USD/CAD Soars Above Multi-Year Range Following Trump’s 25% Tariff Threat

• USD/CAD rises sharply following President-elect Trump’s comments that he will impose tariffs on his neighbors.
• Trump threatened to add 25% to Canada’s foreign imports on the social network Truth Social.
• The Canadian dollar could strengthen due to green shoots in the economy, limiting the rise of the pair.

USD/CAD is trading at 1.4080 on Tuesday, after rising three-quarters of a percentage point on the day. The exchange rate has broken through the top of a multi-year range and appears poised to rise further.

The pair has retreated from a peak of 1.4178 reached during the Asian session on Tuesday after the Canadian Dollar (CAD) rapidly depreciated against the US Dollar (USD) following President-elect Donald Trump’s comments that he would impose tariffs of 25 % to Canadian (and Mexican) imports.

Such a move would likely reduce demand for Canadian imports, and the aggregate demand for CAD to purchase them. Trump also threatened to impose an additional 10% on Chinese imports, on top of the 60% he threatened to add during the campaign.

“On January 20, as one of my many first executive orders, I will sign all necessary documents to charge Mexico and Canada a 25% tariff on ALL products entering the United States, and their ridiculously open borders,” he wrote Trump on Truth Social, adding, “This tariff will remain in place until drugs, particularly fentanyl, and all illegal immigrants stop this invasion of our country!”

Canadian Deputy Prime Minister Chrystia Freeland responded to Trump’s comments by saying that Canada places “the highest priority on border security and the integrity of its shared border with the US,” according to The Guardian.

The US depends on Canada for 52% of its crude oil, according to the US Energy Information Bureau (EIA), raising questions about the practicality and possible negative political impact of Trump’s tariff threat. This is even more relevant given the importance of the price of gasoline in the US to the American electorate. Another major export from Canada to its neighbor is Canadian-made trucks and cars, but these use a high percentage of U.S.-made components.

The US dollar rose broadly after Trump delivered his tirade, as markets calculated the implications of raising tariffs on foreign imports. Such a move would lead to higher prices in stores and inflation in the US. This, in turn, would lead the US Federal Reserve (Fed) to keep interest rates high, which would be positive for the economy. USD, as it will attract greater foreign capital flows.

However, market-based projections for US interest rates have changed little. According to the CME FedWatch tool, they are still putting the odds of the Fed cutting interest rates by 0.25% in December at about 60%, along with a 40% chance of no change. This may limit the upside potential for USD/CAD.

Gains for the pair could also find a ceiling if the Canadian dollar starts to recover again. The CAD had limited its losses and was consolidating against the USD until Trump’s tariff attack, after market bets fell on the Bank of Canada (BoC) continuing its aggressive easing cycle.

The BoC cut interest rates by a double dose of 50 basis points (bps) (0.50%) at its October meeting amid rapidly falling inflation and moribund growth. Markets had initially expected the BoC to follow this with another 50bp cut in December, however a recent surprise rise in inflation to 2.0% in October (from a three-year low of 1.6% in September) and stronger-than-expected preliminary Purchasing Managers’ Index (PMI) data for November have changed the picture. The BoC is now more likely to make a standard 25bp (0.25%) cut instead as it starts to see a pick-up in growth. This, in turn, could support the CAD, limiting USD/CAD’s gains.