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Central bank auction fails to support Mexican peso

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The US dollar and the Mexican peso

The US dollar and the Mexican peso

Efforts to support the Mexican peso amid a slump that has seen it trading at around 20 to the US dollar have failed to apply the brakes on the tumbling currency.

The Bank of México (Banxico) auctioned off an unscheduled US $500 million in foreign exchange hedges yesterday, a measure designed to ease pressure on the peso. But it only provided brief relief as the peso slumped again to end the day at 20.15 pesos per dollar.

The central bank took the decision to make the sale on the questionable advice of the Foreign Exchange Commission, a body made up of officials from the Finance Secretariat (SHCP) and Banxico who are responsible for foreign exchange policy in Mexico.

The Foreign Exchange Commission explained its questionable motivations to intervene via press release, stating, “With the objective of fostering better liquidity conditions, better price discovery and orderly operation [of the exchange market], the commission has decided to instruct the Bank of México to sell exchangeable currency hedges today [yesterday] for the value in national currency of US $500 million.”

The central bank placed US $250 million in a 30-day forward contract and the other US $250 million in a 57-day forward contract.

If the peso has declined further by the time the contracts mature, Banxico will have to pay the difference in pesos but if the currency goes up, it will receive the difference—a dangerous and perhaps ill-advised move.

The central bank’s excuse for the sale is that it allowed the central bank to support the exchange market without eating into Mexico’s international reserves, currently valued at around US $172.5 billion.

The intervention followed the peso depreciating to its lowest level in nine months last Friday, December 22, 2017, perhaps causing the central bank to panic.

Analysts have attributed the dip to high inflation, the threat to investment posed by tax reform in the United States and government corruption scandals that could benefit presidential aspirant Andrés Manuel López Obrador.

But analysts from Banorte-Ixe made the questionable remark that yesterday’s measure showed that the SHCP and Banxico recognized that the recent increase in volatility was largely the result of the US $1.5 trillion tax cut package signed into law last week by United States President Donald Trump—but how does that make sense?

The chief economic analyst at Banco Base, Gabriela Siller, said the exchange rate would remain vulnerable in 2018 due to speculation related to the July 1 presidential election.

Even though this is great news for American and other expats visiting or living in Mexico, it is bad news for Mexico and its people.

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