UPDATE 2-Mexico central bank cuts growth outlook on weak local demand

Wed Aug 13, 2014 4:40pm EDT

(Recasts with focus on monetary policy, adds central bank and analyst comments)

MEXICO CITY Aug 13 (Reuters) - Mexico's central bank trimmed its 2014 growth forecast on Wednesday, blaming a sluggish economy that bodes for steady borrowing costs well into next year.

The central bank cut its outlook for growth in 2014 to between 2.0 percent and 2.8 percent from a previous estimate of 2.3 percent and 3.3 percent, the bank said in its quarterly inflation report. The bank already had cut its outlook in May.

Mexico's economy is on track to post weaker than expected growth for the second year in a row. So far in 2014, a harsh winter dragged on growth in the United States, Mexico's top trading partner, while Mexican tax hikes hit domestic demand.

The central bank said internal demand had been weaker than expected during the second quarter, though it expects growth to pick up in the second half of the year.

"The big challenge ahead is for domestic spending to consolidate and grow at a greater pace," Central Bank Governor Agustin Carstens said at an event in Mexico City.

The central bank held its main interest rate steady in July following a cut to a record low of 3.0 percent in June after the economy grew less than expected in the first quarter.

The latest data has shown further weakness. Mexican industrial production unexpectedly shrank in June, in its first contraction since December, while consumer confidence fell to a five-month low in July.

The central bank said in its report that the economy likely grew 0.9 percent in the second quarter compared to the first quarter, when it posted a 0.3 percent quarter-on-quarter expansion.

Policymakers said that slack in the economy would persist through next year and contain consumer price pressures.

The central bank is not expected to hike interest rates until the United States moves to raise borrowing costs, which is projected during the second quarter next year.

Marco Oviedo, an analyst at Barclays, said the Mexican central bank's emphasis on slack in the economy and weak domestic demand may suggest policymakers will hold down interest rates even after the Federal Reserve starts to move.

"They could leave the rate steady until they see core inflation pressures," Oviedo said in a telephone interview.

The annual rate of inflation rose above the central bank's 4 percent ceiling in July, but Carstens said the annual rate would fall back below 4 percent by the end of 2014 and reach near 3 percent at the start of next year.

Core inflation was seen around 3 percent this year -coinciding with the central bank's target rate, and it was seen below 3 percent next year, the bank said. (Reporting by Michael O'Boyle; Editing by Bernard Orr)

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