Mexican Peso Faces Risks as Banxico Holds Steady – Rabobank

A 6.50% overnight rate on November 5 and through 2027 remains the forecast from Rabobank’s RaboResearch team, including Molly Schwartz and Christian Lawrence, for Banxico, even as the Federal Reserve is expected to raise rates. The team notes that the narrowing interest rate differential has already weighed on the Mexican Peso. Further policy divergence from the Fed could push USD/MXN higher, while inflation in core components remains contained.

Rate divergence leaves the Peso vulnerable

"We expect Banxico to hold the overnight policy rate at 6.50% at the November 5 meeting, in line with both market pricing implied expectations and the median expectation of Bloomberg surveyed analysts. At the September 24 meeting, the Bank adjusted its Statement tangibly to give it more flexibility to diverge from the 6.50% rate it had been previously holding."

"Heath also acknowledged some of the challenges that arise should Banxico diverge from the Fed, primarily how it would impact the peso. Indeed, the peso materially weakened in the aftermath of that September meeting, with USD/MXN soaring from sub-17 levels, to almost reaching 19, a move that was compounded by rising 3-month implied volatility. This was a move that was driven primarily by the perception that we will see further narrowing of the interest rate differential."

"In such a scenario, a weaker peso could fuel inflation further in Mexico, but given that inflation in Mexico is moderately contained (in core goods and services), the economy can probably afford to digest a weaker peso. Meanwhile, a stronger peso puts downward external demand for Mexican agricultural exports, which would weigh on an already sluggish economy."

"Despite the prevailing risks to inflation in Mexico, market sentiment is currently skewed in favor of Banxico cuts in the short term, with several Bloomberg surveyed analysts forecasting a cut at this meeting, to bring the policy rate to 6.25%. However, we believe volatile headline CPI inflation and the continued risks to energy leave the Bank reluctant to hike at this juncture, and we maintain our forecast for a hold at 6.50%."

(An editor reviewed this article, which was produced with assistance from an Artificial Intelligence tool. Find out more.)