive overhead is now burdening the masses. More and more people are looking to sell, flooding the market with unsold inventory at asking prices that remain uneconomical, so far.

A recent survey from Royal LePage found that 29% of Canadians who plan to retire this year or next say they will carry a mortgage into retirement. Forty-six per cent of respondents approaching retirement say they plan to downsize their home within two years of ending full-time employment. They need willing and able buyers to exit.

Condos are the most popular property type for downsizing retirees. Most are looking to reduce shelter costs while harvesting home equity to help fund retirement. That’s harder to do with weak demand and falling property prices. Wake-up calls are in motion.

It’s not just housing where surplus space has mounted.  As with households, ultra-low interest rates enabled a boom in unprofitable zombie companies that only survive so long as they can keep borrowing and servicing their debt. This helped drive a massive overbuild in office buildings, which is now being corrected through demolitions and expensive conversions to affordable, size-appropriate residential space. Governments/taxpayers are paying up with tax credits to help fund necessary transitions.

In America, the amount of office supply is on pace to contract for the first time in 25 years (CBRE Group data). See Developers Finally Dealing with Office-Oversupply Problem:

Developers—lured by federal tax breaks, low interest rates and inflated demand from unprofitable startups—built more office towers than cities needed. The rise of remote work during the pandemic aggravated this excess supply, causing office-vacancy rates to rise to record highs and building values to plummet.

…Now, the pace of office conversions is picking up, thanks to the rapidly falling prices of obsolete office buildings, changes to zoning rules that allow for more residential construction, and government incentives that help bring down costs. At the same time, more companies are summoning their employees back to the office after years of tolerating remote work, sparking new demand for workspace.

The acceleration of office conversions won’t sharply reduce the overall supply of office buildings any time soon. But conversions are already starting to benefit neighborhoods where they take place. By bringing in new residents, these projects are restoring street life, shopping and entertainment venues where obsolete office buildings used to stand.

In New York City, analysts are forecasting about 40 million square feet of offices to be converted into residential and other uses over the next five to 10 years–double the forecast two years ago, before tax benefits and other government incentives were enacted.

The good news for non-property owners is that rising home supply is helping to push down prices and rents. This is necessary to help improve affordability and productivity, while freeing up cash flow and capital for other necessities.

In Canada, the national average asking rent in May was 3.3% lower than a year earlier at $2,129, marking the eighth consecutive month of year-over-year decreases (Rentals.ca and Urbanation report).

Purpose-built apartment asking rents declined 2% from a year ago to an average of $2,117, while asking rents for condominium apartments fell 3.6% to $2,192. Rents for houses and townhomes declined 7% to $2,196. Still, more declines are needed; over the past five years, rents in Canada have increased by an average of 4.1% annually, outpacing average wage growth of 3%.

The global economy is slowing, and we anticipate that demand for lower interest rates will intensify. But the truth is that ultra-low rates incentivized a massive waste of misallocated resources and financially self-destructive behaviours. It would be smarter not to repeat that playbook. Money is stored energy, and energy is not free. It’s past time to encourage respect for both.

Danielle Park June 19th, 2025

Posted In: Juggling Dynamite

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