Banxico on hold as risks worsen

May 13, 2019

MXN was among the worst performers last week as US-China tensions escalated.

The trade impasse threatens Mexican growth prospects via lower external demand from the US, which accounts for 80% of Mexican exports.

The USMCA agreement, which is still to be ratified by the US legislature, may come under additional scrutiny from markets in light of the Trump administration’s renewed appetite for trade wars.

Signs of slowing growth are evident in Mexican data. Capital investment shrank at an annualised 2% pace in February, the third decline in the last four months.

Oil prices have stopped rallying and further gains seem unlikely for now.  In contrast, YoY inflation has risen to its highest level in 2019 and is moving further away from the 4% target upper bound reached in February.

Mexico Inflation Rate (YoY)

Detailed data shows that general prices have been driven up from more expensive services prices lifting core inflation, whereas energy costs have remained subdued on the back of fiscal support.

Banxico is likely to leave rates unchanged at Friday’s meeting, but is likely to sound a warning note due to the worsening balance of risks facing the central bank.

In the last Banxico assessment in March, officials raised concerns about the restrictive stance of current domestic financial conditions. Back then, risks to growth were broadly balanced, while US-China talks were viewed as a net positive.

Mexican macroeconomic fundamentals have deteriorated in the current cycle while core inflation rebounds to its highest level in the year.

As price growth is yet not that far away from the upper bound of the target, Banxico should be poised to keep rates unchanged in the next monetary policy revision on Friday.

However, souring prospects for the Mexican growth path coming from escalating global trade tensions may tilt the balance of risks to the downside, adding a bearish sign to the Mexican peso looking ahead.

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