{"id":27042,"date":"2025-01-29T14:31:27","date_gmt":"2025-01-29T19:31:27","guid":{"rendered":"https:\/\/www.rbcwealthmanagement.com\/en-ca\/?p=27042"},"modified":"2025-01-31T16:41:59","modified_gmt":"2025-01-31T21:41:59","slug":"canada-confronts-us-protectionism","status":"publish","type":"post","link":"https:\/\/www.rbcwealthmanagement.com\/en-ca\/insights\/canada-confronts-us-protectionism","title":{"rendered":"Canada confronts U.S. protectionism"},"content":{"rendered":"\n

By Joseph Wu, CFA<\/strong><\/p>\n\n\n\n

Bracing for U.S. protectionism<\/h2>\n

\n The spectre of U.S. tariffs has cast a shadow over Canada\u2019s economy, with\n potential consequences across several key sectors where cross-border trade\n plays a critical role. With merchandise exports constituting roughly 25\n percent of GDP, the Canadian economy is deeply tied to the U.S., its\n largest trading partner. Nearly three-quarters of Canada\u2019s exports flow\n south of the border, predominantly within sectors such as energy, metals,\n and auto manufacturing.\n <\/p>\n \n

Canadian industries exposed to U.S. trade, by share of GDP<\/h3>\n
\n
\n \"Canadian\n

\n The bar chart shows the share of national GDP for Canadian industries\n most exposed to trade with the United States. Oil and Gas Extraction,\n 4.54%; Primary Metal Manufacturing, 0.64%; Petroleum and Coal Product\n Manufacturing, 0.54%; Plastic Product Manufacturing, 0.39%; Aerospace\n Product and Parts Manufacturing, 0.32%; Pharmaceutical and Medicine\n Manufacturing, 0.27%; Motor Vehicle Manufacturing, 0.21%; Bakeries and\n Tortilla Manufacturing, 0.19%; Pulp, Paper, and Paperboard Mills,\n 0.17%; Industrial Machinery Manufacturing, 0.13%.\n <\/p>\n

\n Based on 2023 GDP. Includes industries with export\/GDP ratios above\n 100% and a trade surplus with the U.S. of at least $1 billion.\n <\/p>\n

\n Source – Statistics Canada, Industry Canada, RBC Economics\n <\/p>\n <\/div>\n <\/div>\n

\n Tariffs would almost certainly lead to a decline in exports and dampen\n economic growth. RBC Global Asset Management estimates that in the\n worst-case \u201cNorth America-focused scenario,\u201d U.S. tariffs could\n cumulatively reduce Canadian GDP by as much as 4.5 percentage points after\n two years, assuming 25 percent tariffs remain in place\n throughout\u2014a scenario we deem unlikely. RBC Global Asset Management\n anticipates that any U.S. tariffs on Canada are likely to be limited, as\n pragmatic considerations are expected to temper the scope of protectionist\n measures. Under the more probable \u201cSubstantial but temporary\u201d and \u201cPartial\n tariffs\u201d scenarios, the drag on Canadian GDP is estimated to range from\n 0.3 to one percentage point. More broadly, economists generally see\n tariffs as a \u201close-lose\u201d policy, imposing economic costs not only on\n trading partners but also on the countries that implement them. In\n addition to potential inflationary effects in the short term, tariffs are\n often met with retaliatory measures.\n <\/p>\n \n

Economic implications of U.S. tariffs<\/h3>\n

\n Estimated maximum cumulative effect on economic output after two years,\n assuming reciprocal tariffs\n <\/h4>\n
\n \n \n \n Scenario<\/th>\n \n Effect on economic output<\/th>\n <\/tr>\n \n Global<\/th>\n Canada<\/th>\n U.S.<\/th>\n Mexico<\/th>\n China<\/th>\n Japan<\/th>\n Eurozone<\/th>\n UK<\/th>\n <\/tr>\n <\/thead>\n \n \n \n Original tariff plan:<\/strong>
60% China,
10%\n rest of world
(Likelihood: 10%)\n <\/td>\n \n -1.0%<\/td>\n -1.9%<\/strong><\/td>\n -1.2%<\/td>\n -1.5%<\/td>\n -1.4%<\/td>\n -0.6%<\/td>\n -0.9%<\/td>\n -0.6%<\/td>\n <\/tr>\n \n \n North America-focused tariffs:<\/strong>
\n 25% Canada, 25% Mexico, 10% China
(Likelihood:\n 10%)\n <\/td>\n \n -0.8%<\/td>\n -4.5%<\/strong><\/td>\n -1.5%<\/td>\n -4.0%<\/td>\n -0.6%<\/td>\n -0.2%<\/td>\n -0.4%<\/td>\n -0.2%<\/td>\n <\/tr>\n \n \n Substantial but temporary tariffs:<\/strong>
\n One of the above scenarios, but tariffs withdrawn after several\n months
\n (Likelihood: 25%)\n <\/td>\n \n -0.3%<\/td>\n -1.0%<\/strong><\/td>\n -0.4%<\/td>\n -0.9%<\/td>\n -0.3%<\/td>\n -0.1%<\/td>\n -0.2%<\/td>\n -0.1%<\/td>\n <\/tr>\n \n \n Partial tariffs:<\/strong>
\n Smaller tariffs on targeted sectors and countries
\n (Likelihood: 45%)\n <\/td>\n \n -0.2%<\/td>\n -0.3%<\/strong><\/td>\n -0.2%<\/td>\n -0.2%<\/td>\n -0.3%<\/td>\n -0.1%<\/td>\n -0.2%<\/td>\n -0.1%<\/td>\n <\/tr>\n \n \n No significant new tariffs<\/strong>
\n (Likelihood: 10%)\n <\/td>\n \n 0% for all<\/td>\n <\/tr>\n <\/tbody>\n <\/table>\n <\/div>\n

\n Source – Oxford Economics, RBC Global Asset Management; data as of 1\/24\/25\n <\/p>\n\n

\n While these projections provide useful context for assessing the possible\n range of economic outcomes from U.S. tariffs, the various assumptions\n behind them are subject to significant unpredictability\u2014including how the\n Bank of Canada (BoC) and Canadian government may choose to respond, the\n Canadian dollar\u2019s reaction, and the scope, size, and duration of tariffs.\n Meanwhile, the Canadian government recently signaled it is prepared for\n \u201cdollar-for-dollar\u201d countermeasures to any U.S. tariffs, adding another\n layer of complexity.\n <\/p>\n

\n In a recent report <\/rbc-icon><\/a>, RBC Economics pointed out that \u201cthe reality of a\n tariff shock is trickier\u201d than can be neatly estimated in a single figure\n hit to jobs or growth. Beyond specific forecasts, another approach for\n thinking about how tariffs could ripple across an economy is through a\n broad-based framework, shown below.\n <\/p>\n \n

How a U.S. tariff flows through the Canadian economy<\/h3>\n
\n
\n \"How\n

\n The graphic shows how a U.S. tariff flows through the Canadian economy\n in seven steps: 1) Uncertainty shock. 2) Front-loading of inventory.\n 3) After the tariff is applied, prices rise and demand drops. 4)\n Retaliatory measures. 5) Secondary industries (services) experience\n knock-on effects. 6) The Bank of Canada\u2019s response. 7) Fiscal policy\n attempts support.\n <\/p>\n

Source – RBC Economics<\/p>\n <\/div>\n <\/div>\n

\n In the short term, the prospect of tariffs can boost economic activity as\n firms and consumers make preemptive purchases in anticipation of higher\n costs. However, this initial flurry of activity often gives way to an\n output \u201cair pocket,\u201d as:\n <\/p>\n

    \n
  • \n demand falls off following the pre-implementation front-loading of\n purchases;\n <\/li>\n
  • higher post-implementation prices erode buying power; and<\/li>\n
  • retaliatory measures dampen export prospects.<\/li>\n <\/ul>\n

    \n As the macro effects of tariffs take hold, we believe the policy responses\n from the BoC and the federal government\u2014interest rate policy,\n counter-tariffs, and support measures for impacted industries\u2014will play a\n crucial role in shaping the near-term trajectory of the Canadian economy.\n <\/p>\n \n

    Equity market fallout likely manageable<\/h2>\n

    \n Despite the anxiety around U.S. trade strategy, the broad Canadian stock\n market may weather the storm better than investors expect, if we assume\n that a non-recessionary economic headwind from temporary or partial\n tariffs is the most likely path forward. While approximately 30 percent of\n the S&P\/TSX Composite Index\u2019s revenue is sourced from the U.S., only\n about a quarter of that exposure is tied to firms in goods-producing\n industries.\n <\/p>\n \n

    S&P\/TSX Composite revenue exposure by geographic region<\/h3>\n

    Market cap weighted<\/h4>\n
    \n
    \n \"S&P\/TSX\n

    \n The circular chart shows the revenue exposure of the S&P\/TSX Composite\n Index by geographic region. Canada, 46.7%; United States, 30.3%;\n European Union, 4.3%; United Kingdom, 2.1%; Other, 16.6%.\n <\/p>\n

    \n Source – RBC Wealth Management, FactSet; data as of 12\/31\/24\n <\/p>\n <\/div>\n <\/div>\n \n

    S&P\/TSX Composite U.S. revenue exposure by sectors<\/h3>\n

    Market cap weighted<\/h4>\n
    \n
    \n \"S&P\/TSX\n

    \n The bar chart shows the revenue exposure of the S&P\/TSX Composite\n Index by market sector. Communication Services, 2.7%; S&P\/TSX\n Composite excluding Services, 7.5%; Material, 19.2%; Consumer\n Discretionary, 24.2%; Health Care, 24.3%; Energy, 24.9%; Financials,\n 26.0%; Real Estate, 28.0%; S&P\/TSX Composite as a whole, 30.3%;\n Consumer Staples, 32.0%; Utilities, 33.2%; Industrials, 45.6%;\n Information Technology, 54.5%.\n <\/p>\n

    \n \u201cServices\u201d includes Communication Services, Financials, Health Care,\n Information Technology, and select industries in the Consumer\n Discretionary, Consumer Staples, and Industrials sectors.\n <\/p>\n

    \n Source \u2013 RBC Wealth Management, FactSet; data as of 12\/31\/24\n <\/p>\n <\/div>\n <\/div>\n

    \n Sectors such as Industrials, Energy, Materials, and Consumer Discretionary\n appear relatively more vulnerable to punitive U.S. tariffs, in our view.\n By contrast, despite their material U.S. revenue exposure, we think\n services sectors such as Information Technology, Utilities, and Financials\n are likely more insulated from the direct impact of trade policy, which\n tends to focus on merchandise. Still, the knock-on effects from any\n tariffs\u2014ranging from diminished business investment and dampened consumer\n confidence\u2014could weigh on the broader Canadian economy and filter through\n to services sectors.\n <\/p>\n

    \n While U.S. policy uncertainty will likely amplify market volatility\n intermittently, we think the potential earnings impact for the S&P\/TSX\n Composite from tariffs should be manageable. Canadian companies are no\n strangers to navigating trade-related uncertainties, most recently the\n U.S.-Mexico-Canada Agreement, or USMCA, which was negotiated over a span\n of 14 months in 2017\u201318, during which the U.S. imposed temporary steel and\n aluminum tariffs on Canada. The S&P\/TSX Composite endured an 11.6\n percent price correction in 2018 amid trade anxieties and concerns about\n the U.S. Federal Reserve\u2019s interest rate trajectory, before rebounding\n 19.1 percent in 2019 as tensions eased. Beyond the short term, a steadily\n growing economy and rising corporate profitability remain the most\n important fundamental drivers for the equity market, in our opinion.\n FactSet consensus sees earnings for the S&P\/TSX Composite rising by\n roughly 12 percent in 2025, accelerating from just over four percent in\n 2024.\n <\/p>\n \n

    The equity market follows the direction of earnings<\/h3>\n
    \n
    \n \"S&P\/TSX\n

    \n The line chart shows the S&P\/TSX Composite price index and 12-month\n forward earnings per share (EPS) from 2015 through 2025. Over that\n period, the price index rose from roughly 15,000 to roughly 25,000,\n EPS increased from roughly $900 to roughly 1,700. The TSX fell 11.6%\n in 2018 as trade tensions escalated.\n <\/p>\n

      \n
    • \n
      <\/div>\n S&P\/TSX Composite price index (left)\n <\/li>\n
    • \n
      <\/div>\n S&P\/TSX Composite 12-month forward EPS (right)\n <\/li>\n <\/ul>\n

      \n Source – RBC Wealth Management, Bloomberg; data through 1\/24\/25\n <\/p>\n <\/div>\n <\/div>\n \n

      Wait-and-see limbo<\/h2>\n

      \n The imposition of steep U.S. tariffs by the Trump administration poses a\n genuine threat, in our view. However, extreme rhetoric can differ\n meaningfully from actual policies because of real-world constraints on\n policymakers, including tightly integrated North American supply chains\n and political sensitivities around inflation.\n <\/p>\n

      \n Tariffs on oil and gas imports from Canada, for instance, would undermine\n the Trump administration\u2019s stated goal of lowering energy prices and\n inflation for U.S. households and businesses. The feasibility of imposing\n tariffs on Canadian energy seems questionable to us, given the potential\n lack of viable short-term substitutes to the more than four million\n barrels of oil that the U.S. imports daily from Canada\u2014roughly 20 percent\n of U.S. oil consumption. The widely cited U.S. trade deficit with Canada\n also obscures a more nuanced trade narrative, which shifts markedly when\n cross-border trade is segmented into energy and non-energy categories.\n Excluding energy trade flows, the U.S. runs a trade surplus with Canada.\n <\/p>\n \n

      U.S. trade balance with Canada<\/h3>\n
      \n
      \n \"U.S.\n

      \n The chart shows the U.S. trade balance with Canada as well as the\n trade balance for oil and gas, and the trade balance excluding oil and\n gas, from 2009 through November 2024. The U.S. has run a trade deficit\n with Canada for the entire period shown. For the first 11 months of\n 2024, the total U.S. trade deficit with Canada was US$56 billion, the\n trade deficit for oil and gas was US$90 billion. Excluding oil and\n gas, the U.S. has run a trade surplus over the period shown, and it\n was roughly US$34 billion in the first 11 months of 2024.\n <\/p>\n

        \n
      • \n
        <\/div>\n U.S. trade balance\n <\/li>\n
      • \n
        <\/div>\n U.S. trade balance (oil & gas)\n <\/li>\n
      • \n
        <\/div>\n U.S. trade balance (ex oil & gas)\n <\/li>\n <\/ul>\n

        \n In billions of U.S. dollars; 2024 annual data through November.\n <\/p>\n

        \n Source – RBC Wealth Management, Bloomberg; data through 11\/30\/24\n <\/p>\n <\/div>\n <\/div>\n

        \n Lessons from how past trade disputes unfolded during the first Trump\n administration suggest that tariffs may serve as a lever for negotiation\n rather than a permanent fixture. During his first term, Trump raised\n tariffs on many trading partners, a tactic that paved the way for new or\n revised trade agreements\u2014including the USMCA and the \u201cPhase One\u201d agreement\n with China\u2014that eventually led to the reduction or removal of tariffs.\n <\/p>\n

        \n Financial market reactions will differ widely depending on the specific\n implementation details of tariffs and how policymakers in Canada choose to\n respond. The Canadian equity market, for now, remains mostly unperturbed.\n The S&P\/TSX Composite trades at 15.5x forward 12-month consensus\n earnings estimates, modestly above the 20-year average of around 14.5x,\n indicating little immediate anxiety among investors. Despite the current\n calm, we think the events of 2018 are a reminder that trade frictions and\n concerns about their secondary impact on growth can result in downside\n price volatility for the Canadian stock market, at least for a time, even\n if the direct impact of tariffs on earnings turns out to be relatively\n contained.\n <\/p>\n

        \n Currency markets, by contrast, have already shown signs of adjustment,\n with the Canadian dollar weakening by roughly four percent and the\n trade-weighted U.S. dollar strengthening correspondingly since November\u2019s\n U.S. presidential election. If tariffs are announced, a cheaper Canadian\n dollar may partially offset the increased costs created by the tariff for\n U.S. importers, according to RBC Economics.\n <\/p>\n \n

        The Canadian dollar has weakened further<\/h3>\n
        \n
        \n \"CAD\/USD\n

        \n The line chart shows the CAD\/USD exchange rate from January 1, 2024\n through January 27, 2025. The rate has generally declined over that\n period, from 0.75 in January 2024 to 0.70 currently.\n <\/p>\n

          \n
        • \n
          <\/div>\n CAD\/USD exchange rate\n <\/li>\n <\/ul>\n

          \n Source – RBC Wealth Management, Bloomberg; data through 1\/27\/25\n <\/p>\n <\/div>\n <\/div>\n

          \n In what is likely to be a volatile period for Canadian equity portfolios,\n we believe maintaining a disciplined investment strategy focused on the\n long term while avoiding knee-jerk reactions to near-term headlines is the\n most prudent approach. Diversifying across a range of high-quality\n companies with durable business models, resilient cash flows, and strong\n balance sheets provides an effective defense against any trade policy\n shocks to come, in our view. Firms with these characteristics are\n typically well-equipped to weather more challenging operating environments\n and adapt to economic shocks.\n <\/p>\n\n\n\n

          <\/p>\n","protected":false},"excerpt":{"rendered":"

          U.S. trade policy is taking a more restrictive turn with potential implications for Canada\u2019s economy and equity market. We think resisting knee-jerk reactions to headlines is the best way to navigate what could be repeated bouts of market volatility.<\/p>\n","protected":false},"author":15,"featured_media":27043,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"rbcwm_post_date":"2025-01-29T13:19:15","editor_notices":[],"rbc_url_alias":"","rbcwm_featured_desktop_image_position":"","rbcwm_featured_mobile_image_position":"","_jetpack_memberships_contains_paid_content":false,"footnotes":""},"categories":[73],"tags":[],"rbcwm_content_owner":[607],"rbcwm_need":[],"rbcwm_segment":[],"rbcwm_solution":[],"rbcwm_topic":[74],"rbcwm_channel":[],"rbcwm_format":[],"class_list":["post-27042","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-analysis","rbcwm_content_owner-pag","rbcwm_topic-global-insights"],"acf":{"rbcwm_subtitle":"U.S. trade policy is taking a more restrictive turn with potential implications for Canada\u2019s economy and equity market. 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