Mexico: Banxico surprises and hikes interest rate by 25 basis points in May
May 18, 2017
At its 18 May monetary policy meeting, Mexico’s Central Bank (Banxico) announced its decision to raise interest rates by 25 basis points to 6.75%. The decision to increase rates was unanimous but confounded market analysts, who had expected Banxico to stand pat until after the U.S. Federal Reserve had hiked its rates at its 12-13 June meeting. Banxico has now raised interest rates by 100 basis points this year and by a total of 375 basis points since the Fed began its tightening cycle in December 2015.
Officials’ decision to hike the main interest rate for the sixth time in a row was largely attributable to worrying inflation dynamics. In April, inflation rose further above the Central Bank’s 3.0% target to a near nine-year high as pass-through pressures from the weakened peso prevailed and one-off price hikes continued to feed through. With the decision, the Bank aims to prevent larger second-round effects from materializing and to ensure that inflation expectations are anchored at below 4.0% in the medium term.
In line with the decision to further tighten its belt, Banxico saw the balance of risks for inflation deteriorating moderately with respect to the previous meeting. The Bank expressed concern and caution as it noted that, while inflationary pressures are mostly stemming from specific shocks to prices and not from aggregate demand, the magnitude and timing of these factors together presented further risks for inflation expectations. The Bank showed confidence, however, that the frontloading of interest rate increases and its willingness to continue hiking will keep knock-on effects at bay. The Bank expects inflation to start improving towards year-end and throughout 2018.
In previous statements the Central Bank had noted its reluctance to hike interest rates independently from the Fed. In consonance with that statement, May’s hike was exclusively motivated by April’s inflation report and did not represent an attempt to decouple from its northern counterpart. As a result, our panel still foresees Banxico hiking rates in tandem with the Federal Reserve through 2017. Beyond that, a quick deceleration in inflation in 2018 could see Banxico reverting to a dovish stance, particularly since the economy’s performance is expected to remain lackluster.
Author: David Ampudia, Economist