Bank of Mexico to keep rates on hold at 7.75% – TDS

Next week, the Governing council of the Bank of Mexico will meet. Analysts at TDS expected the central bank to keep the key rate on hold at 7.75%. They see little market reaction from a hold and a rally in MXN on an unexpected hike but they warn that move could ne brief as the hike would likely be accompanied by neutral forward-looking policy guidance.

Key Quotes:  

“We actually believe that this policy decision is a much less difficult call than the June meeting, thanks to the key driver of June’s decision, put in the context of the current situation. The weakness in MXN, driven by a heightening NAFTA concerns and exacerbated by a lack of liquidity due to high uncertainty regarding the upcoming election, was the key factor in generating Banxico’s last hike.”

“Though very near-term inflation outcomes indicated by the July bi-weekly print showed a cessation in decline and thus a stabilization in the pace of year-on-year decline in the core aggregates, overall core and core service prices continue to look stable. Thus we don’t think that inflation dynamics will be of major concern for Banxico.”

“Given that the peso was the key driver of the policy move in June, the current strength in the peso gives us confidence that the rebound will allow Banxico to remain on hold at 7.75%, what we currently see as the peak of the hiking cycle.”

“Ultimately we expect that Banxico will much prefer to keep a degree of powder dry in order to address future MXN volatility and depreciation, should NAFTA negotiations take a turn for the worse (not our base case).”

“We continue to believe that the MXN trajectory is more of an input into Banxico’s monetary policy decision than a resulting “output” unless Banxico undertakes a very unexpected turn in policy.”

“We see risk that Banxico does not begin easing at the last meeting of this year (our call) if NAFTA negotiations are not completed by then. This in turn implies less support for MXN, and less of a chance that inflation and inflation expectations decline substantially enough by then for Banxico to feel comfortable signalling a start to the easing cycle.”