President Donald Trump will seek a tax on goods imported from Mexico and use the revenue to build a border wall, the White House spokesman has said.
The plan was announced just after the Mexican president cancelled a visit to Washington, amid a row sparked by the question of who will pay for the wall.
But soon after revealing it, the White House said that was only one option.
Mr Trump on Wednesday signed an executive order to create a wall on the US southern border with Mexico.
Making Mexico foot the bill - which Republicans say could be $12-15bn - was one of his key election campaign pledges.
But President Enrique Pena Nieto has always insisted that will not happen and on Thursday he pulled out of next week's White House meeting.
Hours later, White House spokesman Sean Spicer told reporters the president had discussed the funding proposal with lawmakers, and it could be part of a tax reform package the US Congress is planning.
He said that a 20% tax could generate approximately $10bn (£8bn) in tax revenue per year.
"Right now our country's policy is to tax exports and let imports flow freely in, which is ridiculous", Mr Spicer said aboard Air Force One, adding that the tax will "easily pay for the wall".
But Reince Priebus, the White House chief of staff, later said that the border tax is only one of several options being considered.
Border tax unacceptable - Will Grant, BBC News, Mexico City
President Pena Nieto would have been perceived as very weak if he had travelled to Washington for talks and for many here it would have been tantamount to accepting Mr Trump's central claim - that Mexico will pay for the US border wall.
If that is not up front, then it may come eventually - perhaps under the latest proposal being floated by Donald Trump's White House, a massive 20% border tax on Mexican imports.
As Mexico exports some $300bn of goods a year to the US, the impact of such a proposal would be felt across the country.
Furthermore, the idea of funding a wall through a new tariff is simply unacceptable to most ordinary Mexicans who view the wall as unnecessary, inhumane, expensive and ineffective.
As their elected leader, at least for the next 18 months, Enrique Pena Nieto was left with little option but to deliver that message to the White House - by not going there in person.
The rift between the neighbours and trade partners has deepened just days into Mr Trump's presidency.
After Mr Pena Nieto pulled out of the summit, Mr Trump said the meeting would have been "fruitless" if Mexico didn't treat the US "with respect" and pay for the wall.
Earlier Mr Pena Nieto said he "lamented" the plans for the barrier.
In a televised address, the Mexican leader told the nation: "I've said time and again: Mexico won't pay for any wall."
Republican Senator Lindsey Graham warned that US consumers may wind up bearing the cost of the proposed tax.
"Any tariff we can levy they can levy. Huge barrier to econ growth", he wrote online.
"Build that wall" was one of Mr Trump's campaign rally slogans, referring to the construction of a barrier along the 2,000-mile (3,200km) boundary.
As he signed the directive at the Department of Homeland Security, he spoke of a "crisis" on the southern US border.
His executive orders also called for hiring 10,000 immigration officials to help boost border patrol efforts.
"A nation without borders is not a nation," Mr Trump said. "Beginning today the United States gets back control of its borders."
In other developments on Thursday:
- UK Prime Minister Theresa May addressed a group of Republican Congressmen ahead of talks with President Trump. She called for an end to foreign interventions overseas to "remake the world in our own image"
- Chief White House strategist Stephen Bannon said that the media should "keep its mouth shut and just listen for a while" and that he views the press as "the opposition party"
- The White House is planning additional executive actions in the coming days, one of which will reportedly curb refugee admissions
- Mr Trump told US media that he had made his selection for Supreme Court nominee, and will announce the name next Thursday