Mexico Raises Key Rate for First Time Since 2008 After Fed

Updated on
  • Banxico raises one day after Fed; cites danger of inaction
  • Financial stability concern tops slow inflation and growth

Mexico raised borrowing costs for the first time since 2008 following Wednesday’s increase by the Federal Reserve, saying that failing to react to the U.S. move could lead to a disorderly selloff in the nation’s currency and spur faster inflation. The peso erased its loss.

Banco de Mexico’s board, led by Governor Agustin Carstens, boosted the overnight rate 0.25 percentage point to 3.25 percent Thursday from a record-low 3 percent, as forecast by 21 of the 26 economists surveyed by Bloomberg. Five expected no change. The Fed lifted borrowing costs for the first time in almost a decade, exiting record lax monetary policy that encouraged investors to pour money on higher-yielding developing nations.

The Mexican central bank’s forward guidance was little changed from October, with the board saying it will focus attention on Mexico’s monetary posture relative to the U.S., the exchange rate’s impact on consumer prices and the evolution of slack in the economy. While inflation is at an almost five-decade low and growth remains weak, Mexican policy makers have been concerned that the long-awaited rate liftoff in the U.S., Mexico’s primary trade partner, could lead to capital outflows and financial instability in their country.

The central bank wants “to be able to take additional measures with all flexibility and in the moment that conditions require them," the central bank said in the statement accompanying today’s decision.

The peso erased a loss of as much as 1 percent, gaining 0.1 percent to 16.9615 per dollar at 2:38 p.m. New York time. The currency on Monday weakened to its lowest against the dollar since a 1993 re-denomination in anticipation of the Fed’s decision.

The central bank said in its statement Thursday that the growth outlook has improved amid strengthening investment and consumption, and that it sees inflation near the 3 percent target over the next two years.

"We maintain our view that Banxico has some room to hike less than the Fed in 2016 given inflation under control, low pass-through and fiscal consolidation," Carlos Capistran, chief Mexico economist at Bank of America Corp., said in a note to clients."We see very little in the statement to think that Banxico could hike more than the Fed.”

The central bank has spent about $24 billion in 2015 on intervention programs to support the currency amid concern a smaller rate advantage versus the U.S. could lead investors to pull funds from Latin America’s second-largest economy. The Fed’s increase on Wednesday briefly reduced Mexico’s rate premium over the U.S. to 2.5 percentage points, the smallest since Mexico adopted a new benchmark in 2008.

Policy makers were able to keep the key rate at a record low as inflation decelerated to the slowest pace in more than four decades and the central bank cut its 2015 growth forecast four times amid declining oil output and a slower-than-anticipated U.S. recovery. Thursday’s rate increase brings to an end an almost seven-year period beginning with Carstens’s predecessor, Guillermo Ortiz, in which Banxico cut rates 11 times as the economy struggled with the global financial crisis and its aftermath.

Many economists anticipated that Mexico would follow the Fed after Banxico in July changed its meeting schedule for the rest of 2015 to be able to better react to U.S. moves. Mexico’s policy makers have repeatedly stressed the importance of their monetary stance relative to the U.S.

The Federal Open Market Committee unanimously voted Wednesday to set the new target range for the federal funds rate at 0.25 percent to 0.5 percent, up from zero to 0.25 percent. It signaled that the pace of subsequent increases will be “gradual.”

The peso plunged 23 percent in the past year and a half through Wednesday, reflecting the decline in oil prices and expectations for higher U.S. borrowing costs. Crude’s drop and falling output at state-owned producer Petroleos Mexicanos have hurt the Mexican economy and forced the government to cut spending.

Policy makers have said that while they’re on alert for signs that the peso is stoking broader inflation, the currency’s slump has had a limited impact on consumer prices. Annual inflation slowed to 2.21 percent in November and has been below the central bank’s 3 percent target for seven months.

— With assistance by Rafael Gayol

(Updates with central bank comments starting in first paragraph.)
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