The upcoming decision by the Bank of Mexico (Banxico) on the interest rate, scheduled to be announced tomorrow, comes at a crucial moment for the Mexican economy.
Facing persistent high inflation and recent market fluctuations, Banxico must carefully consider its next move.
Persistent inflation and market volatility
One of the main obstacles for Banxico to reduce its interest rate is persistently high inflation. In the first half of June, inflation stood at 4.78%, slightly above the market consensus of 4.71%. This increase in inflation, which has been in effect for the past four months, suggests that prices remain under pressure, complicating the possibility of a rate cut, currently at 11%.
The recent market volatility, exacerbated by the June 2 elections, is also playing a crucial role. Post-election uncertainty has raised concerns in financial markets, making economic forecasting difficult. However, we have recently seen a relative stabilization of the Mexican peso near 18 pesos per dollar, which could offer an opportunity for the Mexican entity to eventually consider additional monetary policy adjustments.
Expectations of interest rate reduction
In general, there are both pros and cons for an interest rate cut. On the one hand, the recent intensification of price increases and significant risks stemming from the depreciation of the Mexican peso present challenges.
On the other hand, although inflation still exceeds Banxico’s target, it is at lower levels than in previous years. Maintaining the rate around the previously recorded maximum levels might not be entirely appropriate under the current circumstances. Additionally, the recent relative calm in the internal situation and the stabilization of the peso could allow for a 25 basis point cut in the near future.
Market consensus suggests that the interest rate cut would occur in August. For now, Banxico is expected to keep rates at 11% at the June meeting, with possible 25 basis point cuts in August and December. This would bring the rate to 10.50% by the end of the year. In the long term, current expectations indicate that weaker economic growth could bring rates around 9% by the end of 2025.
Recent dynamics of the Mexican Peso
The Mexican peso has shown a considerable recovery after the elections, reversing almost half of the post-election losses. Currently, the US dollar is trading at 18.2 Mexican pesos, after being close to the 19 pesos per dollar mark weeks ago.
This recovery has been largely driven by several key factors. Cabinet nominations by Claudia Sheinbaum, with prominent figures like Marcelo Ebrard, have provided greater reassurance to investors, generating confidence in the country’s economic future.
Additionally, the high level of the interest rate in Mexico continues to make the peso an attractive currency for carry trade. This high-interest-rate environment not only supports the peso but also limits the duration of short positions against the currency, thus contributing somewhat to its stability and recovery.
USD/MXN technical analysis
USD/MXN weekly chart
From a technical perspective, the USD/MXN has bounced after finding support at 18 pesos per dollar. Currently, this situation places the USD/MXN in a complex position that will eventually determine whether we can expect further weakness for the MXN or a return to a better outlook.
If the pair breaks above 18.5 (23.60% Fibonacci retracement), this would indicate further weakness for the MXN, with the next resistance level around 19.5. Conversely, if the Mexican currency manages to recover and maintain the key psychological level of 18 pesos, the next significant support level is located at the psychological barrier of 17 pesos.
Conclusion
Banxico faces a complex decision that must balance the need to control inflation and support an economy that has shown weakness in the first half of the year. Maintaining or reducing the interest rate will have significant implications for both the Mexican peso and the Mexican economy in general.
The upcoming Banxico decision on the interest rate will be a key indicator of its approach to inflation and economic stability. While some advocate for an immediate cut, the main expectation is that this will occur in August. The stabilization of the peso and the reduction in political volatility are critical factors that will influence Banxico’s decision and ultimately determine the future of the Mexican peso.
In this context, Banxico must carefully weigh its options. A premature rate cut could risk an inflationary resurgence, while maintaining the rate at its current level could restrict economic growth. The decision made tomorrow will not only reflect Banxico’s current stance on these challenges but will also lay the foundation for future monetary policy and the country’s economic stability.
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