Itaú BBA - Mexican Central Bank hikes policy rate by 25bps to 6.75%

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Mexican Central Bank hikes policy rate by 25bps to 6.75%

Maio 19, 2017

The decision was in line with our call and surprised the market.

Talk of the Day


The Central Bank of Mexico hiked the reference by 25-bps (to 6.75%), in line with our call and surprising the market (only 13 out of 32 analysts, as per Bloomberg, expected the hike). In its last meeting, held in March, Banxico’s board decided to smooth the pace of monetary tightening by hiking 25bps, departing from the last six policy moves (50bps). Moreover, the Quarterly Inflation Report - published in the preceding week - signaled that policymakers were more mindful about the potential costs imposed on economic activity. Since then, however, inflation has accelerated and activity has surprised to the upside. Headline Inflation increased to 5.8% in April (from 5.4% in March), and the behavior of diffusion indexes (73% of items in the CPI basket showing inflation higher or equal than 4%) and service inflation provide evidence that second-round effects are materializing. This deterioration of inflation conditions, in our view, was the main reason that led Banxico to hike rates in May, considering that the board has pledged to prevent second-round effects. In the statement, the board mentioned that inflation will be “considerably” above the tolerance range around the central bank’s target in 2017 (rather than just above), and that the balance of risks for inflation has deteriorated. On the activity front, the statement mentions that the economy did not slowdown in 1Q17 (the GDP flash estimate came in at 2.7% year-over-year, above expectations), and that the probability for the materialization of downside risks has decreased.

We expect Banxico to deliver two more 25-bp hikes, in June and September, in lockstep with the Fed; and then stay put for the rest of year, as we believe that inflation will start trending down in September. Looking forward, according to May’s statement, Banxico remains focused on the same factors as before: second-round effects from the shocks affecting domestic prices (MXN depreciation and gasoline price spike), the relative monetary policy stance between Mexico and the U.S., and the output gap. In 2018, we expect the central bank to ease monetary policy a bit; bringing the reference rate to 6.75%, as the inflation shocks dissipate and the economy expands at a moderate pace. ** Full story here.


The Central Bank of Chile surprised most in the market by cutting the policy rate by 25bps for a second consecutive month to 2.5%. The cut came earlier than we were expecting - we believed the cut would only be implemented next month - and for nearly two-thirds of the market, according to Bloomberg as well as the majority in both central bank surveys prior to the meeting. Nevertheless, the lowering of the policy rate is in accordance with our call from late last year of a 100bp easing cycle from the 3.5% starting point. In line with the view that the current cycle has ended (at least in short-term) is the removal of the easing bias in the press release communicating the decision. Hence, it is unlikely that the upcoming Inflation Report forecast scenario includes guidance towards lower rates.

Our baseline scenario considers no further easing, while the start of a normalization process is likely by yearend 2018 as internal demand recuperates. However, activity is weak and the composition of the 1Q17 growth (0.1% year over year) hints that the risk of further weakening ahead is not negligible. If this scenario materializes, additional rate cuts later in the year are a possibility. ** Full story here.

Growth in 1Q17 was the lowest since 3Q09 (-1.0%), as confirmed by the national accounts report. Activity expanded a mere 0.1% from one year ago, below the 0.2% growth estimated on the back of the monthly GDP proxy (IMACEC). After contracting 1.4% qoq/saar in 4Q16, the economy expanded 0.7% qoq/saar in the first quarter of the year. The improvement was driven by the 11.2% expansion in domestic demand (-4.0% in 4Q16), with durable consumption (+18.7%) and government expenditure (+13.2%) leading the improvement. Gross fixed investment (+9.8%, after falling 20.8% in 4Q16) also aided in the recovery of activity, as machinery and equipment accelerated to 46.4% (from -35.4% in the previous quarter), while construction added a sixth consecutive quarter of sequential contraction. Finally, net exports subtracted 9.6 p.p. from the annualized headline quarterly growth rate. Once inventories are excluded, GDP contracted 4.3% qoq/saar in 1Q17 (-2.1% in the previous quarter), signaling the headline recovery could be short-lived.

We believe the composition of growth implies the economy remains structurally weak. Following this publication, we have downgraded our growth forecast for this year to 1.6%, from 1.8%, stable from 2016. A weakening labor market will be less supportive of growth going forward and public consumption will likely decelerate in coming quarters. Meanwhile, as the mining strike has come to an end, higher copper prices would help improve net exports, pulling growth up during the remainder of the year. ** Full story here.

Chile’s current account deficit increased in 1Q17, affected by temporary factors, but remains at a low level. In 1Q17, the current account recorded a USD 1.0 billion deficit, larger than the market’s USD 0.8 billion deficit forecast and our USD 0.7 billion call. The deficit was also greater than the USD 0.4 billion recorded one year ago. The deterioration from 1Q16 is partly due to the impact the extended mining strike had on copper exports, while imports were lifted by recovering oil prices and the elevated consumption performance. Additionally, a larger income deficit was possibly led by improving mining profits for foreign companies as commodity prices recover. As a result, the rolling-4Q current account deficit rose to USD 5.0 billion (1.9% of GDP), from USD 3.6 billion in 2016 (1.4%). Our own seasonal adjustment shows the current account deficit increased at the margin, to 3.4% of GDP (0.9% in 4Q16). The foreign direct investment of USD 2.5 billion in 1Q17 was the lowest quarterly direct investment into Chile since 2Q13 (USD 1.1 billion), and down from the USD 3.9 billion in 1Q16. The majority of the investment in the quarter was dedicated to energy and industry.

We expect the current account deficit to retreat in the remainder of the year as internal demand stays weak and supply shocks affecting exports fade. Hence, we see Chile’s current account deficit broadly stable around the 1.4% recorded in 2016. With internal demand likely to show some recovery next year, a widening to 1.7% is expected. ** Full story here.


Regarding recent political developments, President Temer stated in a speech yesterday that he will not resign. 

The BCB released a note yesterday affirming it is monitoring the information recently disclosed by the press and acting to maintain normal market functioning. The authority concluded by stating that such monitoring of local markets bears “no direct and mechanical relation with monetary policy”.

Yesterday, in the usual rollover auction, the BCB placed the full offering of 8,000 FX swaps announced on Wednesday (May 17) and called for two extraordinary auctions of up to 40,000 FX swaps (USD 2 billion). After closing, the authority announced another roll over auction of up to 8,000 contracts will take place today. In addition, there’ll be daily auctions of up to 40,000 FX swaps from May 19 to 23.

The National Treasury cancelled yesterday the weekly fixed rate federal bonds auction, which usually takes place on Thursdays. In a note published in its website, the Treasury announced it will make extraordinary federal bond auctions, “due to the volatility observed in the market”. There will be three auctions of LTN, NTN-F and NTN-B. The respective administrative rules will be disclosed at the date of the auctions: May 19, 22 and 23.


Imports grew in 1Q17 for the first quarter since 4Q14, but recovering export commodity prices meant that the trade deficit continues to correct. The trade deficit came in at USD 726 million in March, broadly in line with market consensus and our forecast of USD 780 million. The deficit is smaller than the USD 1.1 billion recorded one year ago. This led to a trade deficit of USD 2.2 billion in 1Q17 (USD 3.5 billion in 1Q16), resulting the rolling 12-month trade deficit narrowing to USD 10.1 billion from USD 11.5 billion in 2016 (USD 15.9 billion in 2015). The recent narrowing is explained by an energy balance surplus that is growing by more than the rise in the non-energy balance deficit. At the margin, the trade deficit widened as capital and industrial imports accelerated. The annualized trade deficit (using our seasonal adjustment) increased to USD 9.2 billion in the quarter, from the USD 7.8 billion deficit estimated for 4Q16. In the month, total exports rose 37.9% year over year (15.6% in February), with coal coffee and oil exports leading the charge. In 1Q17, exports increased 31.4% year over year (13.7% in 4Q16). This is the highest moving quarter annual increase since the quarter ending in January of 2012, as commodity prices recover. Likewise, imports increased 15.2% year over year in March (5.4% previously), resulting in a 7.0% rise in 1Q17 (-8.4% in 4Q16). We expect the current account deficit to narrow this year (relative to 2016), due to weaker internal demand and higher terms of trade, to 3.6% of GDP, from 4.4% of GDP last year. ** Full story here.


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