Mexican peso tumbles to near three-year low after tariff blow

Updates with European market move

By Rodrigo Campos, David Alire Garcia, Marc Jones

NEW YORK/MEXICO CITY/LONDON, Feb 3 (Reuters) - The Mexican peso tumbled over 2% to its lowest in nearly three years against the dollar on Monday after the United States imposed 25% tariffs on its southern neighbor as part of the first major salvo of new global trade war.

Mexican President Claudia Sheinbaum ordered retaliatory tariffs, as did Canada which was also hit, with Prime Minister Justin Trudeau warning Americans that tariffs would have real consequences for them.

The tit-for-tat moves pushed investors to buy the safe-haven U.S. dollar and sell out of exposed currency, stock and bond markets in a bid to limit the damage. GLOB/MKTS

Mexico ships almost 83% of its exports to the U.S. analysts estimate, trade which adds up to more than a quarter of its gross domestic product $(GDP)$, or annual economic output.

"The broad-based and/or durable tariff scenario with 25% tariffs across all Mexican products will take the economy into recession," analysts at Morgan Stanley said in a note to clients.

They predicted a 5-10% drop in the peso and with Mexico highly likely to introduce retaliatory tariffs, domestic inflation could shoot up between 1-1.5 percentage points and force the country's central bank to keep interest rates up.

U.S. President Donald Trump's executive orders means the 25% tariffs will be applied on Mexican and most Canadian imports from Tuesday without a last-minute deal. China is set to get further 10% hit on its goods too.

Trump said Americans could feel "some pain" in the form of higher consumer prices, while the effect of the trade war is expected to be felt far beyond North America.

Monday's market response saw the peso MXN= weaken to its lowest level against the greenback since March 2022. It was last down 2.1% at 21.1275 to the dollar and options markets were pointing to more volatility in the coming days.

The Canadian dollar CAD=D3 was slammed too, sinking to a 22-year low of C$1.4792 per U.S. dollar in Asian hours. The loonie was last at C$1.4656.

PESO PREDICTIONS

The Mexican currency had strengthened as much as 3.5% this year but Monday's dive took it back into the red. It also comes after it lost almost a fifth of its value last year due to both tariff and domestic politics concerns.

"Full implemented tariffs with staying power don’t appear to be in the price of key markets," JPMorgan's analysts said in their first response to the tariffs.

"We expect a relatively tapered 8%-12% Mexican peso depreciation, as markets are likely to deem it temporary, with USMCA (Tripartite U.S., Mexico, Canada trade deal) ultimately preserved."

While the markets in China are closed until Wednesday for the Lunar New Year holidays, the yuan CNH=D3 also touched a record low in offshore trading.

"North American trade has evolved into an increasingly sophisticated economic engine since NAFTA took effect 31 years ago," said Alejo Czerwonko, chief investment officer for emerging markets Americas at UBS Global Wealth Management.

"A large wrench has just been thrown into its works. If tariffs persist, they could inflict serious economic damage across all participating countries".

(Reporting by Rodrigo Campos in New York, David Alire Garcia in Mexico City and Marc Jones in London; Additional reporting by Ankur Banerjee; Editing by Sandra Maler, Christopher Cushing and Toby Chopra)

((rodrigo.campos@reuters.com;))