The collapse of trade talks between the United States and Canada over the weekend brought new 50 per cent tariffs on $28 billion worth of Canadian exports. In response, Canada said it would match those tariffs in dollar terms starting on Sept. 8.
Although the new tariffs will be applied on only about 5% of Canadian exports, they have unleashed new uncertainty into the marketplace as the possibility of an escalating trade war looms.
While an agreement is always possible, for now businesses have little choice but to plan for a more costly trade environment.
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The new tariffs come on top of existing U.S. tariffs on steel and aluminum, autos and lumber, including items previously covered under the Canada United States Mexico Agreement.
Overall, John Ricco, the deputy director of policy analysis at the Yale Budget Lab, told The New York Times that the new levies would raise the average tariff rate on Canadian imports to about 7.6%, up from about 5.3%.
Not only will the tariffs pressure prices higher, but they will also affect Canadian industrial production.
Since the United States is Canada’s top destination for exports, such heavy tariffs would cause widespread job losses, most prominently in autos, manufacturing, consumer goods, dairy, alcohol and critical minerals.
The unemployment rate has been falling and currently stands at 6.4 per cent. But such sweeping tariffs would certainly lift the unemployment rate.
Inflation will rise, especially as Canada matches the U.S. tariffs. Industries like autos and manufacturing, which have been relying on total integration in their supply chains for decades, will be particularly vulnerable.
The loonie could soften, further adding inflationary pressures.
We expect the Bank of Canada to hold its policy rate at 2.25% in September and through the rest of the year. But with tariffs raising the possibility of a recession, the likelihood of rate hikes is greatly diminished.
Growth will contract just as the economy has started to recover. In July, Canada added 75,000 jobs, and while inflation crept up slightly, to 2.9%, that increase was largely because of gasoline prices and was not broad-based. Under the new tariffs, growth would slow to under 1% this year.
Risk of a trade war
Previously, despite tensions between the U.S. and Canada, both sides avoided an all-out trade war. The current situation is particularly volatile, though, and further escalation would result in more economic damage and create a new shock for the economy.
In particular, Canada could target American industry where it is most vulnerable, like the auto industry, which could add pressure to inflation in the U.S.
The other risk is in business investments. In the past year and a half, Canada has been ramping up interests in investments. Foreign investments currently stand at the highest level in 20 years and will almost certainly drop with tariffs.
One response by Canada has been to aggressively diversify its economy away from the U.S. as it has signed trade deals with other countries. Non-U.S. exports are expected to double by the end of the decade.
Tariff details
The new tariffs are hitting a wide range of industries, and the 50 per cent tariff rate is five times higher than the previous tariff rate on non-CUSMA compliant goods.
Energy, potash and critical minerals would be exempt, but other goods would be hit, including beer, wine, cider, whiskey and hockey sticks.
This is in addition to existing tariffs on steel and aluminum, lumber and cars—tariffs that are substantially higher than they were before the Trump administration.
Small and medium-size businesses could be affected. With thinner cash reserves, they will have less ability to diversify. Some businesses will undoubtedly close, even with government support.
The U.S. demands, which Canada rejected and eventually led to the collapse, were restricting Canada’s ability to sign trade deals with other countries.
The takeaway
While the imposition of 50 per cent tariffs is alarming enough, the biggest issue is the uncertainty over just how far this escalating trade war goes. It’s often said that markets and businesses abhor uncertainty, which is just what the collapsed trade talks have delivered.
