Mexico Holds Key Interest Rate Unchanged as Inflation Surges
The Banco de Mexico building stands in Mexico City, Mexico. (Photographer: Susana Gonzalez/Bloomberg)

Mexico Holds Key Interest Rate Unchanged as Inflation Surges

Mexico’s central bank unanimously voted to hold its key interest rate at its lowest in almost five years amid surging inflation, though analysts are split on whether its easing cycle is over.

Banco de Mexico, led by Governor Alejandro Diaz de Leon, kept borrowing costs at 4% on Thursday, after price increases sped beyond its target ceiling in early March. Seventeen of the 24 economists surveyed by Bloomberg predicted the hold. The remaining seven expected a quarter-point cut, with several analysts revising their reduction calls after the surprise 4.12% inflation data was posted Wednesday.

“In a highly uncertain environment, the risks for inflation, economic activity and financial markets pose major challenges for monetary policy,” the bank’s board wrote in a statement. “It is necessary to enable an orderly adjustment of financial conditions and a change in relative prices.”

Mexico Holds Key Interest Rate Unchanged as Inflation Surges

The Mexican peso strengthened after the announcement and gained 1.3% to 20.66 per dollar at 4:36 p.m. in New York, the most among the world’s top currencies.

After an aggressive easing cycle that lowered rates from 8.25% since August 2019, the bank known as Banxico has recently taken a more careful approach, refraining to cut in its November and December meetings before unanimously deciding on a quarter point reduction last month.

While Deputy Governor Gerardo Esquivel told Bloomberg News on Feb. 12 that the bank could have space for at least two more cuts in 2021, the bank’s statement didn’t specify whether there might be a window to cut later in the year. Inflation’s spike, a depreciation of the Mexican peso and rising U.S. Treasury yields have added pressure to prevent more monetary easing.

“It is not clear that Banxico is closing the door to future cuts, and Banxico is not giving any forward guidance,” Carlos Capistran, an economist at Bank of America, said. “So the statement leaves all the doors open, which is not good for volatility.”

Mexico Holds Key Interest Rate Unchanged as Inflation Surges

MEXICO REACT: New Inflation Outlook Closes Door for More Cuts

​Swap traders were pricing more than 90 basis points in Banxico hikes by the end of the year before the decision. But the statement “tries not to validate” those expectations, said Jessica Roldan, chief economist at Finamex. The board minimizes some worries about inflation, she argued, including by suggesting current highs will be transitory since they are being compared against last year’s deep slump in energy prices.

Other economists argued that language around changing risks suggested the board was done with rate cuts.

“The fact that it was unanimous grabs your attention and they’re saying the circumstances have changed,” said Gabriela Siller, director of economic analysis at Grupo Financiero BASE. “It’s evident that it’s less accommodative and that there are different conditions--that makes me think that monetary policy is taking a turn.”

In the absence of significant fiscal stimulus by the government of President Andres Manuel Lopez Obrador, it’s Banxico that’s done most of the heavy lifting in battling last year’s 8.2% contraction -- Mexico’s worst in nearly a century. Economic activity declined 5.4% year-on-year in January, double the 2.7% reduction registered in the previous month, the country’s statistics institute said Thursday.

In keeping rates unchanged against last month’s expectations for a cut, the bank is leaning toward the more hawkish approach of other large emerging economies so far in 2021. Brazil, Russia and Turkey have all hiked borrowing costs last week.

“Higher energy prices and growing domestic policy and financial risks have put Mexico’s central bank in a very challenging situation,” Andres Abadia, chief Latin America economist at Pantheon Macroeconomics, wrote in a post-decision note to investors. “This was probably the last opportunity to cut rates this year. Unfavourable base effects, the lagged effect of rising energy prices, and temporary supply shocks will all push inflation higher over the next few months.”

Keeping rates on hold for a long period could also put further pressure on Latin America’s most-traded currency. The peso has already lost 3.7% this year as rising U.S. Treasury yields and emerging-market volatility drove an exodus of foreign investors out of the nation’s local bonds.

Since January, a majority of the five-member board has been made up of members appointed by Lopez Obrador, who has called for lower rates in the past. The refusal to cut suggests the board still holds the bank’s traditional concerns over financial stability, rather than solely focusing on supporting economic growth.

©2021 Bloomberg L.P.

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