Fed’s Interest Rate Hike to Limit Investment in Mexico

The US Federal Reserve raised its reference interest rates by half a percentage point, the first increase of this magnitude since 2000, to try to control the worst inflation hike of this generation. The bank justified this decision claiming that it will calm the economy from getting out of control “in the future.” However, in March, the reference interest rate had already been raised by a quarter of a percentage point but inflation continued to rise, reaching a new maximum in four decades. A day after the decision, the Mexican Stock Market (BMV) and Wall Street fell sharply.

“Inflation is too high, and we understand the hardship it is causing. We are moving quickly to bring it down. We have the tools we need and we are determined to restore price stability on behalf of American families and businesses,” said Jerome Powell, Chairman, Federal Reserve, during a press conference.

The increase in the Federal Reserve is not an isolated factor. It aims to alleviate the challenges US citizens face in terms of rising costs for most goods. COVID-19 lockdowns in China and the Russian-Ukraine are expected to continue increasing the price of food and energy, as reported by CNN. 

The move comes shortly after US President Joe Biden said that his government would prioritize paying off the national debt for the first time since 2016. “The bottom line is that the deficit went up every year under my predecessor before the pandemic and during the pandemic. And it has gone down both years since I have been here,” said Biden. The US currently accumulates a public debt of US$30.4 trillion, the vast majority of which is owned by government agencies or the Federal Reserve, foreign investors and mutual investment funds, as reported by CBS News. 

The last time the interest rate was raised by the Fed, a surge of capital outflows to Mexico at levels similar to those of 2021 was expected, according to Amin Vera, Deputy Director of Economic Analysis at Black Wallstreet Capital Mexico, to the Economist.

“With the rise in interest rates by the Fed, a substitution effect is going to be generated by making the investment in fixed income more attractive than in variable income, in a margin that allows diversification,” said James Salazar, Deputy Director of Economic Analysis, CIBanco, mentioned in Jan. 2022 to El Economista. Now that the US has raised its rate again, emerging economies are expected to raise their interest rates to attract more capital. Salazar said that Mexico will likely see a negative trend in foreign capital investment in government securities following the US’s decision. So far, the Fed’s rate hike is already affecting BMV, which reported sharp drops in the value of several stocks.