- Trump’s administration announced the start of tariffs on February 4th.
- Canada and Mexico are ready to respond to Trump’s tariffs.
- Data on Friday showed that Canada’s economy contracted by 0.2%.
Currency futures collapsed on Monday after Trump implemented tariffs on Canada, Mexico, and China, increasing worries about trade wars. Meanwhile, the dollar rallied as the prospects of the US economy improved. On the other hand, the outlook for economies in Canada, China, and Mexico dimmed.
Over the weekend, Trump’s administration surprised investors by announcing the start of tariffs on February 4th. Economists had expected a delay until March. However, Trump is ready to impose a 25% duty on Canada and Mexico as soon as Tuesday. However, these two countries are prepared to retaliate, increasing the risk of trade wars.
These tariffs will significantly reduce US demand for goods from Canada and Mexico. Therefore, these economies will suffer. Notably, Canada exports over 75% of its goods to the US. Thus, weaker demand will lead to a decline in an already fragile economy.
The Bank of Canada has lowered interest rates aggressively since last year to spur economic growth. The rate-sensitive economy started sliding due to high interest rates. As a result, there was massive pressure on the central bank to cut borrowing costs and spur a recovery.
However, demand is still soft. Data on Friday showed that the economy contracted by 0.2%, a significant drop from the previous month when it expanded by 0.3%. Tariffs will push the Bank of Canada to increase the size of rate cuts to stabilize the economy.
Dollar index (Source: Bloomberg)
On the other hand, the US economy will likely flourish as production and demand for local goods surges. Consequently, the dollar soared to new highs. At the same time, inflation might increase as consumer prices jump. This will force the Fed to keep interest rates at restrictive levels. Notably, market participants lowered bets for rate cuts this year after Trump’s tariff announcement.
Furthermore, data on Friday revealed that the US PCE price index increased by 0.3%, indicating high inflation. This resulted from higher consumer spending, easing pressure on the Fed to cut rates. Notably, the central bank kept rates unchanged last week and noted that there was no hurry to lower borrowing costs. Meanwhile, the euro remained weak after the European Central Bank cut rates last week and kept the door open for a similar move in March.
