MexECON Blog

Central Bank Holds Rates at 4.50 Percent

Policymakers at Banco de México decided on Friday to hold their benchmark interest rate unchanged at 4.50%, precisely where it has been since July 2009.  In their statement, the policymakers noted that the Mexican economy continues on a positive trend.  Echoing the viewpoint often expressed on this blog, they said the recent economic growth stems in large part from domestic demand.  However, they also said the external environment had deteriorated significantly in recent weeks.  They highlight the slowing economic growth and continuing fiscal challenges in Europe, but they also saw increased downside risks for the United States and the rest of North America, even though some recent U.S. data has been surprisingly good.  The policymakers judged Mexican inflation risks to be neutral, in spite of the recent surge in prices at the wholesale level and the dramatic decline in the value of the peso since mid-summer.  As if these observations were not enough to signal that the policymakers were ready to cut interest rates soon, they also said they would "remain attentive to the outlook for global economic growth and its possible implications for the Mexican economy, which, in the context of very loose monetary policy in the principal advanced economies, could make it convenient to relax monetary policy."

Comment:  As discussed recently in this blog, surging inflation at the wholesale level and the recent sharp drop in the value of the peso suggest relatively high inflation risks for Mexico.  That would seem to imply Banco de México should hold rates steady for the foreseeable future.  One therefore has to ask why the central bank is instead signaling a future rate cut.  It is particularly telling that the Mexican statement came in the same week that the U.S. Federal Reserve, the Bank of Japan, the European Central Bank, and other key central banks cut interest rates on dollar swaps, and as the People's Bank of China announced a reduction in bank reserve requirements.  It looks suspiciously like the world's central bankers have seen something in the world's financial system and economic data that scares them.  Central bankers talk to each other, and they seem to have agreed on a coordinated effort to buy insurance against a possible financial crisis, most likely emanating out of Europe.  That risk may not come to pass, but if it does, Banco de México has clearly given notice that its response will be to quickly cut rates.

Patrick Fearon, CFA
Vice President, Fund Management

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