Mexico’s annual inflation rate accelerated more than expected in May, surpassing the top of the central bank’s target zone and adding to the monetary policy conundrum in the second-largest economy in Latin America.
Consumer prices rose 4.42% in annual terms, data released on Monday by the national statistics agency INEGI showed, up from 3.93% in April and above the 4.38% forecast by economists in a Reuters poll.
This is the biggest annual inflation number since the beginning of the year and will be interpreted as increasing price pressures at a time when the Bank of Mexico (Banxico) has been hesitantly lowering interest rates.
The central bank has a 3% target for inflation, with a one-point margin on either side of the target.
That reading put inflation above that line mark in May, further clouding the outlook for the interest rate trajectory ahead.
Banxico’s rate-cutting cycle is being tested
Banxico has cut its benchmark interest rate by 50 basis points at each of the last three policy meetings, bringing it down to 8.5% in May, its lowest level since 2022.
Policymakers at the time indicated that there was potential for additional cuts, citing predictions of a gradual disinflationary trend.
The next monetary policy meeting, scheduled for June 26, will now take place under altered circumstances.
With inflation rising, the bank faces a more complicated predicament.
While recent easing has attempted to boost economic growth, persistent inflation may require policymakers to reassess the pace and extent of future rate cuts.
Although the current inflation estimate does not rule out further easing, it raises the possibility that Banxico will take a more cautious approach.
Market analysts are divided on whether the bank will continue with its current rate of reduction, shift to smaller steps, or pause entirely.
Non-core prices drive the headline upside surprise
According to the data of INEGI, the rise in inflation was particularly driven by advances in non-core prices, which consist of components with stronger volatility, such as energy and some food items.
The headline consumer price index was up 0.28% in May, a tick above expectations.
At the same time, the so-called core inflation index, which strips out volatile categories and is key for central bank watchers, increased 0.30% month-on-month too, again just a touch above economists’ expectations.
This continued strength in underlying prices indicates that inflationary pressures are not confined to external or transient shocks.
Such a trend may have implications for long-term inflation expectations and the path of Banxico’s stance.
Investors and analysts recalibrate expectations
The recovery in inflation has spurred disagreement among economists about the most likely path forward.
Some suggest that Banxico should suspend its easing cycle to avoid escalating inflationary pressures, while others believe the present trend is not significant enough to undermine plans for further, albeit smaller, rate reduction.
The outlook now depends on how inflation changes in the following months. If price hikes stay high or show symptoms of entrenchment, Banxico may be obliged to postpone further easing or slow the pace of rate decreases to 25 basis points in the following meetings.
However, if inflation moderates, the central bank may continue to ease monetary conditions.
June decision looms as key inflection point
With inflation approaching the limits of Banxico’s tolerance band, the June 26 decision is shaping up to be a watershed moment.
Policymakers must strike a balance between keeping inflation under control and sustaining an economy that is nonetheless vulnerable to both internal and global headwinds.
For the time being, the recent data remind us that Mexico’s inflation trajectory remains erratic, and Banxico’s monetary policy roadmap may need to be adjusted accordingly.
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