Mexican peso drops after inflation data fuels rate cut uncertainty


The Mexican Peso tumbled against the U.S. dollar in late New York trading on Thursday after recording gains the previous day, as data points to the potential for prolonged higher interest rates in the country, the Bank of Mexico said.

In contrast to the expectation that the rates could push the USD/MXN exchange rate, the currency pair is dipping by more than 1.70 percent. As of writing, it trades at 17.3980.

The currency pair hovered around the 100-day SMA at 17.38 and is on its way to a climb towards the psychological 17.50 mark. It is potentially exposing the 200-day SMA at 17.55 and the 50-day SMA at 17.67.

Conversely, a sustained dip below the 100-day SMA would confirm the downtrend, with initial support at the recent low of 17.16, followed by the 17.00/05 zone.

Although the dollar gained 1.65 percent last week, it remains 2.91 percent lower than a year ago. After two days of no significant change, the dollar displayed increased volatility last week compared to the previous year.

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The Mexican peso led the slide among Latin American currencies, dropping after data showed inflation rising to 4.32 percent. This, however, was lower than expected and fueled speculation that the central bank, Banxico, might start cutting rates next year. Meanwhile, Chile's peso edged up despite a domestic inflation spike.

"I would agree that there is some rate cut narrative if you look through 2024," said Padhraic Garvey, regional head of research, Americas at ING Financial Markets. "But it does seem that Mexico would prefer to see a better adjustment happening on the fiscal side because you're still looking at a very elevated fiscal deficit."

Despite other regional central banks easing monetary policy, the Bank of Mexico (Banxico) has held rates steady. This has helped the peso remain a top performer in Latin America since mid-2022, with a year-to-date gain exceeding 12 percent. The "super peso" also owes its strength to Mexico's stable public finances and remittance inflows.

The Mexican peso's recent surge is good news for reducing dollar-denominated debt, but analysts predict this "super peso" era might not last. As the U.S. Federal Reserve prepares to raise interest rates, Banxico's intention to hold rates steady could weaken the peso, potentially returning it to around 19 units per dollar in 2023.

Mixed economic picture

In recent interviews, Banxico's Governor Victoria Rodriguez Ceja and Deputy Governor Jonathan Heath suggested the possibility of policy easing if disinflation progresses. However, Deputy Governor Irene Espinosa took a different stance, emphasizing that inflationary risks persist and are on the rise.

Mexican inflation climbed in November, exceeding expectations, but core inflation readings dipped.

This reading is based on the Consumer Price Index (CPI), the most widely used measure of inflation. It climbed to 4.32 percent year-over-year compared to September's 4.26 percent, although it still fell short of the 4.40 percent forecast.

However, the Core CPI, usually sought by central banks to determine price stability, saw a welcome slowdown. It dropped from 5.5 percent to 5.30 percent in the twelve months to November, even exceeding the predicted 5.34 percent.

This mixed data picture comes as the USD/MXN exchange rate finds support from rising U.S. Treasury bond yields. However, the broader U.S. Dollar remains under pressure, as the DXY trades at 103.73 today.

As the Consumer Confidence Index (CCI) failed to attract trader interest, the focus is now on upcoming U.S. economic data, particularly Friday's November Nonfarm Payrolls report. Traders are closely watching this key employment data release for its potential impact on the currency pair.

U.S. employment expectations are for 180,000 new jobs in November, with the Unemployment Rate holding steady at 3.9 percent. Average Hourly Earnings are predicted to drop by 4 percent year-on-year.

Previous data release revealed Challenger Job Cuts showing 45,510 layoffs in November. Initial Jobless Claims are exceeding estimates at 220,000, higher than estimates of 222,000 but above the previous week's 219.000.

Markets also anticipate further Fed easing, with rate cut expectations exceeding 100 basis points for the next year. This dovish outlook is contributing to the USD/MXN's decline.