07:22 AM EST, 02/04/2025 (MT Newswires) -- It has been a volatile start to the week in foreign exchange markets after United States President Donald Trump performed a last-minute u-turn and delayed the implementation of 25% tariff hikes on Canada and Mexico by one month, said MUFG.

China wasn't so lucky with the further 10% tariff hike taking effect overnight Monday.

The decision to delay tariff hikes against Canada and Mexico has resulted in significant relief rebounds for the Canadian dollar (CAD or loonie) and Mexico's peso (MON), wrote the bank in a note to clients. After hitting a high Monday at 1.4793, USD/CAD has since fallen back towards the 1.4400 level where it was trading towards the end of last week.

Similarly, USD/MXN has fallen back towards recent lows between 20.000 and 20.500 after briefly hitting a high Monday of 21.293. The Chinese renminbi (CNH) has also rebounded even though the 10% tariff hike came into effect overnight. USD/CNH has fallen back from a high Monday of 7.3734 although it continues to trade above the 7.3000 level.

The US dollar (USD) has softened more broadly as well reflecting relief that a wider trade war has been avoided for now, stated MUFG. A clear pattern is now emerging after President Trump threatened but then failed to follow through with imposing tariffs on Colombia, Canada and Mexico at the start of his second term.

It indicates that the threat of tariffs is being used more as a negotiating tool to gain leverage over trading partners rather than an end goal perhaps except for China where he already has a clear record of implementing tariff hikes during his first term as president, pointed out the bank.

President Trump has claimed that the tariff hike threats were successful in helping to tighten border control at the U.S. northern and southern borders. After a call with Canadian Prime Minister Justin Trudeau, he posted that Canada will implement their C$1.3 billion Border Plan including reinforcing the Border with "choppers, technology and personnel, enhanced coordination with the US, and increased resources to stop the flow of fentanyl. Nearly 100,000 frontline personnel are, and will be, working on protecting the Border. In addition, Canada is making new commitments to appoint a Fentanyl Czar."

It isn't exactly clear what it was that changed his mind to suspend tariff hikes for 30 days as the Canadian government had previously announced the C$1.3 billion Border plan in December. The 30-day delayed implementation of the tariffs will allow President Trump to "see whether or not a final Economic deal with Canada can be structured." It suggests that the next stage of negotiations will focus more on addressing Canada's trade relationship with the U.S, added MUFG.

Similarly, President Trump agreed to pause tariff hikes on Mexico after speaking with President Claudia Sheinbaum who "agreed to immediately supply 10,000 Mexican soldiers on the Border. These soldiers will be specifically designated to stop the flow of fentanyl, and illegal migrants into our country." Trump stated that negotiations will take place over the next 30 days headed by Secretary of State Marco Rubio, Treasury Secretary Scott Bessent and Secretary of Commerce Howard Lutnick, and a high-level representative of Mexico to achieve a "deal" between the two countries which is again likely to focus more on their trading relationship.

In contrast, China has hit back immediately by imposing tariffs on a range of U.S. imports and announced a probe into Google after President Trump imposed a further 10% tariff hike overnight Monday. The measured response from China included tariffs on U.S. oil, liquefied natural gas and agricultural machinery, export controls on rare-earth minerals and an expanded entity list.

Overall, the measures are relatively "modest," noted the bank. Bloomberg has highlighted that U.S. exports of oil to China accounted for only around $6 billion in 2024 which compares with the $525 billion of Chinese goods affected by the 10% tariff hike imposed by the U.S. It suggests that China is wary of pushing back to hard against Trump's latest tariffs and is leaving the door open for future negotiations.

The 10% tariff hike could just be the first step of a series of tariff hikes for China after President Trump threatened to raise tariffs as high as 60%. The risk of further disruption to trade between the U.S. and China continues to support MUFG's outlook for a weaker renminbi in the year ahead and negative spill-overs for other Asian and commodity-related currencies.

On the other hand, the decisions to delay tariff hikes for Canada and Mexico make the bank more cautiously optimistic that President Trump will ultimately stop short of implementing aggressive tariff hikes against U.S. allies. The U.S., Canadian and Mexican auto sectors are closely interlinked and the tariff hikes would have been highly disruptive for the U.S. as well.

Nevertheless, the continued uncertainty over trade policy even if tariff hikes aren't implemented is still a headwind for trade and investment in the region. President Trump has also threatened to impose tariffs on the European Union "pretty soon."

While there is more optimism now that he won't back up his words with actions, it remains to be seen how negotiations work out between the EU and Trump. The lingering uncertainty is likely to contribute to the euro continuing to underperform in the near term, according to MUFG.

In contrast, President Trump has expressed more optimism that a deal can be "worked out" with the United Kingdom to avoid tariffs. Alongside the U.K.'s higher share of services exports to the U.S., President Trump's comments have helped to drag down EUR/GBP back closer to last year's lows between 0.82000 and 0.8300.