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Headline and core inflation in Mexico came in slightly below consensus expectations for a notable pick-up in inflation in March due to the seasonal effects of an early Easter holiday.
Headline inflation rose by 0.29% month-on-month in March which, although far from the 0.09% recorded in February, is still one of the weakest rates of the last 12 months. The year-on-year rate thus stood at 4.42%, only two hundredths of a percent above the previous month’s reading and significantly below expectations of 4.50%. This meant headline inflation moderately rose from the previous month after it fell on a year-on-year basis in February for the first time since October 2023. Nevertheless, the fact inflation only increased moderately in March and undershot Banxico’s Q1 forecast of 4.7% with a reading of 4.57% anyway validates the central bank’s decision last month to cut rates by 25bps to 11%. However, the data isn’t all good news for the central bank. The underlying pace of inflation once again reflects upside risks to the headline rate moving forward. Meanwhile, core inflation rose by 0.44%, only marginally below February’s figure which was the fastest pace of growth in 11 months. This saw core inflation decelerate from 4.64% to 4.55% on a year-on-year basis, however, the underlying pace of core inflation remains elevated too at 5.45%. This suggests that disinflation may soon no longer be visible in the annual measure if current momentum is sustained. Together with strong core services inflation, which reached a new 10-month high in the year-on-year reading, this data continues to support our perception that upside inflation risks remain uncomfortably prominent for Banxico.
Given that at the March meeting the entire Board of Governors devoted much of their efforts to stressing that the balance of risks to inflation remains skewed to the upside, today’s data confirms our view that Banxico didn’t embark on an uninterrupted sequence of rate cuts last month. Instead, the easing cycle is likely to remain data-dependent and bumpy.
Indeed, the upside risks signalled by the Governing Board in February led policymakers to revise upwards their near-term path for headline inflation from 4.3% to 4.7% and for core inflation from 4.5% to 4.6% for 1Q24. Despite the official year-on-year data undershooting the updated projections, we don’t suspect Banxico will find comfort in today’s data as the three-month annualised rates reveal that that inflation is set to continue to rise in the second half of the year. On these measures, headline inflation rose by 5.20% in March, while core inflation remained at 5.45% for the second consecutive month. As we have noted, core inflation is once again emerging as the main inflationary focus, led by a notable rise in core inflation in services to 0.42% in March.
Although part of the pick-up could be explained by the seasonal effects of Easter, the strength of the services component continues to be mainly driven by more structural factors, such as labour market tightness and rapid nominal wage growth, which rose by 8.6% in February.
This was visible in the contributions of inflation. Outside of certain energy products, the bulk of March’s inflation stemmed from consumer discretionary components and, in some cases, those where strong wage growth is being passed on directly. Consequently, disinflation in March was mainly due to the performance of the non-core component, which fell by -0.16% month-on-month in February, largely reflecting the slowdown in fruit and vegetable inflation, which fell by -3.39% from the previous month.
The underlying pace of inflation still remains too high for Banxico to cut rates in a sequential manner
Overall, the March data paint a less favourable picture for Mexican inflation in the first quarter of the year, justifying the “vigilant” and “cautious” approach that remained throughout Banxico’s March rate statement.
Although the Board of Governors acknowledges the progress of the disinflationary process in the country since the last time the reference rate was adjusted, the risks to inflation remain fundamentally to the upside, especially as the labour market remains strong and the economy continues to operate with positive output gaps. Given the latest data suggest that these risks have not abated since, we believe that Banxico’s chosen strategy will undoubtedly be to wait for clear signs that core inflation is decelerating before cutting rates in a sustained manner, which we do not expect to happen until well into Q3. Until then, we believe that Banxico are likely to cut rates at non-consecutive meetings in order to avoid excessive policy easing that could trigger a reacceleration of the economy at a time when services inflation remains elevated and the labour market is tight. This should see MXN remain supported, although it seems as if markets have not yet taken the same stance as we have given the peso currently lags peers after aggregate inflation measures missed expectations.
Author:
María Marcos, FX Market Analyst