Gonna hurt you more than it hurts me
Canada is taking steps to gird itself for the battle against a looming tariff threat from the US, and a list of potential retaliatory tariffs on US products is being assembled as a part of that effort. But both history and facts on the ground suggest that, on their own, Canadian tariffs won’t mean much, and such talk isn’t making much of an impact on the President-elect thus far.
For the same reason that virtually all card-carrying economists believe that tariffs will be a negative for the US economy on balance, Canada’s retaliatory tariffs will hurt our own economy. There’s no Canadian orange juice industry to benefit from tariffs on Florida juice. Care for a freshly squeezed apple juice with your breakfast? So, we’re inflicting pain on our consumers, or businesses using US inputs, to inflict pain on US exporters.
The problem is that Trump likely understands that, in a bilateral tariff war, this is gonna hurt us more than it hurts him. Yes, we’re an important export market for many US industries. But as a share of GDP, only one US state is more dependent on exports to Canada than the least-US-dependant Canadian province (Chart).
Source: Statistics Canada, BEA, CIBC
Canada will be a better position if the US imposes tariffs on all its imports, and our retaliatory tariffs are part of a joint effort to impede US exports to Canada, Mexico, Europe, and Asia. That would hit politically-sensitive US sectors like agriculture. But even then, the US is less export-dependant than smaller economies.
Where the US really gets hurt is in the fact that in many goods, American consumers and importers of intermediate goods will simply have to pay more for what they can’t produce at home, or will be reallocating labour from export-sectors where America has competitive advantages to sectors where it is weaker, a point that seems to have been lost in the mind of US trade hawks. What helped Canada escape steel and aluminum tariffs in Trump’s first term were complaints from American industries that used imported metal as an input, but that only became evident to US policymakers after tariffs were in place.
If the threat of retaliatory tariffs is insufficient, what other weapons can we bring to the battle? Trump’s first terms suggests that the carrot, rather than the stick, might work better. China bought some time by agreeing to a big shopping list for purchases of US goods, although it never lived up to that pledge. Canada agreed to allow more American dairy products into our market, and to increase North American content in autos than what was required under NAFTA. We could now create our own shopping list of US defence equipment, subway cars, aircraft and so on where we have government purchases coming up, allowing the Trump team to trumpet a win.
Alternatively, we could raise a stick that goes beyond retaliatory tariffs, leveraging what’s likely to be a unified Canadian public that will be angered as they see growth stall and the Canadian dollar tumble. Boycotts of prominent US brands, and travel choices that favour the Caribbean or Mexico over Florida or California, could well erupt on their own, and we might be joined by Europeans and others in that trend.
Ultimately, a flexible exchange rate is our ‘weapon’ of last resort, one that preserves some of our export market share. America will continue to see foreign inflows into the US dollar to finance its large budget deficit, or to buy into US private assets. In a trade war, it will end up with a rising US dollar as imports slow, which in the end leaves it with a trade deficit that offsets its capital account surplus. The balance of payments has to in fact balance. Interest rate cuts to boost domestic demand in Canada and Europe will also give the US dollar a push.
As a part of that, a weaker Canadian dollar will make our workers and other inputs cheaper in US dollar terms, allowing our exporters to absorb some of the tariff hit. But that too is going to hurt us, because we’ll be paying more for whatever orange juice or Florida trips we can still afford to buy.
