Trump’s Tariff Threats and Likely Consequences

From: Glen Hodgson
To: Tariff watchers
Date: February 24, 2025
Re: Trump’s tariff threats and likely consequences

Why has Donald Trump threatened to impose tariffs on Canada (and others)? And what are the possible impacts and consequences? Here are some observations, informed by my perspective as a former chief economist and an official at Finance Canada and Export Development Canada. 

There are three interacting reasons for Mr. Trump’s tariff threat:

(1) To bully Canada into adopting his policy agenda by securing the northern border, increasing Canadian defence spending to meet and perhaps exceed the 2 percent NATO target, and advancing the renegotiation of the CUSMA trade agreement. Mr. Trump’s musings about absorbing Canada as the 51^st state, which started as an apparent joke, have also taken a more serious tone.

(2) To compel US and Canadian firms to shift investment and production from Canada to the US.

(3) To generate new US government revenue and create room for domestic tax cuts.

What’s the immediate economic impact of tariffs? Various analysts have assessed the overall impact of a comprehensive 25 percent US tariff and Canadian counter-tariffs. Both countries would be hit with stagflation – higher inflation and reduced output growth, with high recession risk. But the details matter, so let’s consider the sectoral impacts.

As can be visualized here, in resources, Canada had a roughly $100-billion trade surplus annually in 2023, notably in oil and gas exports. US demand for resources is highly inelastic in the short term and there are few US domestic resource substitutes in most cases. A tariff on resources would therefore be inflationary in the US with little immediate impact on Canadian exports. Tariffs on most resource sectors are therefore unlikely or would be short-lived.

In finished goods manufacturing (including machinery and equipment and consumer goods), the US recorded a $60 billion surplus in 2023, even with the two-way trade in the auto sector being roughly balanced. Manufacturing supply chains are integrated across North America, rigid in the short term, and rely heavily on just-in-time inventory management, so a US tariff would likely shut down a chunk of manufacturing activity in both countries quickly. For both Canadian and US consumers of manufactured end products, there would be room for substitution, including giving a price advantage to vehicles and appliances imported from outside North America – surely a consequence unintended by Mr. Trump.

In industrial products, Canada has a small trade surplus. This includes steel and aluminum products, which are key inputs in many manufacturing sectors and in construction, and where Canada is the largest exporter to the US market.

What are the likely impacts of the announced universal tariffs on steel and aluminum? The price of US steel and aluminum imports would jump 25 percent, and US producers would seek to increase their prices by the same amount. Steel and aluminum demand is highly inelastic in the near term, so the tariff would immediately turn into inflation for US businesses and consumers as prices rise for everything from autos to aircraft to beer cans.

In agri-food, Canada has a small trade surplus. Many of our agri-food exports are bulk products like pork, beef, and canola. For Canadian consumers, there is lots of room for immediate substitution away from US products at the grocery store, as we are already seeing anecdotally.

And in services trade, which is tricky to tariff, the US has a healthy $60-billion annual surplus, largely due to a large Canadian bilateral trade deficit for tourism and other travel, as well as business and financial services and payments for the use of intellectual property. Early data suggest the ‘buy Canadian’ movement is translating into reduced Canadian travel south of the border.

How can Canada manage the Trump tariff threat? In the immediate period, active diplomacy and advocacy from both government and business are essential to try and stave off tariffs in one or more sectors. Counter-tariff options with both economic and political pain points have been prepared for use as required and may cause American businesses to press for an end to the tariffs.

But while necessary, that will probably not be sufficient. Mr. Trump is likely to only respond to economy-wide impacts, specifically higher consumer price inflation, significant job losses, and stock market declines.   

More fundamentally, it’s now obvious the US is no longer a reliable trade partner. Mr. Trump has been elected twice, and neither major party is devoted to the principle of free trade. Canada will need to fundamentally rethink its policy options to take control of its own destiny, starting with removing internal barriers to trade. Collaboration with other countries subject to tariffs can reinforce the effectiveness of countermeasures. The more countries affected by new US tariffs, the greater the potential for effective coordinated action.

Glen Hodgson is a Fellow-in-Residence at the C.D. Howe Institute.

To send a comment or leave feedback, email us at blog@cdhowe.org.

The views expressed here are those of the author. The C.D. Howe Institute does not take corporate positions on policy matters.