Tariffs could fray Canada-U.S. ties in energy and auto manufacturing

The threat and eventual imposition of U.S. tariffs has caused considerable anxiety among Canadian businesses and consumers. Even the latest pause in enforcement on some Canadian goods is unlikely to assuage future concerns.

Widespread U.S. duties on all Canadian goods briefly took effect on March 4 after an initial pause in February delayed their introduction. U.S. President Donald Trump also put forward 25 per cent tariffs on steel and aluminum imports that are expected to take effect March 12. 

Barring future intervention, tariffs could be disruptive to both countries’ economies given the essential role of Canada in U.S. supply chains and overall economic stability. Nearly 20 per cent of Canada’s gross domestic product (GDP) is dependent on trade with the United States.

Retaliatory tariffs from Canada’s government could lead to further supply chain issues and to higher inflation for Canadian consumers.

The ongoing trade standoff comes at a time when Canada has already been struggling to compete for investment with its neighbour to the south. In 2024, foreign capital invested in U.S. securities exceeded the sum of foreign capital in the next 12 economies combined. American expansionary policies and a new tariff regime could make the U.S. even more of a magnet for capital, making it challenging for Canada to attract foreign investments.

Trade policy uncertainty could also contribute to the low value of the loonie, further challenge economic growth and add uneasiness to investment intentions in sectors that are highly trade-dependent—such as energy and auto manufacturing.

To illustrate how tariffs could affect both countries, here is a deeper look at the Canadian industries that have the highest exports to the United States.

Energy

The energy relationship between Canada and the U.S. goes beyond the sector itself. It’s integral to the functioning of both countries since every business activity—from transportation to heating to power—requires energy.

Energy exports make up about one-quarter of Canada’s total exports. Canada exports 4.5 million barrels of crude oil daily to the U.S. This accounts for about 60 per cent of its total oil imports—a proportion that has continued to climb.

The U.S. is the destination of an overwhelming 97 per cent of Canada’s crude oil exports, two-thirds of which end up in the U.S. Midwest. Ninety-nine per cent of natural gas imported by the U.S. comes from Canada.

Canada is also a major exporter of uranium and critical minerals, key components for growing energy needs.

Energy tariffs could cause gasoline, electricity and heating costs to jump, affecting businesses and consumers alike.

Canadian energy companies would also encounter reduced demand because of the costs of tariffs, which would result in lower export volumes. In this scenario, these companies might be forced to accept lower prices to stay competitive.

It’s worth noting that Canadian energy products are subject to a lower tariff rate of 10 per cent. Additionally, the loonie has gone down by nearly five per cent since last November, which could help mitigate the impact of tariffs on the price of oil U.S. importers pay. Lower price increases could minimize the  hit to U.S. demand for Canadian energy products.

The U.S. trade deficit with Canada (US$128.8 billion in 2023) is frequently cited by the Trump administration as one of the rationales for the imposition of tariffs. But if you exclude energy, the U.S. could have a trade surplus with Canada—meaning Canada buys more from the U.S. than it sells. Excluding energy and autos, Canada’s top imports from the U.S. include consumer products such as appliances, food and medication.

The Trans Mountain Pipeline expansion presents an opportunity to increase Canadian oil exports to countries in Asia. The non-U.S. portion of oil exports climbed in the last six months of 2024, when the pipeline went into operation. But this option comes with caveats, as building up the market will take years and the pipeline has its own challenges domestically.

Another possibility to diversify markets is to establish a west-east pipeline to export energy to Europe, but investors have been lukewarm to this option due to costs and logistical and environmental challenges.

The U.S. remains the single largest consumer of Canadian energy products for the foreseeable future.

Auto manufacturing

There are few industries as integrated among Canada, the U.S. and Mexico as the auto industry—meaning tariffs could inflict serious economic harm across the three countries’ economies.

This automotive supply chain accounts for 22 per cent of imports and exports under the Canada-United States-Mexico Agreement (CUSMA), which took effect in 2020.

The supply chain operates with different auto parts being manufactured in different countries, crossing the border seven to eight times before completion.

Twenty per cent of new vehicles sold in the U.S. last year were assembled in Mexico or Canada. According to Bloomberg, the U.S. imported US$37 billion in vehicles from Canada in 2023, along with US$20 billion in auto parts.

For cars produced in the U.S., manufacturers sourced around half of the auto parts from Mexico and Canada with an even higher dependency on some key auto parts. For example, more than 80 per cent of seat belts and airbags and over 60 per cent of meters, windshields and electric conductors were sourced in Mexico and Canada. 

The Detroit-Windsor border crossing had over 2.5 million trucks cross in 2023, a substantial portion of which was related to auto manufacturing. The U.S. market accounts for 91 per cent of Canadian automotive sector exports.

Tariffs could upend this supply chain, while a prolonged dispute could destabilize the sector and affect $250 billion in auto trade.

With retaliation considered, auto parts would be subject to tariffs each time they cross the border, which would cause the cost of production to balloon. By different estimates, tariffs could add $60 billion of additional costs to the industry and may increase the cost of a vehicle in the U.S. by an average of $12,000.

There could also be an increase in delays at border crossings because of customs declarations and payments—which would lead to inefficiencies and higher costs for production and inventory storage. 

The impact on the auto sector would also place a heavy strain on adjacent sectors, including rubber and metal manufacturing, while the ripple effects could extend to the service, transportation, construction and technology sectors. Mid-market and small Tier 2 and Tier 3 suppliers may not have the fiscal power to withstand the shock.

These disruptions could lead to significant job losses, particularly in Ontario. Consumers would also see car prices skyrocket as auto manufacturers operating on single-digit margins will likely be forced to pass on additional costs to consumers.

Under current market conditions, there is not much pricing power. Last year, auto companies had already reverted to discounts and sales incentives to support sales as consumers were squeezed with record-high vehicle prices, high borrowing costs and the lagging effect of inflationary pressures.

Higher prices and fewer model choices could lead to shrinking demand and hamper the industry’s competitiveness in the global market. This is particularly concerning as automakers in China can produce vehicles at much lower costs, while rapid technological advancements in the sector require significant capital investments.

Additional context

The U.S. is Canada’s largest trading partner, the destination of three-quarters of Canada’s merchandise exports and the source of two-thirds of Canada’s imports.

In 2023, merchandise exports from Canada to the U.S. totalled $592.7 billion, while imports reached $484 billion.

Canada is the leading exporter to the U.S. of key commodities like crude oil, auto parts, agricultural products and aluminum. Canada is the largest trading partner to 38 U.S. states.

As part of CUSMA, hundreds of millions of dollars’ worth of goods cross borders daily with minimal-to-no customs. This relationship is deeply entwined in the countries’ manufacturing and consumption patterns, while industries like energy, auto manufacturing, mining, agriculture and consumer products have flourished; companies in these sectors in both countries have become global leaders.

Broader implications

The most immediate impact on Canadian businesses and consumers comes from trade policy uncertainty. The Canadian dollar has already dropped to multi-year lows because of the differential in the interest rate and growth rate between Canada and the U.S., alongside the repeated threats of tariffs.

The rapid introduction of tariffs, and the uncertainty it brings, could cause production shutdowns and supply chain paralysis—with some fearing the auto sector could come to a halt within a week.

With the loonie expected to stay low through early 2025, imports would be more expensive and consumers would pay more for goods from the United States. Conversely, a cheaper loonie would benefit exporters.

Tariffs between Canada and the U.S. have precedent. During Trump’s first administration, tariffs on Canadian steel and aluminum—as well as Canada’s reciprocal tariffs—were in place for just over a year.

Given how intertwined the auto industry is and the challenges of establishing a manufacturing footprint, it is not feasible to completely untangle the countries’ auto supply chain.

It’s the importers who pay the tariffs, which would be U.S. producers or distributors in this situation. Those costs would be passed along to both Canadian and American consumers, lifting inflation and shrinking supply.

The takeaway

The U.S. is Canada’s most important trade partner by a wide margin. Even the notion of new U.S. tariffs casts trade uncertainty over Canadian businesses. The introduction of tariffs could keep the Canadian dollar low and cause an uptick in inflation as possible supply chain disruptions loom.

A drawn-out tariff dispute between Canada and the U.S. would have a prolonged effect on deeply interconnected supply chains and could lead to a complete reshaping of Canada’s manufacturing footprint and trade patterns by pushing companies to redirect investments and diversify trading relationships.

Direct losses from tariffs, alongside second-order effects due to political and economic uncertainty, would have a severe effect on business investment decisions, with companies rolling back their capital investment, expansion projects, research and development, new product launches and acquisitions.