For Canada’s Carney, no deal with Trump might be better than a bad one

U.S.-Canada trade tensions escalated as President Trump's higher tariffs, including a new 35% levy on some Canadian goods, took effect without a deal, notably singling out Canada while Mexico received a reprieve. The Bank of Canada reported a Q2 growth slowdown and a 25% drop in exports attributed to the tariffs, weighing on Canada's economy and increasing uncertainty, despite most Canadian imports being USMCA-compliant. This ongoing impasse poses significant economic and political challenges for Prime Minister Carney and raises concerns for the future of the crucial trade relationship, particularly ahead of the USMCA review.

Analysis

U.S.-Canada trade relations have deteriorated significantly as Washington imposed a higher 35% tariff on certain non-USMCA compliant goods, singling out Canada while granting Mexico a reprieve. This escalation is creating tangible economic damage, with the Bank of Canada attributing a slowdown in Q2 growth directly to a 25% drop in exports following the imposition of U.S. tariffs. While the effective tariff rate on Canadian exports is an estimated 5% due to rising USMCA compliance—nearly 60% of imports in May were compliant with a potential for over 90%—the persistent uncertainty is negatively impacting business investment and household spending. The U.S. administration's justifications for the levies are inconsistent, ranging from disputed fentanyl claims to dairy policy, which creates a highly unpredictable negotiating environment for Prime Minister Carney's government. The primary forward-looking risk is the USMCA review scheduled for next year, as the current trade friction raises concerns that the entire agreement could be at risk, fundamentally altering the North American economic landscape.

Key Decisions for Investors

• Investors should re-evaluate exposure to Canadian sectors with high U.S. export dependency, such as automotive, steel, aluminum, and softwood lumber, which are directly targeted by punitive tariffs.
• The heightened trade uncertainty and negative economic data create significant headwinds for the Canadian dollar; consider hedging CAD exposure in portfolios with Canadian assets.
• Monitor political rhetoric and policy developments closely ahead of the USMCA review next year, as any indication that the U.S. may scrap the deal would be a major bearish catalyst for Canadian markets.
• While headline risks are elevated, differentiate between companies by assessing their USMCA compliance rates, as firms that have successfully adapted may be more insulated from the direct impact of the non-compliant tariffs.