The new US – Mexico – Canada Agreement announced on Sunday night as a result of eleventh-hour negotiations between the US and Canada will be welcomed by the Mexican Central bank, Banxico.
Just In Time For Incumbent Mexican Administration
If the agreement had not been put in place, there was a growing expectation that no bilateral trade agreement between Mexico and the US would have been passed either given that prominent lawmakers in the US voiced their discontent with such a move.
With the agreement now in place, there is enough time for US Congress to review the deal and approve it so that the current Mexican administration can ratify the treaty before the new Mexican administration takes over in December.
Risks Removed For Banxico
Although the move had little impact on MXN, which reflects the fact that such an outcome was already priced in, the key aspect for Banxico is the removal of the immediate risks which would have faced the economy which would have had a significant impact on Banxico’s monetary policy conditions.
Indeed, the balance of risks for Mexican financial markets has now improved considerably following the announcement of the deal, massively reducing tail risks and improving the longer-term risk profile for inflation.
Hawkish Hold More Likely
With this in mind, there is now a stronger chance that Banxico will opt for a “hawkish hold” at its upcoming monetary policy meeting on Thursday, keeping rates at 7.75%, rather than going for a “dovish hike,” lifting rates to 8%.
Expectations ahead of the meeting have been mixed given that inflation has been stronger than expected over the last few months. Furthermore, current policy guidance has remained firmly hawkish, in line with the Fed.
However, if Banxico refrains from hiking rates a further .25% at this meeting, this can be seen as Banxico deciding to decouple entirely from Fed monetary policy which Banxico has consistently listed as one of its key policy decision drivers along with FX prices. Indeed, the Mexican/US interest rate differential has mainly remained unchanged aside from brief periods of time between meetings. Given that a substantial rate differential is key for supporting the health of local markets, we might now see Banxico decide to reduce the rate differential from 5.75% to 5.5%.
Hawkish Bias To Remain
Looking forward, the bank is likely to maintain its hawkish bias though in the long run there is the risk of a dovish repricing of the Banxico rate path especially considering the upcoming changes in the bank’s board which is expected to see the departure of a key hawk.
However, given that inflation is still trending well above the banks targeted range and not looking likely to come back down any time soon, the scope for the bank to take a decisive dovish turn on policy is quite limited.
Furthermore, the elevated risk that at any moment a new or current geopolitical situation could trigger fresh risk aversion, causing significant volatility in the market, will likely keep any prospective rate cuts off the cards.
For now, USDMXN is sitting on local support at the 18.5150 – 18.3915 area while in the lower end of the large contracting triangle pattern which has framed price action over the last two years. To the downside, there is a lot of support in view with the rising trend line base of the triangle pattern coming in just ahead of deeper structural support at the 18.0561 – 17.9325 area.
However, If USDMXN is putting in a higher low here and starts to turn higher, the focus will first be on a test of the 19.3626 level ahead of higher resistance at the 19.6716 level.