Canada and Mexico Focus
Global markets are once again on edge as trade tensions between the US, Canada, and Mexico escalate. After months of uncertainty, the implementation of sweeping 25% tariffs on Canadian and Mexican imports has reignited fears of economic disruption, supply chain instability, and policy-driven volatility. With Canada and Mexico heavily dependent on US trade, how will this unfolding trade war affect the Canadian dollar and Mexican peso?
US Tariffs
5th November 2024 – Donald Trump elected president
Markets initially reacted strongly to Trump’s re-election, pricing in the inflationary im-pact of the tariffs he had vowed to implement, driving a sharp rally in the US dollar. Tariffs increase the cost of imported goods, pushing up prices for domestic consumers and businesses, which in turn fuels inflationary pressures. As a result, markets expected the Federal Reserve to keep interest rates higher for longer to contain inflation, reinforcing dollar strength.
In the period from Trump’s re-election to the inauguration as president, anticipation of supply chain disruptions and rising import costs due to expected tariffs pushed the dollar higher with the Dollar Index reaching 110 in mid Jan 2025, its highest level since 2022, as investors positioned for prolonged monetary tightening.
20th January 2025 – Presidential inauguration
The tariff momentum, which was pushing the dollar higher since the elections, stalled as no tariffs were announced in the first few days in office. Dollar started softening.
1st February 2025 – Tariff announcement
Trump issued executive orders directing the United States to impose 25% tariffs on imports from Canada and Mexico to take effect on February 4, 2025. The tariffs were to apply to all imports except Canadian energy resources exports, which were to face a 10% tariff instead.
4th February 2025 – Last-minute 30-day pause
The dollar soared, with USDCAD and USDMXN jumping close to 21.3 and 1.48, respectively. However, just hours before tariffs were set to take effect, Trump agreed to a 30-day pause, temporarily delaying the planned tariffs on goods from Canada and Mexico. This triggered a strong correction, bringing USDCAD and USDMXN lower as investors grew increasingly sceptical of Trump’s ability to fully enforce his trade threats.
4th March 2025 – Tariffs take effect
Market sentiment began to shift, with investors reassessing the broader economic consequences of trade restrictions rather than just inflationary effects. By March 4, when the tariffs took effect, the market reaction was far more muted, signalling that much of the risk had already been priced in and that scepticism over Trump’s ability to implement his full trade agenda was increasing. This shift in sentiment extended beyond FX markets. Initially, each trade policy announcement triggered sharp reactions, but as uncertainty around implementation grew, investors became less responsive, focusing instead on actual policy execution. The fading impact of tariff headlines was also reflected in commodity markets—gold, which had surged to record highs on inflation fears, began retreating as concerns over prolonged trade disruptions eased.
US Trade Balance vs import price index mom
US trade balance started decreasing sharpy in Q4 2024.
Source: US Census Bureau, Bureau of Labour Statistics
6th March 2025 – Exemption of USMCA-covered goods
Trump’s tariff war with Canada and Mexico has unfolded in phases, marked by announcements, delays, and exemptions, adding to market uncertainty. On March 6, just two days after implementing tariffs, Trump temporarily exempted USMCA-covered goods until April 2, further clouding the outlook. Meanwhile, March 12 remains a key risk event, with 25% tariffs on steel and aluminium still set to take effect—a major threat to Canada, which supplies 52% of all US aluminium imports. The UAE, the second-largest aluminium supplier, accounts for just 6% of US imports. Given Canada’s dominant role in the US aluminium market, we expect it to be exempt from the tariffs.
As the trade war unfolds, initial panic has given way to scepticism, with markets now questioning whether Trump’s full tariff regime will materialise. Volatility has subsided, and price action is becoming more data-driven, with traders focusing on economic fundamentals rather than policy speculation. However, for economies directly affected by the tariffs, the risks remain substantial.
Canada
US Imports from Canada 2024
Source: US Census Bureau
Scenario 1: Tariffs Are Implemented as Planned
If trade tensions persist and tariffs remain in place, Canada’s economy will likely face significant headwinds, particularly in export-driven sectors like autos, metals, energy, and manufacturing. With 78% of exports heading to the US, the additional cost burden on Canadian goods will likely weaken demand and disrupt supply chains.
The March 12 steel and aluminium tariffs remain a major concern, as Canada is the largest supplier of aluminium to the US. In response, Canada has imposed CAD 30 billion in counter-tariffs, further straining trade relations and raising costs for businesses. The uncertainty has already dampened investment, with firms delaying expansion and hiring decisions until more clarity emerges.
The longer tariffs remain in place, the greater the risk of economic slowdown and job losses. Canada could lose 510,000 jobs (~2.5% of its workforce), with wages declining by 4.9%, further weighing on domestic consumption. Even if tariffs are lifted later, business confidence is unlikely to rebound immediately, meaning investment and hir-ing will remain weak throughout the year. Recession risks increase the longer trade tensions remain unresolved.
The Bank of Canada (BoC) faces a difficult policy environment. Retaliatory tariffs and CAD depreciation are expected to drive inflation up by 4.2 percentage points, but weak demand and slowing growth could limit the extent of price pressures. The BoC has al-ready cut rates by 200bps since June, bringing them to 3% in January, with another 25bps cut widely expected this week. If tariffs persist, we could see up to four addi-tional cuts by July, bringing rates below 2%. However, inflation from tariffs and CAD weakness limits how aggressively the BoC can ease.
If the BoC continues cutting rates aggressively—potentially dropping below 2% by mid-year—while the Fed holds firm, widening interest rate differentials could push USDCAD above 1.46, possibly retesting February highs.
Our Outlook:
USDCAD Scenario 1:
Source: Bloomberg
Scenario 2: Canada Secures an Exemption from Tariffs
If Canada secures exemptions from tariffs, the economic damage would be significantly reduced, and investor sentiment toward CAD could improve. The removal of trade uncertainty would likely support business confidence, encouraging investment and hiring to rebound faster than expected. The autos, metals, and manufacturing sec-tors—which are highly exposed to US trade—would avoid major disruptions, allowing Canada’s Q4 economic momentum to continue.
A tariff exemption would also relieve pressure on the BoC, potentially reducing the need for aggressive rate cuts. While another 25bps cut remains likely in the near term, a more stable trade environment could prevent additional easing beyond mid-year, keeping rates closer to 2.5% rather than falling below 2%.
Other supportive factors, such as stronger oil prices and fiscal stimulus, could also help stabilise CAD. If global demand picks up and energy prices remain firm, CAD could find support, helping USDCAD trend lower. In this case, if trade tensions ease, market confidence recovers, and fiscal stimulus supports growth, USDCAD could move toward the 1.41–1.42 range.
Our Outlook:
USDCAD Scenario 2:
Source: Bloomberg
Mexico
US Imports from Mexico 2024
Source: US Census Bureau
Scenario 1: Tariffs Are Implemented as Planned
If 25% tariffs on all Mexican imports take effect, the Mexican economy would come under substantial strain, given its heavy reliance on US trade, with 83% of exports flowing north. The autos, electronics, and manufacturing sectors—deeply embedded in US supply chains—would bear the brunt of the disruption. Meanwhile, the energy sector, already struggling with declining oil production, would face additional pressure. With GDP growth slowing to just 0.9% in Q4 2024, the added burden of trade restrictions would likely exacerbate the downturn, further weighing on investment sentiment and consumer spending.
According to projections from the Global Trade Analysis Project model, labour market impact would be severe, with job losses projected at 2.2 million (3.6% of the workforce) and wages declining by 7%, further weakening domestic demand. Unlike in Canada, where tariffs are expected to fuel inflation, Mexico would likely see inflation decline by 6 percentage points due to a broader economic contraction and weaker consumer demand.
Banxico has already cut rates to 9.50% and is expected to ease further with a 50bps cut in March. However, if tariffs further weaken demand, the central bank may accelerate its rate-cut cycle, diverging from US monetary policy. If Banxico is forced into deeper rate cuts while the Fed holds firm, widening interest rate differentials could push USDMXN above 21.0, particularly if investors shift capital out of Mexico due to heightened uncertainty.
Our Outlook:
USDMXN SCENARIO 1:
Source: Bloomberg
Scenario 2: Mexico Secures an Exemption from Tariffs
If Mexico secures exemptions from the proposed tariffs, the negative economic impact would be considerably reduced. Key export industries, including autos, electronics, and manufacturing, would avoid major cost pressures and supply chain disruptions, stabilising both investment sentiment and domestic demand. This would help preserve Mexico’s fragile growth momentum, preventing a deeper slowdown from the already weak 0.9% GDP growth in Q4 2024.
A tariff exemption would also ease pressure on Banxico, likely allowing the central bank to cut rates at a more measured pace rather than rushing into aggressive easing. While a 50bps cut in March remains likely, Banxico may hold off on further deep cuts if the economy stabilises and inflationary risks reemerge. Investor confidence in Mexican assets could improve, supporting the peso and limiting the upside in USDMXN.
If trade tensions de-escalate and market sentiment improves, USDMXN is likely to remain rangebound between 20.0 and 21.0. However, if the US economy weakens and the Fed is forced into deeper rate cuts, USDMXN could break below 20.0, benefiting from narrowing rate differentials and a weaker dollar.
Our Outlook:
USDMXN Scenario 2:
Source: Bloomberg
Desk Comments
GBP
GBP traded positively, breaching the highs from December as consumer and business confidence have shown signs of improvement, supporting hopes for stronger economic growth despite global uncertainties. Dollar sentiment continues to weaken as markets digest Trump’s recent action on tariffs, which has also aided GBP price action.
BOE’s Mann slightly softened her stance on the more aggressive easing stance, outlining ‘rates need to remain restrictive’, 50 bps of cuts is now priced for the rest of the year and likely to follow global moves with a higher for longer outlook.
However, Rachel Reeves cautioned that a global trade war—even if the UK avoids direct tariffs—would still hurt UK growth and drive up inflation. She reaffirmed her commitment to free trade and expressed optimism about securing a favourable UK-US trade deal, emphasizing the £300 billion in annual trade between the two nations. Reeves also underscored the challenges posed by slowing global trade, weaker GDP growth, and rising inflation, all of which could impact the UK economy.
On the UK political backdrop… the March fiscal statement is approaching and will likely attract significant attention – The Chancellor has indicated that this Spring Forecast will not introduce significant tax policy changes, in contrast to the EU, which appears to be shifting towards fiscal expansion. While this might create a negative narrative around the UK, we believe the stance will shift slightly to incorporate an increase in defence spending which may be challenging but ultimately necessary for the chancellor.
EUR
ECB’s March rate decision was to cut by 25 basis points and with markets beginning to see the April rate decision as less of an assured cut we could see the EUR stay buoyant due to their governing council having already cut the bench mark rate by 150 basis points, the ECB no longer feel the urgency for another cut at the next meeting due to the bench mark rate being described as “meaningfully restrictive” compared to what it was this time last year. Although there was a general consensus to cut within the gov-erning council at this meeting there are suggestions that more members may lean to-wards at least a pause in rate cuts at the April meeting. This contrasts with the FED’s rate path as they plan to accelerate cuts to boost growth, this divergence in rate plans led to a move in EURUSD, which saw the EUR up more than 4% against the dollar.
Following president Zelensky’s explosive visit to the white house in February we have seen a push towards heavier defence spending across the Eurozone leading to the EU looking for new financing mechanisms to fund such spending as well as Germany re-laxing their debt brake. This shift in focus within the Eurozone led to European equities outperforming the US, driven mostly by defence stocks.
Following on from the elections in Germany the new government has proposed signifi-cant easing of fiscal policy through increased investment in both the public and de-fence sectors as well as the above-mentioned move to relax the countries debt brake. If these changes are approved in parliament (which is seen as likely as of now, due to support from Germany’s Green party) they would likely generate growth within the country which would positively impact Germany’s economy.
GBP and EUR vs the Dollar
EUR and GBP started the year trading upward.
Source: Bloomberg
USD
The US dollar has experienced a significant decline, marking its worst start to a year since 2008. Markets anticipate a more dovish approach to rate cuts by the Federal Re-serve, with up to three cuts expected by year end, compared to one and a half cuts priced in a couple of weeks ago. Employment data printed lower than expected, which further spurred conviction FED may have to usher the next rate cut earlier than expected.
Geopolitical uncertainty is the main driver towards USD weakness. Market volatility, inflation worries, and aggressive tariff policies are sparking fears about US economic stability, supported by the mixed US economic data recently. Trump has downplayed business concerns over tariff uncertainty, refusing to rule out the possibility of a recession or higher inflation. He described the situation as a ‘transitional period as wealth shifts back to America’. Despite market volatility and rising prices, he reaffirmed that tariffs could increase further in the future. The US tariffs on goods imported from Mexico and Canada were initially raised to 25%, but within a week, Trump had signed orders that exempted most goods until early April. We are seeing a reduced market reaction and lower vols on tariff chatter due to the continued delays.
The retaliatory measures from other nations on the US could also be reason for investors seeking safer assets outside the US, the 10-year Treasury yield has fallen recently, and S&P has declined on concerns about future economic growth and the uncertainties surrounding the administration's trade policies.
The new administration had bilateral talks with Russia excluding Ukraine and Europe from the discussions then caused further tensions when President Trump and VP Vance had a heated debate with Ukraine's President Zelensky in the White House, accusing him for a lack of appreciation towards America. Talks are set to continue this week, while the US is pushing for peace, its approach has divided opinion, highlighting the diplomatic complexities of resolving the conflict.
US Initial Jobless Claims vs Unemployment Rate
US labour market remains resistant.
Source: Department of Labour, Bureau of Labour Statistics
Technical Analysis
EURUSD
EUR/USD momentum is driving the pair toward the 200-week moving average (1.0875), which has so far limited further upside. A sustained break above this level could shift focus to the double top and upper channel resistance at 1.1210. However, with the pair nearing overbought conditions, a potential short-term pullback could see support at 1.0530 come into play.
GBPUSD
Market volatility, inflation concerns, aggressive tariff policies, and geopolitical risks have driven a notable decline in the U.S. dollar. GBP/USD has staged a strong rebound from its January lows, encountering resistance at the 61.8% Fibonacci retracement of the 1.3434 high to 1.2100 low, around 1.2924. A weekly close above this level could open the door for a move toward 1.3050, followed by last year’s highs at 1.3435. On the downside, the 200-day moving average (1.2685) is expected to provide key support and limit bearish momentum.
