Banxico Cuts Interest Rates, Future Reductions Dependent on Peso's Movement

The Bank of Mexico (Banxico) unanimously decided to lower the interest rate by 25 basis points, bringing it down to 10.00%. This decision indicates that the bank's easing cycle is likely to continue in the coming months. However, the future direction of this easing cycle will largely depend on the performance of the Mexican peso.

The decision to lower the interest rate was widely anticipated. Among the 23 analysts surveyed by LSEG Data & Analytics, 21 correctly predicted the 25 basis points cut, including the survey respondents. The remaining two analysts had forecasted a larger cut of 50 basis points. The decision to further ease monetary policy was significantly influenced by the annual inflation rate falling to 4.6% in November and the relative stability of the peso following the U.S. elections.

The statement accompanying the interest rate cut conveyed mixed messages. Bank officials noted a "greater persistence in service inflation," revising their inflation forecasts upward. Inflation is now expected to align with the target in the third quarter of 2026, a change from the previously predicted fourth quarter of 2025. The board perceives risks as "upward," and uncertainties are heightened by the potential implementation of tariffs on imports from Mexico to the U.S.

Nevertheless, policymakers also indicated the possibility of "larger downward adjustments" due to the progress recorded in disinflation. The implementation of these adjustments will largely depend on the performance of the peso, especially if Mexico faces U.S. import tariffs under the Trump administration.

A significant decline in the peso could lead policymakers to halt the easing cycle. "However, we are skeptical that Banxico will soon ramp up the pace of easing. Given the peso's vulnerability to sharp declines in the event of Trump imposing tariffs on Mexico, the ongoing financial risks, and the Fed’s hawkish stance, we believe that Banxico will continue to reduce the policy rate in 25 basis point increments," wrote Kimberley Sperrfechter, an economist at Capital Economics, in a note. "Our forecast for the policy rate to drop to 8.50% by the end of 2025 is above consensus. And if anything, the risks to this forecast are to the upside, especially if Trump imposes tariffs and the peso declines sharply."