U.S. tariffs expose vulnerability of Canada’s manufacturing sector

The latest U.S. tariffs pause does not offer much reprieve for Canada’s manufacturing sector. Since a delay is not a guarantor against future enforcement, any disruption could severely affect the industry and lead to wider economic challenges.

U.S. tariffs, and Canada’s retaliatory measures, took effect March 4 before the latest delay in implementation on some goods was announced two days later.

The standoff between the two critical trading partners—which already saw a 30-day pause in February—exposed vulnerabilities in Canada’s economy and trade relationships.

Additionally, U.S. President Donald Trump announced a 25 per cent tariff on all steel and aluminum imports that is scheduled to take effect March 12.

Although those tariffs apply to imports from all countries, Canada will be the most affected by far as the U.S. imports a larger amount of steel and aluminum from Canada than any other country. Of note, aluminum imports from Canada are greater than the next 10 countries combined.

Canada’s 90,000 manufacturers contribute nearly 10 per cent of the country’s gross domestic product (GDP), generate 1.9 million jobs, contribute to one-quarter of Canada’s business research and development spending and account for 60 per cent of Canada’s exports according to the Canadian Association of Manufacturers and Exporters.

Manufacturing is the sector most vulnerable to tariffs due to the deep integration of the Canada-U.S.-Mexico supply chain. A significant 39.4 per cent (641,000 jobs) of Canadian manufacturing jobs rely on U.S. demand.

This dependence is even more pronounced in the auto sector, where 68.3 per cent of jobs are tied to exports to the U.S., reflecting decades of open trade.

While food manufacturing accounts for 16.4 per cent of total manufacturing jobs, a smaller 28.8 per cent of food manufacturing work depends on U.S. demand. This sector plays a crucial, interconnected role in Canada’s overall economy through supply chains, technological innovation and consumer spending.

A broad-based 25 per cent tariff on most Canadian imports into the U.S., together with Canadian retaliation, could significantly shock the sector and potentially lead to:

• The contraction of Canada’s GDP
• Job losses
• Higher prices for consumers
• A weakened Canadian dollar
• A freeze on much-needed capital investments
• A recession in Canada

Canada’s manufacturing sector has faced multiple challenges and economic pressures in recent years, including the pandemic shock, supply chain disruptions, labour shortages, rising costs and rising financing costs. The sector gradually began to recover as interest rates started to drop and the labour market stabilized. The Purchasing Managers’ Index (PMI) for manufacturing even signalled a return to growth at the end of 2024 after a prolonged period of contraction.

The auto industry is especially affected by tariffs; a car can cross the border up to eight times before being fully assembled. Due to the complexity and integration of the supply chain, each border crossing subjects the product to potential tariffs from both the U.S. side and Canadian side, substantially increasing costs. 

Any disruption due to tariffs would stall the progress made by the overall manufacturing sector. Industries that would see a disproportional hit due to the scale of their dependency on U.S. exports and tightly integrated North American supply chains include oil and gas extraction and refining, auto manufacturing, machinery and electronics, base metals production, and processing—particularly steel and aluminum, food supply chain, aerospace, chemical and plastics manufacturing.   

Interconnectivity adds to challenges

Canada, the U.S. and Mexico share deeply intertwined trade relationships built over decades. These relationships have been strengthened by the Canada-United States-Mexico Agreement, which enhanced collective competitiveness by lowering trade barriers and creating seamless supply chains.

With the free-trade agreement set for renegotiation in 2026, a National Association of Manufacturers (NAM) survey found that over 92 per cent of U.S. manufacturers support the agreement’s continuation and continued economic integration between the three countries, citing that implementation of outsized tariffs will have a significant impact on their business.

Despite the mutual interest in the trade relationships and significant implications for both economies that tariffs bring, the Canadian economy is particularly vulnerable to tariffs due to heavy reliance on exports to the U.S. 

In 2023, U.S.-Canada trade amounted to US$713 billion, with close to US$700 billion recorded in the first 11 months of 2024—second after Mexico and surpassing China.

Canada’s export of goods reached C$569 billion (seasonally adjusted annual revenues) in 2023 and contributed 24 per cent to the overall GDP. Since more than 75 per cent of exports went to the U.S., nearly 20 per cent of Canada’s GDP is dependent on trade with the U.S. 

U.S. trade with Canada and Mexico combined generates over US$1.5 trillion annually—more than one-quarter of all U.S. trade. Excluding energy products, the U.S. has a trade surplus with Canada (meaning Canada buys more from the U.S. in ready goods and production inputs) and Canada has surpassed Mexico and China to become the largest export market for the U.S.

That same NAM survey found that over 80 per cent of trade between the U.S., Canada and Mexico consists of manufactured goods, with a significant portion consisting of capital equipment and inputs for other products. One-third of all imported manufacturing inputs in the U.S. comes from Canada and Mexico, and a 25 per cent tariff on these inputs could add an estimated US$144 billion in additional costs for U.S. manufacturers.

A 25 per cent tariff on Mexico and Canada and separate tariffs on Chinese imports would increase the average U.S. tariff rate on imported goods from the current three per cent to over 11 per cent. 

What can be done?

The best outcome would be a successful negotiation that eliminates tariffs or at least exempts key sectors. However, even if the immediate crisis is resolved, trade uncertainty will persist.

Manufacturers should consider taking the following proactive steps to prepare for potential tariffs:

• Understand your supply chains and sourcing practices, identify country-specific risks and vendor concentration vulnerabilities, assess full landed cost of imported goods including tariffs, and explore alternative sourcing strategies and evaluate associated costs.
• Assess tariff planning strategies, including advancing deliveries ahead of the anticipated tariffs and utilizing bonded warehouses, foreign trade zones and duty drawbacks programs.
• Explore expansion into new global markets, diversifying revenue streams and distribution channels.
• Model pricing strategies to determine the feasibility of passing additional costs to customers, as well as negotiate long-term contracts and cost-sharing arrangements with vendors.
• Evaluate long-term shifts in supply chains, production and distribution footprints to be prepared for rapid changes, tariff increases and other trade risks.
• Optimize operations by identifying opportunities for increased efficiency and cost reduction, raising workforce productivity, enhancing profitability throughout the value chain, and prioritizing investments that generate long-term values and deliver high returns on capital outlays. 

Despite trade policy uncertainty, Canada’s manufacturing sector added a staggering 33,100 out of 76,000 total jobs gained in January. This surge, the largest since the pandemic-related wide swings in 2020, signals underlying optimism and is notable due to the struggles of goods-producing sectors in the last five years.

Overall, once Canada regains domestic political stability, it is imperative that businesses revise their strategies so they can withstand disruptions and grow long-term investments, regardless of the outcome of trade negotiations.

Business and political leaders should consider:

• Diversifying trade relationships
• Expanding the outreach to global markets for energy resources and manufactured goods
• Streamlining trade between provinces
• Scaling back regulation and administrative burden on businesses
• Accelerating the completion and efficiency of infrastructure projects
• Considering tax reforms to enhance economic competitiveness
• Boosting the country’s productivity and creating an investment climate and incentives for businesses to innovate, re-invest and commercialize innovations domestically