Banxico will likely keep its interest rates steady tonight at 7%. There are many reasons for that. First of all, inflation expectations are now getting lower as the central bank certainly raised too strongly the overnight rate by anticipating a stronger Fed tightening rate path. Indeed, at least 4 rate hikes were expected by markets from the Fed. Now that the Fed is on hold until December meeting, there is no rush for Banxico to act.
We recall that the Mexican central bank is monitoring the interest rate differential between the US in order to avoid any potential capital outflow. A narrow rate differential is clearly not at the advantage of Mexico but now the spread is so large that investors have a preference for the Mexican Peso which offers strong return.
However, the Fed will certainly raise rates one more time in December but we don’t believe this is going to go any higher at least in the medium-term or it will likely trigger the burst of the bond bubble.
Currency-wise, the MXN has strengthened from 22 to 16 MXN for one single dollar note which is why we have seen Mexican’s inflations expectations suffering. Right now, Fed monetary policy have driven the USD higher against the MXN and we believe that it is likely that we see Banxico reducing their overnight rate next year which would send the MXN lower. The MXN is overvalued at the moment.
By Yann Quelenn