MNI INTERVIEW: Banxico Likely To Slow Pace And Pause - Tapia

The Central Bank of Mexico is seeking greater flexibility by removing the size of upcoming cuts from its forward guidance, and is likely to slow the pace of easing in August to 25 basis points, economist David Tapia told MNI.

"The change in forward guidance is a clear signal that Banxico is seeking greater flexibility and no longer wants to pre-announce specific cuts. This, in my view, confirms that the pace will be more moderate," said Tapia — a former Banxico economist and currently chief economist at a large Mexican pension fund — in an interview.

He expects a 25-basis-point cut at the next meeting, to 7.75%, and said the probability of a pause after August is high if inflation data disappoints or in case of exchange rate volatility. (See MNI WATCH: Banxico Signals Slower Pace, Drops 'Restrictive')

Banxico cut its policy rate by another 50 basis points to 8.00% last month, with Deputy Governor Jonathan Heath voting to hold rates at 8.50%. The board signaled more cuts ahead without specifying their size.

CONSISTENT CUT

"The decision to cut by 50 basis points was consistent with the board’s diagnosis: a disinflation process that is progressing gradually, albeit with episodes of resistance, and an economic environment showing clear signs of slowing," he said.

He believes this move also reflected an intention to move toward a more balanced calibration of the monetary stance, which remains very restrictive in both real terms and relative to other emerging economies.

"The challenge now will be to manage this normalization prudently, given that upside risks to inflation persist and the external environment is increasingly uncertain," he stressed.

SPLIT DECISION

In his view, the split decision reflects the current dilemma: that on the one hand, domestic activity is very weak and justifies some monetary easing, while on the other, core inflation has recently picked up, and upside risks persist from the exchange rate, wage indexation, and the pass-through of U.S. trade policy.

"It’s likely we will see more split decisions as long as the disinflation process remains unclear and unsustained. In my view, the dissenting vote’s argument will focus on the need to consolidate inflation’s convergence to the target and to prevent expectations from deteriorating," he said.

Banxico also removed from its statement the reference to the need for rates to remain restrictive. "I believe the removal of that language was intentional to underscore that monetary policy is already in a normalization phase, but it doesn’t necessarily imply that we will reach a neutral level this year," Tapia explained.

RESTRICTIVE TERMINAL RATE

He predicts the rate will end 2025 at 7.75%, with a further adjustment to 7.25% in 2026, which would still represent a restrictive stance in real terms.

"The risk remains tilted toward a lower terminal rate closer to neutrality, given the degree of monetary restriction and the weakness of economic activity. However, this will also depend on the relative stance vis-à-vis the Federal Reserve," he said.

The tightening of U.S. trade policy presents a double challenge for Mexico, Tapia noted. While it limits investment and export prospects by increasing uncertainty over rules of origin and preferential access to the U.S. market, it also raises the risk of pass-through to domestic prices via exchange rate depreciation and higher costs of imported goods subject to tariffs.