Mexico Unexpectedly Cuts Key Rate for First Time Since 2009

Mexico Central Bank Cuts Key Rate for First Time Since 2009
Banco de Mexico reduced the overnight lending rate by 50 basis points to a record-low 4 percent, a move forecast by just seven of 25 analysts in a Bloomberg survey. Photographer: Susana Gonzalez/Bloomberg

Mexico’s central bank unexpectedly cut its benchmark interest rate for the first time since 2009 as inflation remains within the target range and growth slows. The peso strengthened.

Banco de Mexico reduced the overnight lending rate by 50 basis points to a record-low 4 percent, a move forecast by seven of 25 analysts in a Bloomberg survey. The rest predicted the rate would stay on hold. Latin America’s second-largest economy was the only nation in the Group of 20 to leave borrowing costs unchanged and refrain from buying bonds to ease monetary conditions since July 2009.

Today’s reduction isn’t the start of a longer easing cycle, the central bank, known as Banxico, said in a statement accompanying today’s decision. Several indicators have shown signs of the economy slowing and inflation should ease to about the target level of 3 percent in the second half of the year, after peaking at almost 4 percent in coming months, the bank forecast.

“This environment of stable inflation and lower economic growth that they expect in the coming quarters permits the authorities to fix the rate at a lower level,” Rafael Camarena, an economist at Grupo Financiero Santander Mexico SAB who predicted today’s move, said in a telephone interview after the decision.

Policy Success

The inflation rate fell within the 2 percent to 4 percent target range for the first time in six months in December. While price-growth accelerated to 3.55 percent in February from a 15-month low of 3.25 percent in January, core inflation, which excludes more volatile items, has been within the bank’s range since April 2010.

Central bank board member Manuel Sanchez said in a Feb. 27 interview that he didn’t see a case for a rate cut “at this moment” as inflation remains above the 3 percent target. Monetary policy should “remain vigilant” to risks including food-price increases and financial weakness abroad that could crimp investment in Mexican assets and hurt the peso, he said.

Today’s statement didn’t say if policy makers were unanimous or split over the rate decision.

The rate cut is recognition of “the mid-term achievements in combating inflation and helps the economy adjust to a scenario of less economic growth and inflation,” the central bank said in statement.

Losing Credibility

Yields on fixed-rate government bonds due in 2013 fell 5 basis points, or 0.05 percentage point, to 4.11 percent at 12:16 p.m. in Mexico City. The peso strengthened 0.7 percent to 12.6718 per U.S. dollar today, stretching its gain this year to 1.5 percent after an 8.4 percent rally against the dollar last year that was the best performance among 16 major currencies tracked by Bloomberg.

Banxico said that cutting the interest rate will also help the country handle capital inflows as investors in countries with lower rates seek higher yields in Mexico. Rates are near zero in the U.S. and Japan and 0.75 percent in the euro area.

The central bank may have lost credibility with today’s reduction, said Benito Berber, a Latin America strategist at Nomura Holdings Inc. in New York.

“The kitchen-sink approach to try justifying the cut reveals to us that the case behind the move was not strong,” Berber wrote in an e-mailed research note.

Slowing Down

Mexican industrial production and retail sales fell in December, the first decline in both indicators since Mexico emerged from the 2009 recession. Growth, which exceeded Brazil’s in the past two years, will slow to 3.5 percent this year, the least since 2009, from 3.9 percent in 2012, according to the median forecast of economists surveyed by Bloomberg.

The economy in the U.S., the buyer of 80 percent of Mexico’s exports, stalled in the fourth quarter, growing 0.1 percent, on the biggest plunge in defense spending since the Vietnam War era. Automatic spending cuts that began March 1, combined with tax increases enacted earlier this year, will depress U.S. growth by about half in 2013, according to government projections.

Banxico said today it anticipates short-term risks to the Mexican economy from the U.S. fiscal consolidation and that the world economy has continued showing signs of weakness.

As risks to economic growth continue, inflation remains under control. The core inflation rate has spent the past three months below the 3 percent target and was 2.96 percent in February.

Total inflation rate has fallen from a 30-month high of 4.77 percent in September as egg prices dropped and an increase in chicken prices eased following the end to a bird flu epidemic. Mobile telephone service costs have also fallen 17 percent from a year ago after America Movil SAB, the wireless provider controlled by billionaire Carlos Slim, cut fees it charged to connect competitors to its network.

Banxico’s decision to cut rates today is “fully compatible with lower inflation ahead,” and helps to prevent abrupt changes in capital flows that affect the peso, said Gabriel Casillas, chief economist at Grupo Financiero Banorte SAB, said in a phone interview.

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