March 9, 2020 / 10:43 PM / 20 days ago

Mexico central bank props up battered peso, rates outlook uncertain

MEXICO CITY (Reuters) - Mexico’s central bank on Monday stepped into the foreign exchange market to prop up the peso after the currency plummeted to an all-time low on the back of collapsing global oil prices and fears over the economic impact of coronavirus.

People walk past a board displaying the exchange rate for Mexican Peso and U.S. Dollar at Afirme Bank in Monterrey, Mexico March 9, 2020. REUTERS/Daniel Becerril

Banxico, as Mexico’s central bank is known, said the country’s currency commission increased the size of its program of foreign exchange auctions to $30 billion from $20 billion to “maintain an orderly operation of the exchange market.”

The commission will keep evaluating market conditions and if necessary “take additional actions,” Banxico said in a statement.

The peso's MXN=D2 interbank exchange rate plunged 14% in intraday trading on Monday, but trimmed losses especially after the Banxico statement to close down 3.7%.

The bank’s monetary policy board has two weeks to decide whether to lower interest rates for a sixth consecutive time - a move seen as less likely after the rout in the peso, which hit an all-time low of 22.929 per dollar on Monday.

Following the U.S. Federal Reserve’s surprise rate cut on Tuesday, the markets baked in a matching 50 basis point cut by Banxico at its next monetary policy meeting on March 26.

However, several analysts now predict a cut will not materialize, with higher-than-expected inflation fueling their doubts. Others adopted a wait-and-see approach.

Data published on Monday showed Mexican consumer prices rose 3.70% in the year through February, drifting further above the central bank’s 3.0% target rate.

While the weaker peso, notching its fifth straight day of losses on Monday, could help lift Mexico’s exports by making them more competitive, an “environment of weakening global demand may blunt that effect,” said William Jackson, chief emerging markets economist at Capital Economics.

Demand has been sapped as the virus, which has infected more than 110,000 people and killed over 3,900 worldwide, continues to spread and sows fears about an impending global recession.

Some analysts still see Banxico lowering rates, though few expect a 50 basis point cut.

“Banxico is likely to respond to Fed cuts by cutting its overnight rate target, but by less than the Fed,” said Carlos Capistran, a Bank of America Merrill Lynch economist, noting that the U.S. central bank could cut another 50 basis points in March.

One reason Banxico might hold back from lowering rates in line with the Fed is fear that the peso’s depreciation could fan inflation, Capistran said.

Such inflationary pressure could be politically damaging and hurt middle class voters President Andres Manuel Lopez Obrador needs, said Duncan Wood, director of the Wilson Center’s Mexico Institute in Washington.

“Imports coming into Mexico, they’re going to get so much more expensive,” he said.

Coronavirus has arrived after the Mexican economy shrank 0.1% in 2019, its first contraction in a decade.

“A much weaker peso is bad for the economy,” Goldman Sachs economist Alberto Ramos said. “The sharp drop of the peso adds to already elevated macro uncertainty.”

Some of Lopez Obrador’s policies, Mexico’s trade relationship with the United States, and the U.S.-China trade dispute have helped drag down the economy.

The peso will rebound, he said on Monday. “I’m optimistic because we have healthy public finances, good reserves and no deficit.”

Reporting by Anthony Esposito; Additional reporting by Miguel Angel Gutierrez, Abraham Gonzalez and Raul Cortes Fernandez; Editing by Drazen Jorgic, Steve Orlofsky and Richard Chang

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