Banxico policy changes may reduce peso volatility

Last month, Banxico introduced two measures seeking to address peso weakness. 

First, the bank changed its meetings schedule to match the FOMC, so that it can revise its policy based on the FOMC decission on rate cut. Headline inflation in Mexico is higher than in the US. The peso has been one of the main USD trade partners with the largest depreciation since the tapering announcement in 2013.  

"We assumes these policy changes may reduce peso volatility but will not stop peso weakness. Foreign investors will likely remain worried about local market exposure", says RBC Capital Markets.

Second, it increased outright daily interventions. Moreover, it increased USD supply through a reduction in the daily limit for USD/MXN moves higher from 1.5% to 1%. The daily intervention could trigger a supply of USD4-8bn per month with potentially 12-25% decline in FX reserves by February next year, adds RBC Capital Markets. On the other hand, the new program covers just 2-3% of the daily turnover. 

Headline inflation is now at the bottom end of the range observed in the past ten years. Activity and employment have been improving, hinting that the economy may not be far from capacity. This should raise pass through from the exchange rate to inflation compared to 2008-2009 and 2012-2013 periods. Further, seasonality shows a consistent increase in headline inflation each year for the past ten years, between May and October.