Canada's largest province is capping increases for rent-controlled apartments at 2.5% for 2024, well below Ontario's average inflation rate of 5.9%.

Economists said the move prevents landlords from keeping up with rising costs for everything from property taxes to hydro to maintenance, but the ruling Conservative government appears to be sending an olive branch to inflation-weary consumers.

"Our government knows the cost of living continues to be a challenge for many Ontarians, including renters, which is why we are holding the rent increase guideline at 2.5%," said Steve Clark, municipal affairs and housing minister, in a statement.

Five of Canada's 10 provinces have some form of rent control, while in Ontario, the guideline is the maximum amount a landlord can increase the rent during the year for most tenants without the approval of the Landlord and Tenant Board. It impacts approximately 1.4 million rental households but does not apply to rental units occupied for the first time after Nov. 15, 2018, or vacant residential units.

The guideline is based on Ontario's Consumer Price Index, a measure of inflation calculated by Statistics Canada using data that reflects economic conditions over the past year.

It is the second straight year Ontario has announced a guideline increase below the inflation rate, capping it at 2.5% in 2023 despite inflation running at 5.3%. During the pandemic, the government froze rental increases in 2021 and raised the rate to 1.2% in 2022.

Doug Porter, chief economist with the Bank of Montreal, said the 2.5% increase would not cover growing landlord costs.

"The last thing government policymakers want to do is inflate inflation even more by setting a higher guideline," said Porter in an interview with CoStar News. "You almost entrench inflation. But that is an awfully modest increase."

The move comes as rent continues to skyrocket nationwide, with Ontario a leader. The average asking rent in the province in May was $2,409 for all apartments, up 12% from a year ago, according to rentals.ca.

Porter said the investment market has probably priced in the political reality that a guideline increase would be below the inflation rate.

"Any builder or potential landlord would be looking at the modest increase they may get in the years ahead," said the economist.

Ontario landlords can still get rents above the guidelines based on capital improvements. Landlords in Canada's largest market can also increase rents to whatever they want after a tenant moves up, but rising rents are reducing tenant turnover dramatically across the province.

Carl Gomez, chief economist and head of market analytics at CoStar, said the biggest driver of costs had been the Bank of Canada increasing rates which has driven up mortgage costs for landlords by 30%.

"This means that rent-controlled rents are even more so below market. Rents should keep pace with ownership costs from a fundamental standpoint. Th,ey don't, given the rise in mortgage payment costs," said Gomez.

Marcus and Millichap already warned in its outlook for 2023 that rising costs were continuing to impact much-needed supply in the rental market.

"Amid an expectation of enduring renter demand this year, new supply is likely to remain scarce. Rising construction costs, due to supply chain bottlenecks, labour shortages and government initiatives, have caused developers to question the feasibility of new projects," said the real estate company in a report.