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Bank of Mexico Hikes Rates by Another 50 Basis Points

Banxico, the Mexican central bank, at its monetary policy meeting yesterday hiked the benchmark interest rates 50 basis points to 6.25% in a widely expected move. The decision to hike interest rates comes amid a modest recovery in the nation’s currency which has been repeatedly battered against a stronger US dollar, largely on account of protectionist comments from President Trump.

The rate hike decision yesterday is the third consecutive rate hike since the November election results as the central bank has been trying to contain the Mexican peso’s weakness. The central bank first hiked rates by 50 bps in November followed by another 50 bps rate hike in December. Both the decisions failed to make any major impact of the Mexican peso.

This eventually led the central bank to start intervening in the currency markets by selling nearly $1 billion in the spot markets and was the first in nearly a year after the central bank had intervened in February 2016 selling $2 billion in the spot markets to support the peso. USDMXN jumped to an all-time high of above 22 MXN just before the inauguration of President Trump. The Mexican central bank has raised interest rates five times in 2016 by a total 250 basis points in a bid to tackle the exchange rate’s slump.

The interest rate hike yesterday was a widely expected decision, and the Mexican peso did not react much, although the currency maintained gains against the US dollar. Banxico’s governor Agustin Carstens had previously warned on the temporary spike in inflation in January, following the proposed 14% oil price hike. But he cautioned that officials should not overreact to the increase noting that most of these effects on account of the oil price hike would be only temporary.

Mexico inflation shoots higher to an 18-year high

In January, data showed that the annual inflation rate in Mexico accelerated to an 18-year high, more than expected. The headline inflation increased on higher gasoline prices alongside the weaker exchange rate and accelerated at a pace more than what economists had forecast.

Consumer prices increased 4.78% in January at an annual pace marking the highest level since 18 years and jumped from 3.3% recorded in December. Headline inflation also beat the median estimates of 4.70% and overshot the central bank’s 3% target rate.

Core inflation, excluding the volatile food and energy prices, also advanced 3.8% in January, up from 3.4% in December and beating estimates of 3.7%. On a month over month basis, inflation increased 1.7% on the headline and 0.58% on the core. The increase in consumer prices, especially on the core, came as the price of imported goods rose sharply due to the weakness in the Mexican peso.

Driving inflation higher was in part the increase in oil prices as reported earlier. The Mexican government hiked oil prices by nearly 14% which also added to the overall higher prices.

Economists are expecting further rate hikes to come from Banxico and predict Mexican interest rates to rise to 7% by the end of this year and also expect consumer prices to continue rising for the most part of this year. But the pace of rate hikes is however expected to slow in the coming months, and the central bank’s statement said that it also expects inflation to converge back to the central bank’s 3% target rate by the end of the year.

USDMXN is approaching technical support at 20.20.

After the rally towards 22.00 and briefly higher earlier this year, the U.S. dollar is looking to post a third consecutive week with declines on a bearish close today, bringing USDMXN closer to retest the technical support at 20.20, a level that was tested twice in early November and early December last year. The question will be on whether the US dollar will be weak enough to break through this resistance.

Below 20.20, USDMXN will be facing a fresh test of support between 19.90 – 18.80, which will no doubt offer a temporary support to prices. The daily Stochastics remains oversold, and the current set up between price and the oscillator shows a hidden bullish divergence that could indicate near term upside in prices. Therefore, there is strong chance for USDMXN to rebound off 20.20, if not at 19.90 – 18.80 levels.

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Friday, 10 Feb, 2017 / 9:21

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