The Mexican peso tumbled over 2% to its lowest level in nearly three years against the dollar on Monday, following the United States’ imposition of 25% tariffs on its southern neighbour, marking the first major salvo in a new global trade war.

In response, Mexican President Claudia Sheinbaum ordered retaliatory tariffs, as did Canadian Prime Minister Justin Trudeau, who warned Americans that these tariffs would have real consequences. The tit-for-tat moves prompted investors to seek the safe-haven U.S. dollar, selling off exposed currencies, stocks, and bonds to mitigate potential damage.

Analysts estimate that Mexico ships almost 83% of its exports to the U.S., trade that accounts for more than a quarter of its gross domestic product (GDP). “A broad-based and/or durable tariff scenario with 25% tariffs across all Mexican products will push the economy into recession,” Morgan Stanley analysts noted in a client advisory. They predicted a 5-10% drop in the peso and suggested that retaliatory tariffs from Mexico could drive domestic inflation up by 1-1.5 percentage points, potentially forcing the central bank to maintain high interest rates.

U.S. President Donald Trump’s executive orders mean the 25% tariffs will be applied to Mexican and most Canadian imports starting Tuesday, barring a last-minute deal. China is also set to face an additional 10% tariff on its goods. Trump acknowledged that Americans might feel “some pain” through higher consumer prices, with the trade war’s impact expected to extend far beyond North America.

Monday’s market reaction saw the peso weaken to its lowest level against the greenback since March 2022, dropping 2.1% to 21.1275 per dollar. Options markets indicated more volatility in the coming days. The Canadian dollar also suffered, hitting a 22-year low of C$1.4792 per U.S. dollar during Asian trading hours, before recovering slightly to C$1.4656.

The Mexican currency had strengthened by as much as 3.5% earlier this year, but Monday’s plunge erased those gains. This decline follows a nearly 20% loss in value last year due to tariff and domestic political concerns. JPMorgan analysts, in their initial response to the tariffs, stated, “Fully implemented tariffs with staying power don’t appear to be priced into key markets.” They anticipate an 8%-12% depreciation of the Mexican peso, assuming the USMCA (United States-Mexico-Canada Agreement) remains intact.

While Chinese markets were closed for the Lunar New Year holidays, the yuan also hit a record low in offshore trading. Alejo Czerwonko, Chief Investment Officer for Emerging Markets Americas at UBS Global Wealth Management, remarked, “North American trade has evolved into an increasingly sophisticated economic engine since NAFTA took effect 31 years ago. A large wrench has just been thrown into its works. If tariffs persist, they could inflict serious economic damage across all participating countries.”

Source: (Reuters)