Summary: A common question for many Mexicans in the past months has been “Why is it that the inflation index (INPC) keeps showing moderate price increases while everyone struggles to make it with the same budget?” We present some of the facts that allow for an explanation of why inflation as measured by INEGI (Mexican Statistics Agency) could be understated and how some of the current administration´s policies may have resulted in gaming the Consumer Price Index (CPI), the INPC. At the same time we expect this understated inflation may break loose in the coming months.
It all starts with Banxico and their concerns on inflation, what? yes they are concern about inflation despite reported levels well below their target. In the past weeks Agustin Carstens, president of Banco de Mexico (Banxico), repeated an assertion he has made numerous times in recent months, namely that Banxico has hiked rates by 50 basis points twice this year in response to inflation concerns, and not because of the underperformance of MXN relative to other LatAm currencies. Yet this is hard to square with the data. The reality is that inflation in Mexico is running well below its major peers in Latin America, despite said underperformance.
Much of the acceleration in the inflation rates of other LatAm economies has to do with the currency weakening that they have experienced in recent years. Indeed, looking at the other major free-floating (more or less) currencies in the region – BRL, COP, and CLP – their headline Consumer Price Index readings match up remarkably well with the performance of their respective trade-weighted exchange rates.
In the charts below we present the country´s inflation in the left axis ( in percentage) compared to the relative performance to the USD of their currency in the right axis.
Brazilian Real performance Vs Brazil´s inflation
Chilean Peso performance Vs Chile´s inflation
Colombian Peso performance Vs Colombia´s inflation
…however, this relationship does not hold in Mexico’s case, particularly in recent months, and the divergence is striking! It is fair to ask why Mexico has not felt the effects of pass-through from a weaker currency to the same degree.
Mexican Peso performance Vs Mexico´s inflation
One reasonable hypothesis for this discrepancy would be that Mexico is simply a more closed economy, and is therefore not as susceptible to inflation triggered by the weakening of its currency. However, the data emphatically contradict this narrative. Mexico sees a substantially larger share of imports as a share of its GDP than its relevant peers.
So what does, then, account for Mexico’s persistently low inflation in recent years? Digging deeper into the inflation data, it turns out that the housing component of Mexican CPI has been running persistently and substantially below those of the other three.
The major driver of the housing category across all four inflation data sets is the cost of utilities. Moreover, different statistical agencies place different weights on the various components of their aggregate CPI measures. As it turns out, Mexico’s statistical agency weights this component much more heavily than do Brazil and Chile.
In Colombia’s case this component encompasses a much wider array of goods than just utilities, as Colombian CPI data does not have the typical household goods category, which includes things like furniture; instead, they roll this all up into the housing component, which accounts for its outsized weight of the total relative to its peers.
What all this suggests is that the ability of Mexican authorities to keep utility price inflation so low for so long has to a large degree accounted for why headline CPI has been so tame. It is far from clear that this is sustainable going forward, particularly given that Mexican fiscal policy is currently in belt-tightening mode.
LATAM PM’s Take: We see Mexico’s low inflation headline under threat, this as the tariffs set by the government for utilities can no longer be maintained at same levels and in fact start to rise. In addition we see that the peso’s depreciation will maintain an upward pressure on prices. In our view, the headline inflation rates may indeed climb more aggressively in coming months, perhaps even catching up to what is implied by the trade-weighted index. Carstens’ concerns on the inflation front going forward may not be so misplaced after all, and more interest hikes out of Banxico may well be on the horizon.
Analyst: Ilya Gofshteyn