Mexico: Banxico hikes more than expected following Fed's move in December
December 15, 2016
A day after the Federal Reserve announced a widely-expected interest rate hike, Mexico’s Central Bank (Banxico) responded to the move with a higher-than-expected interest rate increase. On 15 December, Banxico raised the target of the overnight interest rate by 50 basis points to 5.25% and thus delivered its fifth 50 basis-point rise of 2016. The increase doubled the 25 basis-point hike market participants had foreseen.
After reaching historic lows following Donald Trump’s victory in the U.S., the Mexican peso took a breather following Banxico’s last announcement of 2016. However, despite a massive 250 basis-point increase in Mexico’s main monetary policy rate in 2016, the peso’s real effective exchange rate is the weakest since the Tequila Crisis of 1995.
Mexico’s Central Bank noted in its statement that the country is facing increasing risks and Benito Berber, Senior Latam Strategist at Nomura, sheds some light on these:
“In terms of the communique, we highlight the following takeaways: The balance of risks for growth, according to the communique, continued to deteriorate. This was due to potential protectionist policies by the upcoming US administration. The balance of risks for inflation also continued to deteriorate, due FX pass-through, hikes to the minimum wage and liberalization of gasoline prices.”
Mexico’s Central Bank is waging a battle to try to support the national currency and is one of the most aggressive emerging-market central banks in terms of hiking, even when inflation has been lingering around the Bank’s official target of 3.0% and despite a cooling in industrial production and stagnant investment. However, it seems that the Bank is so far losing the battle. The Mexican peso is hovering above 20 MXN per USD, remains vulnerable and shows no signs yet of declining below that mark. What is more, the Central Bank remains concerned about the recent changes in the U.S. Fed’s monetary policy, along with expected changes in U.S. fiscal policy.
On top of recent monetary concerns in Mexico, Donald Trump’s arrival comes as Agustín Carstens is due to quit as Banxico’s Governor in July 2017 to head the Bank of International Settlements. So far, there is no word regarding his successor. Heading into 2017, it seems that Banxico will follow a similar monetary tightening cycle as the Fed, although, as Alexis Milo, Chief Mexico Economist at HSBC notes:
“Looking into 2017, our view is that subsequent moves from the Mexican central bank will come in tandem with the Fed. In this regard, although the Committee's median projection for 2017 is now for three 25bp rate hikes, our US economists are not changing their view that only two rate hikes are likely in 2017. Thus, we anticipate two rate hikes of 50bp each in line with the Fed's expected timing according to our US economists. More specifically, we are expecting that Banxico may hike 50bp for every 25bp hike from the Fed. However, this view assumes that the exchange rate does not appreciate significantly from current levels, a scenario that would call for a slower pace from Banxico.”
Author: Ricardo Aceves, Senior Economist