Banxico Holds Key Rate, Betting Inflation Spike Is Temporary

(Bloomberg) --

Mexico’s central bank voted to hold its key interest rate near a five-year low, betting that a price spike that sent the inflation rate to more than double its target will be temporary.

Banco de Mexico, led by Governor Alejandro Diaz de Leon, kept borrowing costs at 4% on Thursday, after consumer price increases hit 6.1% in April, far beyond its 3% target. All 24 economists surveyed by Bloomberg predicted the decision, as board members seek to keep injecting crucial stimulus even while prices climb.

“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. “Given the recent shocks that have affected inflation, it is necessary for the adjustment in relative prices to take place in an orderly manner so that an impact on price formation and inflation expectations is avoided.”

The board also said that while inflation has been accelerating faster than the bank’s own expectations, it still expects it to converge to target starting in the second quarter of 2022. The next rate decision announcement is scheduled for June 24.

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, making just one quarter-point cut in its last five meetings since November.

“Banxico continues to see current high inflation as transitory. What is new is that Banxico is now, finally, saying that the balance of risks to inflation is to the upside. We think this is still timid and shows an overall dovish board, but it’s a step in hawkish direction,” said Carlos Capistran, an economist at Bank of America Corp., who sees the bank holding rates for the rest of the year.

Deputy Governor Gerardo Esquivel said last month he expects the inflationary spike to be temporary, since prices are being compared against a deep slump this time last year, a phenomenon known as the base effect. Most economies, from the U.S. to Chile, are also experiencing a similar price impact.

While Esquivel sees inflation falling below the bank’s 4% target ceiling in July, some economists are less optimistic, starting to anticipate a rate hike in late 2021 or early 2022. Mexican swap markets are still pricing about 50 basis points in rate hikes in the second half of this year after Thursday’s decision.

Read More: Latin American Central Bankers Stung by Food Inflation Jump

“This looks pretty neutral,” Claudia Ceja, a strategist at BBVA in Mexico City, said about Banxico’s decision. “It could have been a little more hawkish, but they’re holding on.”

Food Inflation

Mexican food staples such as tomatoes, avocados and tortilla led the price increases in April, suggesting inflation is hurting the poorer segments of the population. President Andres Manuel Lopez Obrador last week called for inflation to be kept in check to stop consumers suffering extra costs.

High prices will continue “due to real inflationary pressures caused by the economic reopening in the Mexican services sector and the global increase in commodity prices,” said Gabriela Siller, director of economic analysis at Grupo Financiero BASE.

In the absence of significant fiscal stimulus by Lopez Obrador’s government, Banxico has done most of the heavy lifting in battling last year’s 8.2% contraction -- Mexico’s worst in nearly a century. The country also benefited from record remittances from Mexican workers in the U.S.

Latin America’s second-largest economy is expected to recover 5% this year, according to the International Monetary Fund.

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