Mexico Likely to Hold Rate as Weaker Peso Boosts Inflation Risk

Mexico’s central bank will probably keep its overnight rate at a record low as policy makers balance slowing growth with above-target inflation and a weakening currency in Latin America’s second-biggest economy.

Banco de Mexico, led by Governor Agustin Carstens, will maintain the overnight rate at 4 percent today, according to all 23 economists surveyed by Bloomberg. The peso has plunged 3.7 percent since Federal Reserve Chairman Ben Bernanke signaled May 22 that the Fed could dial back its monthly bond-buying program. Bernanke said July 10 that the U.S. needs “highly accomodative monetary policy for the foreseeable future.”

Annual inflation remains above the bank’s 2 percent to 4 percent target range and economists have lowered their growth forecasts for this year to the slowest pace since the 2009 recession. While sluggish growth may seem to favor a rate cut, the weaker peso has increased risks inflation will accelerate, complicating Carstens’s decision, said Benito Berber of Nomura Holdings Inc.

“The outlook for monetary policy has changed,” Berber, a New York-based strategist at Nomura, said in a telephone interview. “Cutting in this scenario doesn’t go well with stopping second-round effects of the foreign exchange depreciation on inflation.”

Emerging Markets Rally

The decision comes after emerging-market assets rallied yesterday on Bernanke’s statements and confidence that China will bolster growth, with stocks climbing the most in 10 months. Mexico’s main stock index climbed 1.2 percent. The peso gained 0.7 percent yesterday to 12.8061 per dollar.

Central banks in Brazil and Indonesia raised their benchmark rates this week, while yields on Egyptian bonds fell to their lowest in five weeks as the country’s army-backed government won pledges of support in its efforts to revive the economy. The Standard & Poor’s 500 Index climbed to a record.

In Mexico, annual inflation eased more than economists expected to 4.09 percent in June from a seven-month high of 4.65 percent in April as fresh food prices slid. The central bank said in its previous rate decision, on June 7, that price increases will slow to within the target range in the second half of the year.

Despite the positive inflation news, the peso yesterday was 6.5 percent below a two-year high reached in May before Bernanke’s comments about the bond-buying program. A weaker peso drives up the cost of imports, which can trigger inflation.

‘Tied Hands’

“Bernanke’s words have generated a material depreciation of the Mexican currency,” said Alberto Bernal, the head of fixed-income research at Bulltick Capital Markets in Miami. “That has tied the hands of Banxico in terms of providing the Mexican economy with additional levels of monetary stimulus.”

Economists now expect Banxico’s next rate move to be a quarter-point increase in November 2014, according to a July 5 survey by Citigroup Inc.’s Banamex unit. In a June 5 poll, economists had forecast a half-point cut in September.

At the same time, economists cut their median annual growth projection to 2.7 percent in the Banamex poll, down from 3 percent on June 5 and less than the government’s 3.1 percent forecast. The government cut its own prediction in May from 3.5 percent after expansion slowed more than expected to 0.8 percent in the first quarter on falling exports.

Mexico’s auto exports, which experienced a boom last year of 9.9 percent growth, declined 1.2 percent during the first six months of the year compared to the same period in 2012.

Threats to growth have “intensified,” central bank board members said in minutes of their June 7 meeting. They left the key rate unchanged after cutting it in March for the first time since 2009.

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