Mexico Trims Key Rate to 3.5% Saying More Cuts Not Advisable

Mexico’s central bank cut the benchmark interest rate to a record low and signaled that this will be the last reduction in borrowing costs. Interest rate swaps increased.

Banco de Mexico reduced the overnight lending rate by 25 basis points to a record-low 3.50 percent, saying that reducing borrowing costs below this level wouldn’t be advisable. The cut was forecast by 21 of 26 economists surveyed by Bloomberg. Three expected a half-point reduction, while two predicted rates would stay on hold.

“Additional reductions to the benchmark interest rate aren’t recommended in the foreseeable future,” the central bank said in the statement accompanying the decision. “Taking into account the expected fiscal policy, the board considers that the monetary stance is in line with” inflation slowing to the 3 percent target.

Six-month interest rate swaps rose seven basis points, or 0.07 percentage point, to 3.83 percent after the rate decision. The peso gained 0.7 percent to 12.8812 per U.S. dollar at 5:17 p.m. in Mexico City.

The central bank’s signal that it won’t reduce interest rates further means Mexico will be counting on government spending to spur an economic rebound, said Alonso Cervera, chief Mexico economist for Credit Suisse Group AG.

Government Spending

“The bank has done its job bringing down inflation and stimulating the economy,” Cervera said in an e-mailed response to questions after the decision. “Now it’s the turn for fiscal policy to spur growth.”

Annual inflation in the first half of October eased to 3.27 percent, the slowest since January.

President Enrique Pena Nieto plans to step up spending next year and run a budget deficit in a bid to jump-start an economy that expanded in the first half of the year at the slowest pace since contracting in 2009 amid the global financial crisis.

The government has lowered its 2013 economic growth forecast by more than half as a drop in public spending, stalled exports and the devastation from twin hurricanes curtailed demand and investments.

The central bank reduced the key rate by a quarter point on Sept. 6 in a 3-to-2 vote. The move surprised all but one of 20 analysts surveyed by Bloomberg, who expected borrowing costs to be kept unchanged. In March, policy makers had already surprised economists by reducing borrowing costs by half a percentage point.

Growth Forecast

The government cut its growth forecast to 1.7 percent last month from 3.5 percent at the start of the year, after industrial production contracted 0.6 percent in the second quarter and retail sales shrank in two of the past three months.

Economists estimate an even lower annual expansion rate of 1.2 percent for this year, one-third the pace of last year’s 3.9 percent growth, according to an Oct. 22 survey by Citigroup Inc.’s Banamex unit. They expect inflation to end the year at 3.53 percent, down from the 3.69 percent they projected Oct. 7.

Slower growth in the second half of this year will help rein in consumer-price increases, the central bank said today. Annual inflation has slowed in each of the past five months to 3.39 percent in September. The central bank targets inflation of 3 percent.

Company Sales

Subdued demand is cutting into companies’ sales. Firms on the stock exchange have reported third-quarter net income of 3.7 billion pesos ($290 million) through 4 p.m. in Mexico City, 21 percent less than analysts’ estimates, according to data compiled by Bloomberg. Earnings season ends Oct. 28.

Cemex SAB, the largest cement maker in the Americas, said its third-quarter sales in Mexico dropped 11 percent to $776 million, the smallest revenue figure in more than three years in the company’s home market.

“In Mexico, our volumes during the quarter continued to reflect the slower-than-expected levels of investment in infrastructure and housing,” Cemex Chief Financial Officer Fernando Gonzalez said in a conference call with analysts and investors Oct. 24.

Government spending fell 2.7 percent in real terms to 2.5 trillion pesos in the first eight months of 2013 compared with the year-earlier period, according to the Finance Ministry.

The government is requesting authorization from Congress to run a budget deficit equivalent to 1.5 percent of gross domestic product in 2014 to help jump-start the economy after congress approved a balanced budget for this year. The president is also proposing an end to the 75-year state monopoly on oil drilling to attract foreign investment.

Rafael De la Fuente, an economist at UBS AG in Stamford, Connecticut, said the government’s proposal to increase the deficit may have influenced Banxico’s decision to signal there won’t be further rate cuts.

Banxico has seen “enough signs that the worst of the downturn is behind us,” De la Fuente said in a telephone interview. “The fiscal package is probably not as aggressive as they would have liked in terms of ensuring long-term macro-economic stability and how that pertains to inflation.”

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