By Reshma Kapadia
President Donald Trump made his tariff threats a reality on Saturday, starting a trade war as Canada and Mexico announced their own retaliatory measures.
The biggest hits targeted America's closest trading partners and friends, with Trump announcing 25% tariffs on Canada and Mexico -- with only 10% on Canadian oil exports, effective Tuesday. He imposed a 10% levy on all Chinese good. The justification: a national emergency from illegal migration and fentanyl flows from the countries, he said.
The leaders of Canada and Mexico vowed to work together and unveiled their own retaliation plans. While Canada and Mexico are more dependent on U.S. exports than the U.S. is on them, the moves could hit certain U.S. sectors and pocketbooks hard.
Canadian Prime Minister Justin Trudeau announced plans for tariffs on $155 billion of U.S. goods, starting with $30 billion on Tuesday. Provinces took their own steps, with British Columbia banning sales of U.S. alcohol from Republican-controlled states. Nova Scotia said it would pull all U.S. alcohol from its stores.
Mexican President Claudia Sheinbaum said she had ordered a "Plan B" response including tariff and non-tariff measures. China said it would lodge a complaint with the World Trade Organization. Trump in his executive order warned that retaliation risks higher tariffs.
The U.S. Dollar Index closed Friday at $108.49 and the S&P 500 closed down 0.50% at 6,040. Mexican and Canadian stocks could see more volatility. Both closed down on Friday, with the iShares MSCI Mexico ETF down 2% at $48.98 and the iShares MSCI Canada ETF down 1.3% at $41.22.
The developments upend the trade liberalization that has dominated for decades. The tariffs Trump announced will hit roughly 40% of all the U.S. imports and will likely rattle markets. Wall Street will now have to reassess expectations on how central tariffs are to Trump's policy priorities and the longer term impact on the economy and markets.
Up until Trump launched the trade war, investors had largely viewed the tariff threats as bluster, a tool for dealmaking, at least in the near-term. Plus, China -- not America's closest trading partners and allies -- was expected to be the biggest target. China, after all, is sitting on the largest trade deficit with the U.S. -- one of the points Trump often has pointed to in his call for tariffs.
The hit to markets will depend on what comes next -- how Trump responds to retaliation, whether tariffs are lifted swiftly in response to dealmaking, and what's to come on other trade fronts.
Some analysts say the markets weren't prepared for the upheaval. "The currency markets will have massive move as the Mexico and Canada moves weren't expected," says Jens Nordvig, founder of Exante Data via email. "Then the question is if the equity market can handle it." Rebecca Patterson, former chief investment strategist at Bridgewater and independent director at Vanguard, says this opening salvo will increase inflation uncertainty and "make the Fed more cautious about its next policy decisions." More uncertainty about growth could lead consumers and businesses to move more cautiously, she adds, and will be reflected in higher bond term premiums, "and less optimism about equities, especially those industries most exposed to tariffs. I also would expect the dollar to strengthen. " How these tariffs will hit consumers and impact the Fed's inflation fight will be front and center. While the administration has noted that Trump's tariffs in his first term didn't raise inflation, the backdrop was different -- and companies were able to substitute Mexican imports for Chinese imports -- something companies won't be able to do this time given the scope of the tariffs, says Derek Scissors, a senior fellow at the American Enterprise Institute. Plus, Capital Economics estimates these tariffs alone are about three to four times the size of the original 25% imposed on roughly half of Chinese imports in 2018 and 2019.
These tariffs also hit a wider swath of goods that tend to color consumers' views on inflation -- lumber, electricity, auto parts, heavy crude that impacts gasoline prices, household appliances and grocery staples -- and hit at a time Americans are already sensitive to high prices.
"Most immediately, Americans will see food prices rise. Mexico is the source of around half U.S. fruit and vegetables. Gas prices, especially in the Midwest, may also rise," says Marc Chandler, chief strategist at Bannockburn Global.
The White House didn't extend any exemptions for this batch of tariffs. That could create "meaningful pressure" on U.S. production, hitting not just the auto sector but also new infrastructure projects, says Rachel Ziemba, adjunct senior fellow at the Center for a New American Security.
For China, the hit isn't that hard, especially as the country has spent much of the last eight years trying to reduce its reliance on exports to the U.S., even as its dependence on exports has increased. Some analysts expect China to respond by weakening the yuan to absorb the tariff hit. They also caution that investors should prepare for this to just be the beginning.
"This is more of a slap than a gut-punch for China," says Louis-Vincent Gave, co-founder of Gavekal Research via email. "For Canada and Mexico, this is far more problematic. They have spent the past few years totally tying their economies to the U.S." If the tariffs stick, they could plunge the Canadian and Mexican economies into a recession later this year since the U.S. accounts for roughly a fifth of their GDP, and there would be fallout in the U.S., said Capital Economics Chief North American economist Paul Ashworth, in a note to clients.
"The window for the Fed to resume cutting interest rates at any point
over the next 12 to 18 months just slammed shut," he writes. While markets may not take any of this kindly, a sell-off might just be what's needed to alleviate the tariffs. A sustained market decline of several days could get the administration to adjust its approach on this batch of tariffs -- even lift them.
But Stephen Myrow, managing partner of Beacon Policy Advisors, cautions that investors aren't taking the tariff threat seriously enough, under-appreciating just how much tariffs are part of the administration's policy -- to restore manufacturing in the U.S. and raise revenue -- and how broadly those in this administration are on board, even as there are bipartisan warnings about the harm tariffs can bring to the economy.
"Trump believes tariffs are good and market shouldn't get upset about them," Myrow adds.
Regardless of how this batch of tariffs plays out, Myrow says other tariffs are coming and expects universal tariffs, starting likely at 5% with myriad exemptions to minimize the hit. Also expected, possibly by April 1, are more tariffs on China as the administration reviews the Phase One trade deal signed during the first administration.
Key officials in the Trump administration appear on board. Treasury Secretary Scott Bessent, for instance, was viewed as a potential moderator on trade policy. But Myrow expects his role to be more about slowing how the administration turns up the heat on trading partners, not countering the push to do so.
Chandler notes that many of the U.S. imports from Mexico and Canada are from U.S. companies -- a reason he thinks the real target of the tariffs aren't the trading partners but rather U.S. businesses with production offshore.
"Since the pandemic, the neoliberal position evolved to nearshoring and friend-shoring. The tariffs say that isn't good enough. Onshoring only," Chandler says. Others worry that in the long-run, this approach, helps China rather than hurts it. "This self-inflicted supply shock is a strategic gift to Xi Jinping," says Larry Summers, former Treasury Secretary who has previously penned bipartisan criticism of this approach, on X. "Xi Jinping is given an excuse for his economic failures and a. more open door to tell all our allies as we prove our unreliability by bullying."
Write to Reshma Kapadia at reshma.kapadia@barrons.com
This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.
(END) Dow Jones Newswires
February 02, 2025 12:06 ET (17:06 GMT)
Copyright (c) 2025 Dow Jones & Company, Inc.
Comments