Mexico: Banxico hikes rates ahead of 1 July vote as peso freefalls
At its 21 June monetary policy meeting, Banxico’s five-member board unanimously voted to raise the policy rate by 25 basis points to 7.75% after pausing its hiking cycle in April and May, a move broadly in line with market expectations. The decision came less than two weeks ahead of the consequential 1 July general election and amid growing concerns over inflation, which officials fear is getting hit by the recent nosedive of the peso.
Concerns over the ongoing renegotiation of the North American Free Trade Agreement (NAFTA), as well as the upcoming vote, which will likely see leftist Andrés Manuel López Obrador (AMLO) win the presidency, have battered the peso since mid-April. As pass-through pressures continue hitting consumers, inflation could face significant upside risks over the coming months and possibly break with its ongoing convergence toward the midpoint of Banxico’s 3.0% target. Officials noted that higher fuel costs, rising U.S. bond yields and new U.S. tariffs on steel and aluminum imports could also delay the convergence of inflation toward target. Although year-end inflation expectations continue to hover near 4.0%, the peso’s freefall ahead of next month’s ballot pushed officials to hike rates in an effort to maintain the pace of convergence.
June’s communiqué took a hawkish stance amid the deteriorating outlook for inflation ahead of the 1 July vote. Concerned over the further depreciation of the peso and the effect of greater uncertainty on inflation expectations, officials made clear they could act again in the coming months if necessary. Most pressingly, officials will be keeping an eye on the outcome of next month’s election and how it moves the peso. Although most FocusEconomics analysts see Banxico pausing rates through year-end as uncertainty over NAFTA and the election wears off, a small minority see rates ticking down.
Articulating the majority view, Benito Berber, Senior Latam Economist at Nomura, noted:
“Our interpretation of the communiqué is that the main reason Banxico increased its policy rate was because the MXN’s depreciation implied a higher path for inflation. Inflation is also being affected by higher oil prices […] and, albeit temporarily, tariffs imposed by the Trump administration. [Although] we do not discard the potential for additional rate hikes over the remainder of the year, for [end-2018], we continue to forecast the policy rate at 7.75%. For [end-2019], we continue to forecast the policy rate at 7.25%.”
Banxico officials will meet again a month after the general election, on 2 August.