Imagine walking into your local grocery store, only to find that the price of your favorite avocados has spiked overnight. This isn’t due to a bad harvest or increased demand but stems from a policy decision: the imposition of tariffs on imports from Mexico. While intended to protect domestic industries and address concerns like drug trafficking and illegal immigration, tariffs on Mexico and Canada might inadvertently hit American consumers where it hurts most — their wallets.

To understand just how strained relations have become, consider a recent Toronto Raptors game where Canadian spectators booed during the playing of the American national anthem. This behavior is highly unusual for Canadians, who are often stereotyped as overly polite. The boos reflected widespread frustration and resentment over how the US government is treating its northern neighbor. This sentiment underscores how deeply these tariffs and related policies affect economies and international relationships.

The mechanics of tariffs

A tariff is essentially a tax on imported goods. When the US government imposes a tariff, it makes foreign products more expensive for American importers. These importers often pass the increased costs onto consumers in the form of higher prices. For instance, a 25% tariff on Mexican and Canadian goods means that products like fruits, vegetables, and automobiles from these countries could see significant price hikes on US shelves.

Beyond the immediate effect on grocery bills, these tariffs could have a ripple effect throughout the economy. Higher costs for raw materials and components can lead to increased production costs for US manufacturers, which may then be passed on to consumers. Industries such as automotive and electronics, which rely heavily on parts from Mexico and Canada, could see production costs rise, leading to higher prices for consumers. Additionally, retaliatory tariffs from Mexico and Canada on US goods could harm American exporters, potentially leading to job losses in affected industries. 

The case of crude oil

One often overlooked consequence of tariffs on Canada and Mexico is their impact on crude oil imports. Canada is the largest supplier of crude oil to the US, followed by Mexico. Together, they far exceed crude oil imported from all OPEC countries combined. Imposing tariffs on this critical energy supply could significantly raise fuel costs for American consumers, affecting everything from transportation expenses to heating bills. This added cost would ripple through the economy, increasing the price of goods and services that rely on fuel for production and distribution.

Crude oil reaches US refineries through several transportation methods: pipelines, tankers, barges, and trucks. According to the US Energy Information Administration (EIA), pipelines are the dominant mode of transportation, especially for Canadian crude, due to an extensive cross-border pipeline network. Most Canadian oil pipelines deliver crude directly to US refineries in the Midwest, highlighting Canadian crude’s critical role in sustaining these operations. Pipelines like the Enbridge Mainline and Keystone system transport medium-heavy sour crude, which is essential for producing diesel and other heavy products. Disrupting this flow with tariffs could severely impact refinery output in this region, leading to broader supply chain issues. 

Mexican crude, on the other hand, is primarily shipped via tankers to US Gulf Coast refineries. Tariffs on Canadian and Mexican crude could disrupt these efficient, cost-effective supply chains, forcing reliance on pricier alternatives and driving up fuel costs domestically. (eia.gov)

Crude oil isn’t one-size-fits-all. It varies in sulfur content and density, classified as sweet or sour and light or heavy. Sweet crude has low sulfur and is easier to refine into products like gasoline, while sour crude has higher sulfur content, requiring more complex processing. Light crude flows easily and is best for fuels like gasoline and naphtha, whereas heavy crude is thicker and better suited for products like diesel and heating oil.

The US shale industry produces around 9 million barrels per day (Mb/d) of light sweet crude, which is ideal for gasoline, lighter fluid, and natural gas liquids (NGL). However, US refiners only use a portion of this output, leading to exports of approximately 4 Mb/d. Expanding shale production will only yield more light sweet crude, which cannot replace the medium-heavy sour crude imported from Canada. The US imports about 6–7 Mb/d of mostly medium-heavy sour crude, driven by the demand for diesel and heavier products. Of this, approximately 4 Mb/d comes from Canada. These imports are irreplaceable in the short term, as US production cannot meet the specific quality and volume requirements.

Only Saudi Arabia, Kuwait, and Iraq could potentially replace some of the Canadian crude, but the US has aimed for decades to reduce dependence on Middle Eastern oil.

The broader fallout of tariffs

The situation might even be more difficult for Canada, as the US accounts for a staggering 77% of all exports. Among hydrocarbons, America’s share is close to 90%. If Canada wanted to redirect crude oil towards other markets, new pipelines and export infrastructure must be built first. Canada might hence be forced to lower its prices to compensate for tariffs. This might cushion the blow for US consumers but devastate Canadian profit margins.

While one of the motivations for these tariffs is to address issues like drug trafficking, it’s worth noting that Canada has already pledged to act on fentanyl in 2024. The Canadian government announced plans to strengthen border security and enhance its immigration system to curb the illegal flow of substances. This initiative questions the necessity of punitive economic measures like tariffs when cooperative solutions are already in progress. The declaration of an ‘emergency’ was used to circumvent following normal procedure for the introduction of tariffs, which would have taken some time.

The cumulative effect of these tariffs could be substantial for American households. Estimates suggest that the typical US household could face additional costs exceeding $1,200 annually due to increased prices stemming from the tariffs. (piie.com) This added financial burden could strain budgets further for families already grappling with inflation and stagnant real wages.

Concerns from the business community further underscore the risks of these tariffs. According to the January ISM Report on Business, correspondents expressed concern over rising prices and potential supply chain disruptions. Tariffs on key trade partners like Canada and Mexico could exacerbate input costs and slow supplier deliveries, hindering sustained growth and stability. (ismworld.org)

A German pharmaceutical CEO complained to me that the threat of tariffs absorbed management attention, as contingency plans had to be devised. 

My contact at a family-owned American importer of household goods from China admitted to having purchased one year’s worth of supplies in anticipation of tariffs. Sudden increases in orders lead to overtime work and strained capacities at supplies, only to see a sharp fall-off in orders once tariffs are enacted. 

Large swings in orders and capacity use lead to decreased margins and possibly to forced labor reductions. Companies are unlikely to hire additional staff during times of high uncertainty. The threat of tariffs might, therefore, cool the labor market.

America’s northern and southern neighbors won’t forget how they were treated. Burned once, companies might look for alternative markets to reduce dependence on the US market. Once regarded as a strong proponent of free trade, the US might not be considered a reliable trading partner going forward. Speaking loudly and carrying a big stick might end up being a shot in one’s own foot.

[Anton Schauble and Nicolette Cavallaro edited this piece.]

The views expressed in this article are the author’s own and do not necessarily reflect Fair Observer’s editorial policy.