Bank of America Sees More Inflation in Mexico

ERIC MARTIN Bloomberg News, writes, "With Mexico's inflation rate plummeting to an almost 50-year low in October, bond traders have naturally set about slashing their cost-of-living expectations.

"To Bank of America Corp.'s Carlos Capistran, they've got it all wrong.

"The pace of consumer-price increases is poised to accelerate as growth picks up in Latin America's second-biggest economy and a weak peso drives up the cost of some imports, said Capistran, the most-accurate inflation forecaster among 23 economists surveyed by Bloomberg."

Either your numbers for inflation in Mexico are understated, as they are in the U.S. or something else is going on. The peso over the last seven years is down from 10 pesos to the dollar to almost seventeen to the dollar. Yet there is little inflation. Or the measurement of inflation is wrong and goods in Mexico have moved up sharply in the last seven years.

"He expects the rate to rise to 3.5 percent next year and 3.2 percent in 2017. That's well above the 2.6 percent inflation implied by a bond-market gauge known as the breakeven rate.The inflation expectations implied in the market in the short term are too low, possibly as a reaction of realized inflation so far this year," Capistran said from Mexico City. "Risks for inflation are tilted toward the upside." The inflation rate fell to 2.48 percent in October, the lowest since 1968, as sluggish growth, falling phone-service costs and lower gasoline-price increases outweighed the impact of the currency's 12 percent tumble this year.

"That's not likely to be the case next year as Mexico moves beyond the immediate impact of some legal changes, such as the end of connection fees for long-distance phone calls, Capistran said."

Mexico it seems to me is experiencing the same deflationary pressures as the rest of the world.

Also, some importers who buy products in dollars may raise prices after exhausting inventories that they bought when the peso was stronger, he said.

Bank of America recommends buying inflation-linked bonds due in 2046 and selling similar-maturity fixed-rate notes.

Yields on the linkers have plunged to a record low, leaving the difference with the fixed securities at 2.92 percentage points. That's too low, said Bank of America strategist Ezequiel Aguirre.

Mexico's economy will expand 2.5 percent in 2016, up from 2.3 percent this year, Capistran said.

The U.S. is on the brink of recession and will Mexico experience higher growth as the world's economy slides into the abyss?

He's not alone in predicting a spike in inflation. Bank of Nova Scotia's Mario Correa forecasts the pace of consumer price increases will accelerate to 4.6 percent in 2016 as the peso's weakness feeds through into the cost of living.

That's the highest rate forecast in a Bloomberg survey of 23 economists and would exceed the upper end of the central bank's inflation target range of 2 percent to 4 percent.

While Correa acknowledges that the peso's impact on consumer prices has weakened, he said it's still a factor.

Each 1 percent decline in the peso's value today fuels less than 0.05 percent of inflation, compared with about 0.5 percent 20 years ago, according to Bank of America.

"The currency pass through isn't dead, though it's less than in the past," Correa said from Mexico City. "Once people realize this exchange rate move is something more permanent, we're likely to see more of an impact on prices."

I'm not a big fan of experts who project today's trend into the future.