February 5, 2025

When I was growing up, when someone said something upsetting, my Mom would encourage me to count to ten before I reacted. I mention this because when President Trump announced the 25% tariffs on Canadian and Mexican goods on the weekend, I opted to wait 48 hours before I dove into the implications of his edict and sent off an email to clients. For some people, you need to count to ten before reacting. However, it seems that for President Trump you need to wait at least 24 hours. Sure enough, President Trump got the attention of Canada and Mexico and has delayed the start of the tariffs for 30 days.

I suspect we will continue to see this kind of behavior, a dramatic difference from what we have been accustomed to. Policies will focus on 'America First' regardless of broader implications. America First is not just a political slogan, it's a focus on prioritizing US interests in trade, foreign policy, and immigration. With the recent tariff discussions, let's focus on trade.

Typically, with trade, there is a fundamental concept at play called comparative advantage. This is where countries (or businesses) can benefit from trade by specializing in producing goods at the lowest cost compared to others. When goods are traded, sellers benefit from the sale and purchasers benefit from the reduced cost of goods. Also embedded in trade agreements is an understanding that both parties want to benefit and that this mutual benefit is necessary for the agreement to last.

The new administration in the US is applying untraditional concepts when it comes to trade relations, and they are appealing to their voter base who lost manufacturing jobs to other countries. For Republican voters, tariffs on imported goods represent a step toward bringing jobs back to the US – a mandate for President Trump. This focus on tariffs also aligns with the President's approach to business, as a deal maker ensuring clear winners and losers. His rhetoric continues to tell us that he will do what he can to ensure America comes first. This is important to keep in mind as we learn more about this administration's policies, as some pose a detriment to the US consumer, but are framed in the Make America Great messaging.

A few details on US trade and tariffs:

• Unlike most countries that are dependent on America, the US is trade diversified. Seventy percent of all Canadian exports are to the US while only 18% of American exports are to Canada. Similarly, 80% of Mexican exports are to the US while only 15% of US exports are to Mexico. 
• Tariffs are the most effective tool the US can use to impact behavior. Publicly President Trump wants to use tariffs to put pressure on Canada and Mexico to do more at the borders to stop fentanyl from entering the US, however our analysts also feel that President Trump wants to use tariffs to renegotiate the USMCA (which is the also known as NAFTA 2.0) which came into force in March 2020.
• Europe will not go unscathed; President Trump is going to use tariffs to have them commit to more military spending. Expect US tariffs on Europe to be announced on February 18th. 
• For now, since the US has a trade surplus with the UK, it most likely will not be subject to tariffs.
• There's a flat 10% tariff for China.
• Of importance, if tariffs are put in place, there are no exemptions and no process to file for an exemption. 

What does this mean for Canada? When assessing the economic risk of tariffs, it comes down to (1) size of tariff, (2) the amount of goods impacted, (3) retaliation and (4) duration. If we assume the US will proceed with 25% tariffs on Canadian goods, the least known of the four items above is the most important - duration.

Canada has vowed to retaliate which will lead to risk of higher tariffs from the US. The longer the tariffs are in place, the greater the impact on our economy. According to TD Economics, if the tariffs lasted 5-6 months, it could tip the economy into recession and unemployment could rise to over 7%. Further duration would deepen the contraction. This doesn't account for any fiscal response from the government or easing of interest rates by the central bank. Keep in mind that any fiscal support will require the government to return to the House to table legislation. 

Under these circumstances, Canadian bonds still look attractive as do Canadian companies that have operations in the US. The Canadian dollar can face further pressure if these tariffs are in place - $.65 US/CAD is not out of the question, so any near-term strength in the Canadian dollar is an opportunity to convert to US. In the US, we like financial stocks, medium sized companies that can benefit from growth of the US economy, energy infrastructure companies, and we also like defense companies with an emphasis on defense companies in Europe. 

On a personal note, I recently had an interesting conversation with my daughter. Being in university, both my kids know that we pay for tuition, boarding, and food however, we don't pay for their fun, that's on them. Both kids are expected to work to fund their lifestyle. It's easier for our son, Samir, as his needs are modest. Maya on the other hand is a different story. For the last two summers, Maya worked at Pedalheads, a bike camp for kids. Two years ago, she was an instructor and taught kids how to ride a bike and last year she managed an entire site with 15 instructors and 100 kids. This year, they asked her to return and after much deliberation she declined. I asked her why. Her response – "Dad, it's a fun job but the job is only for two months. I need to get serious about building my resume and I need cash flow for the whole summer - I have shoes to buy, concerts to attend, and the world to travel. I need to make more money!" Maya prescribes to the theory that she doesn't have a spending problem, just a revenue problem.

Ashit