Mexico’s inflation to be slightly higher than 3% in Q2, Q3 but expected to slow to 3% by late 2016

The Mexican economy continues to be slow; however, it will advance from stable growth in the US. Mexico’s economy expanded 2.5% y/y in Q4 2015. According to BBH, the economy is likely to expand by about 2.5% in 2016 and 3% in 2017. However, the nation’s real sector has been weakening and there are risks on the downside to the growth projections, added BBH. Petroleum and non-petroleum exports both have softened. Mexico’s total exports declined 7.6% y/y, falling for seven consecutive months. Meanwhile, abroad worker remittances continue to rise on stable US economy and helps private consumption.

Weaker peso and low base effects are leading to rise in inflation pressures. In January, Mexico’s headline CPI reached 2.61% y/y as compared with December’s 2.13% y/y. Core CPI accelerated 2.64% y/y in January, the highest since December 2014. However, inflation pressures might continue to be subdued, says BBH. According to the Bank of Mexico, inflation is expected to reach slightly more than 3% in Q2 and Q3; however, it is likely to decelerate to close to 3% in late 2016.

In an interim meeting, the central bank had unexpectedly hiked rates to 3.75%. According to Governor Carstens, the central bank intervened in the FX market as global market volatility had increased since its last meeting. Moreover, the FX commission stated that it will no longer continue with the regular auction program while keep the likelihood of additional discretionary dollar sales. This implies that officials in Mexico are attempting to keep confidence in the peso to stem any inflationary pass-through from a weaker peso, notes BBH.

Due to the threat of lower oil prices, the Mexican government continues with fiscal austerity. A spending plan was announced by the Mexican government to reduced expenditures by MXN 132.3 billion in response to weak growth and lower oil prices. According to BBH, fiscal austerity of Mexico will support the peso and safeguard credibility in the markets.

However, the Mexican currency continues to be weak because of uncertain global scenario, in spite of good fundamentals. Peso has been considered as a proxy for EM and has a strong correlation with oil prices. Mexico’s foreign reserves continue to be under pressure, dropping in January to $174.7 billion.