US neighborhood dispute puts currency world on edge

A terse social media post from Donald Trump last week sent the Canadian dollar and the Mexican peso into negative territory, with both currencies likely to face a challenging 2025 amid the strife between neighbors in the Americas.

"On January 20th, I will sign all necessary documents to impose a 25% tariff on ALL products entering the United States on Mexico and Canada." Well before he officially moves into the White House, the trade policy of the incoming US President Donald Trump leaves little to be desired in terms of clarity. According to Trump, the measures are a response to the amount of fentanyl and other drugs flowing into the United States from his northern and southern neighbors. Although it remains to be seen whether the import duty will actually be implemented, the announcement had significant consequences. The loonie, as the Canadian dollar is also called, fell to its lowest level in more than four years against the American currency.

Ultimate trading partner
An import tariff would be a major blow to Canada’s economy. Last year, the country exported nearly $440 billion in goods and services to the United States. That’s a whopping ten times more than the second, third and fourth-place exporters combined. The news comes at an awkward time. The estimated growth rate for Canada’s economy in 2024 was recently revised down from 2,0% to 1,8%. The central bank cut its policy rate by 0,5 percentage points in late October in an attempt to stoke the economic fires. It’s no wonder that within a week, Prime Minister Justin Trudeau sat down for dinner with Trump to discuss future trade relations.

Relative calm thanks to CUSMA
The news also hit Mexico hard. During Trump’s previous term, the country largely managed to stay out of the trade disputes of the former and future president. This was mainly due to the CUSMA trade agreement with the United States and Canada, which was signed soon after Trump took office. However, that agreement expires in 2026. Trump does not seem to plan to extend it under the current terms. For the time being, a policy rate of over 10% still provides some safety net in the event of the decline of the Mexican peso. If Trump makes good on his promise, this will also have consequences for the US economy. An import duty makes all kinds of goods and services more expensive for the American population.

A year to quickly forget
Analysts at a major investment bank have already calculated that US inflation could reach 3,8% in the most negative scenario, instead of the 2,6% the country initially seemed to be heading for. Higher inflation makes it more difficult for the Federal Reserve to lower the policy rate further. The somewhat higher interest rate is also favourable for the dollar, because more parties will then hold their assets in the currency. On the American continent, this will mainly be at the expense of the loonie. Trump also wants to significantly increase oil production. And a lower oil price often does not bode well for the Canadian currency, which will probably face a 2025 to quickly forget.

Joost Derks

Joost Derks is a currency specialist at iBanFirst. He has over twenty years of experience in the currency world. This column reflects his personal opinion and is not intended as professional (investment) advice.

© DCA Market Intelligence. This market information is subject to copyright. It is not permitted to reproduce, distribute, disseminate or make the content available to third parties for compensation, in any form, without the express written permission of DCA Market Intelligence.