Eric Chi, University of Guelph
December 15, 2024
United States President-elect Donald Trump has announced a 25 per cent tariff on Canada and Mexico if border control and illegal drugs coming into the U.S. aren’t curtailed. Both federal and provincial leaders have been scrambling to address the potential threat posed by such a significant trade penalty.
Trump’s approach to tariffs is well-known. In his first presidency, Trump renegotiated the North American Free Trade Agreement (NAFTA), replacing it in 2020 with the U.S.-Mexico-Canada free trade agreement. The updated agreement renegotiated new terms and conditions governing trade between the U.S., Canada and Mexico.
Without a doubt, the U.S. remains Canada’s largest trading partner. More than 70 per cent of Canada’s exports go to the United States — larger than the next 10 trading partners added together. This situation highlights Canada’s heavy reliance on U.S. trade and the vulnerability that comes with it.
Canada could reduce its dependency on the U.S. by diversifying its trading partners. Establishing stronger ties with emerging economies and expanding exports to alternative markets would strengthen Canada’s bargaining position with the U.S. However, diversification is easier said than done.
The short-term implications
Canada is unlikely to be able to significantly diversify its trading relationships in the short term. It will take time for Canada to replace exports to the U.S. with other foreign markets because of the decades of interconnected trade agreements and shared infrastructure that have been built to facilitate trade between the two countries.
For now, the most practical approach is for Canada to focus on negotiations with the U.S. to avoid or mitigate any punitive tariffs. An increase of 25 per cent would make Canadian exports prohibitively expensive for Americans, could inflict damage on the Canadian economy, and could hurt American businesses as well.
There is a possibility that Trump could use the tariffs as a bargaining chip to make Canada extend more concessions. However, Canadian-American interdependence allows Canada to argue that maintaining strong bilateral trade is mutually beneficial.
Opportunities beyond North America
Canada’s long-term path to economic resilience lies in pursuing deeper engagement with other global markets. As a member of the Comprehensive and Progressive Agreement for Trans-Pacific Partnership, Canada can expand trade with countries like Australia, Brunei, Chile, Japan, Malaysia, Mexico, New Zealand, Peru, Singapore and Vietnam.
The success of Mexico’s trade diversification offers Canada a valuable lesson. Between 2016 and 2023, bilateral trade between Mexico and China grew from US$42.6 billion to US$100.22 billion. Trade volumes have more than doubled, with growth on a yearly basis.
The Canadian government could follow suit by establishing trade agreements with other economies beyond the U.S. Such agreements would grant Canadian exporters market access in other countries while opening up Canada to imports from these nations. This approach not only diversifies trade partnerships but also has the potential to lower inflation by introducing cheaper imports.
Canada could also take inspiration from Singapore, which has maintained strong economic ties with both the U.S. and China by remaining neutral and refusing to side with either. As trade tensions escalate between the U.S. and China, Canada has an opportunity to position itself as a similar peacemaker.
Similarly, forming trade ties with other emerging economies like China and Association of Southeast Asian Nations (ASEAN) presents tremendous opportunities for Canada and its long-term export growth. Members of ASEAN include Brunei, Burma, Cambodia, Indonesia, Laos, Malaysia, Philippines, Singapore, Thailand and Vietnam.
Collectively, ASEAN nations have a market with GDP of more than $4 trillion dollars and a population of 647 million people, making them among the fastest growing economies in the world.
While much of the western world is trending toward deglobalization and economic decoupling, emerging economies are becoming increasingly interconnected and integrated into the global economy. As such, Canada should take the opportunity to engage with these markets effectively.
Canada is in a good position
Some critics have argued that opening Canada’s borders to more trade could result in domestic Canadian industries losing their competitiveness and lead to job losses.
While there is some validity to these sentiments — Canadian firms that don’t have a competitive edge could be driven out — the overall economic benefits of diversification far outweigh the drawbacks.
Canada is well-positioned to strengthen trade ties with emerging economies. Canada has several inherent advantages, including abundant natural resources, a highly educated and skilled population and good institutions.
While Canada cannot immediately reduce its reliance on U.S. trade, it must lay the groundwork for a more resilient and diversified economy. By expanding trade relationships with emerging markets, Canada can strengthen its economic position and reduce its exposure to the whims of American trade policy.
Eric Chi, Professor of Economics, University of Guelph
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This article is republished from The Conversation under a Creative Commons license. Read the original article.