US Dollar Forecast: Rally Stalls as Mexico Secures Tariff Reprieve, Canada Hits Back

Dollar Rally Cools as Mexico Negotiates and Canada Retaliates

The U.S. dollar remains elevated against a basket of major currencies but has retreated from its session highs as traders take profits following its recent surge. Market sentiment has shifted slightly after Mexico secured a temporary reprieve from U.S. tariffs, while Canada responded aggressively with retaliatory measures. These developments suggest that President Donald Trump may be open to negotiations, potentially capping further dollar strength.

At 15:50 GMT, the U.S. Dollar Index is trading 108.780, up 0.279 or +0.26%. This is down from the intraday high of 109.881.

Dollar Strengthens as Tariffs Drive Market Volatility

The dollar initially soared on Monday as U.S. tariffs on Mexico, Canada, and China fueled concerns of a deepening trade war. The greenback’s broad rally pushed the Canadian dollar and Mexican peso to multi-year lows, while China’s offshore yuan hit a record trough. Other major currencies, including the euro and Swiss franc, also saw sharp declines against the dollar.

As anticipated, Canada and Mexico retaliated immediately. Canadian Prime Minister Justin Trudeau announced tariffs on $155 billion worth of U.S. goods, including household products and consumer goods. Meanwhile, Mexican President Claudia Sheinbaum condemned the tariffs and vowed countermeasures but refrained from providing specific details. The immediate pushback raised fears of a sharp contraction in global trade, reinforcing the dollar’s safe-haven appeal.

Tariffs Expected to Fuel U.S. Inflation and Fed Rate Outlook

The new tariffs are widely expected to drive up U.S. inflation, strengthening the case for the Federal Reserve to keep interest rates elevated. Futures markets have already adjusted expectations, with traders now pricing in a reduced likelihood of Fed rate cuts this year. This shift in monetary policy outlook has provided additional support for the dollar, despite concerns over the broader economic impact of trade restrictions.

While markets initially anticipated a prolonged standoff, Mexico’s willingness to negotiate offers a potential path to easing tensions. Sheinbaum announced that Mexico had secured a one-month pause on the tariffs by agreeing to deploy 10,000 National Guard troops to curb illegal drug trafficking at the U.S. border. This development has introduced an element of uncertainty, as traders weigh the possibility of a diplomatic resolution.

Canada’s Aggressive Response Could Complicate Trade Talks

Unlike Mexico, Canada has taken a harder stance, signaling that it will not back down without strong concessions from the U.S. The Trudeau administration’s swift countermeasures could escalate tensions, potentially leading to broader supply chain disruptions. The removal of American alcoholic products from Ontario’s government-run liquor stores is just one example of the economic retaliation in motion.

China, meanwhile, has opted for a measured response, filing a formal complaint with the World Trade Organization while warning of potential countermeasures. The Chinese yuan remains under pressure, with the offshore exchange rate touching record lows. However, Beijing’s restrained reaction suggests that it may be seeking a de-escalation rather than an immediate trade war.

Market Forecast: Dollar Strength Faces a Ceiling on Trade Negotiations

While the dollar remains firm, its rally may be limited if Mexico’s negotiations with the U.S. lead to further tariff delays. The market will closely watch any discussions between Trump and his counterparts in Canada and Mexico. A potential softening of trade tensions could weaken the dollar’s momentum, particularly if risk appetite returns to equity markets.

For now, traders should expect continued volatility as trade policy developments unfold. The dollar remains in a strong position, but a breakthrough in negotiations could shift sentiment, curbing its advance.

More Information in our Economic Calendar.