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The Canadian dollar is stuck at its weakest point of the year so far following news that its southern neighbour is considering new tariffs on imports of the country’s softwood.

US commerce secretary Wilbur Ross said in the FT yesterday that the US would impose “countervailing duties” of up to 24 per cent on five Canadian lumber exporters – a move described by Canada as “unfair and punitive”.

It has left the US dollar up as high as C$1.3575 on Tuesday, up by 1 per cent from its lowest point on Monday.

Morgan Stanley notes that the announcement from the US has come somewhat earlier than expected, and says the weakness could prove infectious:

In particular, the US appears to have responded to Canada’s long held import taxes on dairy products. This measure has put the emphasis back on Nafta, suggesting the Mexican peso and the Canadian dollar will stay under selling pressure for now. Since the focus is now also on the dairy trade, the New Zealand dollar should see further weakness.

While Derek Halpenny at MUFG cautions that unlike its Mexican cousin, the Canadian dollar (known as the loonie) is not braced for trouble.

The loonie has been fairly stable since the election of President Trump highlighting that there is little risk premium priced in to account for potential trade disruption. On the other hand, the higher price of oil and the Bank of Canada’s recent decision to bring forward plans for rate hikes in 2018 should continue to offer support for the loonie which is already weak.

Sebastien Galy at Deutsche Bank in New York thinks it’s all an over-reaction in the currencies market, but a forceful one nonetheless.

We see some short-term upside risk to our 1.35 three month central scenario on the back of a short-term tit-for-tat trade war.

The softwood lumber dispute, which has been ongoing to some degree since 1982, would be a litmus test for how the US would first approach its trade agenda. What is noteworthy is the states that this wood goes to – the top ten are Washington, Texas, New York, Oregon, Michigan, Pennsylvania, Massachusetts, Minnesota, North Carolina and Illinois – all are politically important in the 2018 midterm elections to varying degrees. This highlights the highly political nature of trade disputes – it has less to do with broader macro-economic arguments.

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