Mexico: Central bank to resume its tightening cycle

According to the Research Department at BBVA, the Bank of Mexico will hike the policy rate by 25bp on Thursday. So far, they are not expecting an additional hike in December, but will depend on the Mexican peso performance which will most likely be driven by the fiscal budget outcome.

Key Quotes:

“A lot has changed for the worse since the last meeting and discussion shifted again on whether the MPC would hike at least once more, resuming again its tightening cycle. What was the cause of this shift? The cancellation of the new airport and the proposal by one Senator of AMLO’s party to forbid a series of banking commissions that triggered uncertainty about the decisionmaking process for economic policy going ahead. In other words, conditions have deteriorated and warrant a 25bp hike.”

“Banxico will increase rates for four main reasons. First, a weaker MXN, which increases concerns on the pace of decline in core inflation. Second, a deterioration of inflation expectations, especially of market-based measures. Third, credibility risks if Banxico does not deliver a hike following its recent communication and the materialization of some upside risks to inflation. Fourth, concerns and uncertainty related to the policy approach of the upcoming administration that adds risks to the MXN and therefore inflation.”

“All in all, in our view all signs point to a hike. We expect Banxico to remain hawkish and keep the door open for another preemptive hike in December that we are not expecting now but will depend on the MXN performance which in turn will most likely depend on the fiscal budget outcome. We now expect the policy rate of 8.00% by year-end 2018 and of 7.75% by year-end 2019. That is, we do not rule out a possible cut next year but we no longer expect the easing cycle to begin in Q2 (we now expect it to begin in Q4, conditional on a reasonable fiscal policy) as we think Banxico will likely be even more cautious when facing added risks.”

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