October, 2010
INFLATION REPORTJULY - SEPTEMBER 2010
Outline
1. External Conditions
2. Economic Activity in Mexico
3. Inflation and Monetary Policy
4. Forecasts and Balance of Risks
5. Modifications to the Communication Scheme
3
1. External Conditions
The world economy experienced a slowdown during the thirdquarter of 2010:
Domestic demand in the major advanced economies remains weak.
In the U.S. households continue to deleverage and to adjust theirspending to sustainable levels.
The financial system remains fragile.
Emerging economies continued growing at a faster pace thanadvanced economies, although in some cases there appearedsigns of deceleration.
World inflation remains at low levels. Moreover, in someadvanced economies concerns about the possibility of deflationhave increased.
4
Gross Domestic Product(Annual % change)
Source: IMF, WEO October 2010.
1. External ConditionsWorld Trade Volume
(Index 2000=100)
Source: CPB Netherlands.
90
100
110
120
130
140
150
160
170
Jan-
00
May
-01
Sep-
02
Jan-
04
May
-05
Sep-
06
Jan-
08
May
-09
Source: CPB Netherlands.
World Industrial Production(Annualized % change over 3 months)
-30
-25
-20
-15
-10
-5
0
5
10
15
20
Jan-
00
May
-01
Sep-
02
Jan-
04
May
-05
Sep-
06
Jan-
08
May
-09
-6
-4
-2
0
2
4
6
8
10
I 200
6
IV 2
006
III 2
007
II 20
08
I 200
9
IV 2
009
III 2
010
II 20
11
WorldAdvancedEmerging
IV 2
011
Forecast
Aug
-10
Aug
-10
5
U.S.: Households’ Debt and Debt Service
(% of Disposable personal income; s.a.)
s.a./ Seasonally adjusted.Source: Federal Reserve.
10.0
10.5
11.0
11.5
12.0
12.5
13.0
13.5
14.0
14.5
40
50
60
70
80
90
100
110
120
130
140
1980
1983
1986
1989
1992
1995
1998
2001
2004
2007
2010
DebtDebt service (left axis)
s.a./ Seasonally adjusted.Source: BEA.
U.S.: Households’ Saving Rate(% of Disposable personal
income; s.a.)
U.S.: Consumer Confidence(Index 1985=100)
Source: Conference Board.
0
2
4
6
8
10
12
14
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
2010
20
40
60
80
100
120
140
160
Jan-
80A
pr-8
2Ju
l-84
Oct
-86
Jan-
89A
pr-9
1Ju
l-93
Oct
-95
Jan-
98A
pr-0
0Ju
l-02
Oct
-04
Jan-
07A
pr-0
9
1. External Conditions
Oct
-10
6
s.a./ Seasonally adjusted.Source: BEA and Federal Reserve.
U.S. : GDP and Industrial Production(Quarterly annualized % change; s.a.)
-20
-15
-10
-5
0
5
10
I 200
7
II 20
07
III 2
007
IV 2
007
I 200
8
II 20
08
III 2
008
IV 2
008
I 200
9
II 20
09
III 2
009
IV 2
009
I 201
0
II 20
10
III 2
010
GDP
Industrial Production
s.a./ Seasonally adjusted.Source: BLS.
U.S.: Non-farm Payroll and Unemployment Rate
(Change in thousands of jobs and %; s.a.)
1. External Conditions
0
2
4
6
8
10
12
-800
-600
-400
-200
0
200
400
600
800
Jan-
00Se
p-00
May
-01
Jan-
02Se
p-02
May
-03
Jan-
04Se
p-04
May
-05
Jan-
06Se
p-06
May
-07
Jan-
08Se
p-08
May
-09
Jan-
10Se
p-10
Non-farm Payroll
Unemployment rate (left axis)
7
Source: Bloomberg.
Inflation inAdvanced Economies
(Annual %)
-3
-2
-1
0
1
2
3
4
5
6
7
Jan-
06
May
-06
Sep-
06
Jan-
07
May
-07
Sep-
07
Jan-
08
May
-08
Sep-
08
Jan-
09
May
-09
Sep-
09
Jan-
10
May
-10
Sep-
10
U.S.EurozoneJapanU.K.
-4
-2
0
2
4
6
8
Jan-
84
Sep-
85
May
-87
Jan-
89
Sep-
90
May
-92
Jan-
94
Sep-
95
May
-97
Jan-
99
Sep-
00
May
-02
Jan-
04
Sep-
05
May
-07
Jan-
09
Sep-
10
Headline
Core 1/
U.S.:Headline and Core Inflation
(Annual %)
1/ CPI excluding food and energy.Source: BLS
1. External Conditions
8
The degree of monetary accommodation in advancedeconomies has generated abundant global liquidity, which hasled to a search for higher yields.
This has contributed to:
Substantial capital inflows to emerging economies;
Appreciation of their currencies; and
Upward pressures on asset prices (that could even lead to“bubbles”).
All of these complicate monetary policy in emerging economies.
1. External Conditions
9
Currency appreciation can affect export competitiveness.
Some economies have taken certain steps to try to contain thisappreciation.
Nevertheless, in some cases currency appreciation reflects, atleast partially, more fundamental factors, such as an improvementin the terms of trade (e.g., an increase in the prices ofcommodities).
A widespread policy of sustained economic recovery by meansof depreciated real exchange rates (“competitivedepreciations”) is not a viable solution for the global economy.
Greater coordination among countries is necessary in order tomaximize growth in the global economy.
1. External Conditions
10
-80
-60
-40
-20
0
20
40
60
80
100
120
1 4 7 10 13 16 19 22 25 28 31 34 37 40 43 46 49 52
2007
2008
2009
2010
1. External Conditions
1/ The sample covers funds used for buying andselling stocks, and bonds from emerging countrieslisted in advanced economies’ markets. Flows excludeportfolio performance and exchange ratefluctuations. Source: EPFR.
Accumulated Flows to Emerging Economies (Equity and Debt) 1/
(Billions of dollars)
Weeks
0
50
100
150
200
250
Jan-
00Se
p-00
May
-01
Jan-
02Se
p-02
May
-03
Jan-
04Se
p-04
May
-05
Jan-
06Se
p-06
May
-07
Jan-
08Se
p-08
May
-09
Jan-
10Se
p-10
Commodity Prices(Index 31-Dec-02=100)
Exchange Rate in Emerging Economies vs. U.S. Dollar 2/
(Index Aug-08=100)
Source: IMF.2/ Exchange rates in relation to USD. An increase implies an appreciation.Source: Bloomberg.
60
70
80
90
100
110
120
130
Jun-
08
Oct
-08
Feb-
09
Jun-
09
Oct
-09
Feb-
10
Jun-
10
Oct
-10
BrazilChileKoreaMexicoPeru
Appreciation
Outline
1. External Conditions
2. Economic Activity in Mexico
3. Inflation and Monetary Policy
4. Forecasts and Balance of Risks
5. Modifications to the Communication Scheme
12
2. Economic Activity in Mexico
Industrial Production Indicators(Index Jun-2008=100; s.a.)
s.a./ Seasonally adjusted.1/ Calculations by Banco de México with data from INEGI.Source: INEGI.
s.a./ Seasonally adjusted.Source: INEGI.
Economic Activity Indicators
(Index 2003=100; s.a.)
s.a./ Seasonally adjusted.Source: INEGI.
Manufacturing Exports(Index 2008=100; s.a.)
50
60
70
80
90
100
110
120
130
Jan-
06M
ay-0
6Se
p-06
Jan-
07M
ay-0
7Se
p-07
Jan-
08M
ay-0
8Se
p-08
Jan-
09M
ay-0
9Se
p-09
Jan-
10M
ay-1
0Se
p-10
Manufacturing
Automotive
Others
88
90
92
94
96
98
100
102
Jan-
07M
ay-0
7Se
p-07
Jan-
08M
ay-0
8Se
p-08
Jan-
09M
ay-0
9Se
p-09
Jan-
10M
ay-1
0
ConstructionIndustry without construction 1/
103
108
113
118
123
128
133
Jan-
07
May
-07
Sep-
07
Jan-
08
May
-08
Sep-
08
Jan-
09
May
-09
Sep-
09
Jan-
10
May
-10
Total IGAE
Industrial production
Services
Aug
-10
Aug
-10
13
2. Economic Activity in Mexico
s.a./ Seasonally adjusted.Source: INEGI.
Sales in Commercial Establishments(Index 2008=100; s.a.)
Workers’ Remittances(Billion dollars; s.a.)
1.4
1.6
1.8
2.0
2.2
2.4
2.6
Jan-
06
May
-06
Sep-
06
Jan-
07
May
-07
Sep-
07
Jan-
08
May
-08
Sep-
08
Jan-
09
May
-09
Sep-
09
Jan-
10
May
-10
Sep-
10
Seasonally adjusted
Trend
85
90
95
100
105
Jan-
06
Jun-
06
Nov
-06
Apr
-07
Sep-
07
Feb-
08
Jul-0
8
Dec
-08
May
-09
Oct
-09
Mar
-10
Aug
-10
Wholesale
Retail
s.a./ Seasonally adjusted.Source: Banco de México.
14
2. Economic Activity in Mexico
s.a./ Seasonally adjusted.1/ Includes credits for automobiles and real estate acquisition, for capitalized leasing, personal, and other consumption credits.Source: Banco de México.
Commercial Banks’ Credit to Households
(Index Dec-2006=100; s.a.)
Consumer Confidence Index(Index 2003=100; s.a.)
s.a./ Seasonally adjusted.Source: INEGI and Banco de México.
70
75
80
85
90
95
100
105
110
115
Jan-
05M
ay-0
5Se
p-05
Jan-
06M
ay-0
6Se
p-06
Jan-
07M
ay-0
7Se
p-07
Jan-
08M
ay-0
8Se
p-08
Jan-
09M
ay-0
9Se
p-09
Jan-
10M
ay-1
0Se
p-10
Seasonally adjusted
Trend
70
75
80
85
90
95
100
105
110
115
120
125
130
60
70
80
90
100
110
120
130
140
150
Jan-
06
Jun-
06
Nov
-06
Apr
-07
Sep-
07
Feb-
08
Jul-0
8
Dec
-08
May
-09
Oct
-09
Mar
-10
Aug
-10
HousingConsumption (left axis)Durable goods and others (left axis) 1/
15
-20
-10
0
10
20
30
40
Jun-
07
Dec
-07
Jun-
08
Dec
-08
Jun-
09
Dec
-09
Jun-
10
Total
Credit
Issuance
2. Economic Activity in MexicoGross Fixed Investment and
Components(Index 2005=100; s.a.)
s.a./ Seasonally adjusted.Source: INEGI.
80
90
100
110
120
130
140
150
Jan-
06
Jul-0
6
Jan-
07
Jul-0
7
Jan-
08
Jul-0
8
Jan-
09
Jul-0
9
Jan-
10
Jul-1
0
TotalConstructionMachinery and equipment
Total Financing to Non-financial Private Firms 1/
(Real annual % change)
13.0
13.2
13.4
13.6
13.8
14.0
14.2
14.4
14.6
14.8
Jan-
06
Aug
-06
Mar
-07
Oct
-07
May
-08
Dec
-08
Jul-0
9
Feb-
10
Sep-
10
Original
Seasonally adjusted 2/
2/ Seasonally adjusted by Banco de México.Source: IMSS.
IMSS-insured Permanent and Temporary Workers in Urban Areas
(Million workers; s.a.)
1/ It includes total banking credit and the one providedby other non-banking financial intermediaries in thecountry, as well as financial credit provided bycommercial banks, bilateral, and foreign suppliers.Source: Banco de México.
Outline
1. External Conditions
2. Economic Activity in Mexico
3. Inflation and Monetary Policy
4. Forecasts and Balance of Risks
5. Modifications to the Communication Scheme
17
During the third quarter, average annual headline inflationdecreased and was below the lower limit of Banco de México’sforecast interval.
This performance mainly reflects:
Currency appreciation.
A negative output gap.
Intensified competition among some retail chains.
Low levels of world inflation.
All of these elements have taken place in a context of a monetarypolicy aimed at achieving the inflation target.
3. Inflation and Monetary Policy
18
0
1
2
3
4
5
6
7
8
9
10
I 200
6
II 20
06
III 2
006
IV 2
006
I 200
7
II 20
07
III 2
007
IV 2
007
I 200
8
II 20
08
III 2
008
IV 2
008
I 200
9
II 20
09
III 2
009
IV 2
009
I 201
0
II 20
10
III 2
010
Headline
Core
Non-core
1/ Quarterly average of annual inflation.Source: Banco de México.
Annual Inflation(Quarterly average in %) 1/
3. Inflation and Monetary Policy
19
0
1
2
3
4
5
6
7
8
9
10
Jan-
04
Sep-
04
May
-05
Jan-
06
Sep-
06
May
-07
Jan-
08
Sep-
08
May
-09
Jan-
10
Sep-
10
Merchandise
Food
Others
0
1
2
3
4
5
6
7
8
9
10
Jan-
04
Sep-
04
May
-05
Jan-
06
Sep-
06
May
-07
Jan-
08
Sep-
08
May
-09
Jan-
10
Sep-
10
Services
Housing
Education
Others
Source: Banco de México.Source: Banco de México.
Annual Merchandise Core Inflation(%)
Annual Services Core Inflation(%)
3. Inflation and Monetary Policy
20
Favorable developments on inflation and its expectations havetaken place in an environment where there are no demand-related pressures on prices:
Moderate wage increases.
Unused installed capacity.
Moderate credit recovery.
So far, increases in the international prices of wheat, corn, andsugar have not affected domestic prices.
3. Inflation and Monetary Policy
21
-8
-6
-4
-2
0
2
4
6
I 200
0
I 200
1
II 20
02
III 2
003
III 2
004
IV 2
005
I 200
7
I 200
8
II 20
09
III 2
010
GDP 2/
IGAE 3/
62
66
70
74
78
Jan-
06
Jun-
06
Nov
-06
Apr
-07
Sep-
07
Feb-
08
Jul-0
8
Dec
-08
May
-09
Oct
-09
Mar
-10
Aug
-10
Original
Seasonally Adjusted
Source: Banco de México.
Output Gap 1/
(% of Trend)
1/ The output gap was estimated using the Hodrick-Prescott (HP) method with tail corrections; see Bancode México (2009), “Inflation Report April-June,” p.69.2/ GDP of the third quarter of 2010 estimated byBanco de México.3/ Data up to August, 2010.Source: Banco de México.
Installed Capacity Utilization (%)
2
3
4
5
6
7
Jan-
09
Mar
-09
May
-09
Jul-0
9
Sep-
09
Nov
-09
Jan-
10
Mar
-10
May
-10
Jul-1
0
Sep-
10
IMSS Reference Wage(Annual % change)
Source: Calculations by Banco de México with datafrom IMSS.
3. Inflation and Monetary Policy
22
3.25
3.50
3.75
4.00
4.25
4.50
4.75
5.00
5.25
5.50
5.75
6.00
6.25
Dec
-08
Mar
-09
Jun-
09
Sep-
09
Dec
-09
Mar
-10
Jun-
10
Sep-
10
December 2010
Average 2010-Q4
Dec-092.50
2.75
3.00
3.25
3.50
3.75
4.00
4.25
4.50
4.75
5.00
5.25
5.50
Jan-
05M
ay-0
5Se
p-05
Jan-
06M
ay-0
6Se
p-06
Jan-
07M
ay-0
7Se
p-07
Jan-
08M
ay-0
8Se
p-08
Jan-
09M
ay-0
9Se
p-09
Jan-
10M
ay-1
0Se
p-10
End 2011
Next 4 years
Next 5-8 years
Dec-08
Dec-09
Headline Inflation Expectations for 2011
(Annual %)
Source: Banco de México Survey.
3.00
3.25
3.50
3.75
4.00
4.25
4.50
4.75
5.00
Dec
-09
Jan-
10
Feb-
10
Mar
-10
Apr
-10
May
-10
Jun-
10
Jul-1
0
Aug
-10
Sep-
10
Headline
Core
Non-core
Headline Inflation Expectations for 2010 1/
(Annual %)
1/ Average inflation expectations for the fourth quarterof 2010 are calculated based on monthly inflationexpectations for each of the next twelve months.Source: Banco de México Survey.
Headline Inflation Expectations (Annual %)
Source: Banco de México Survey.
3. Inflation and Monetary Policy
23
Oct
-10
Mexico’s Yield Curve(%)
Source: Banco de México and Proveedor Integral de Precios.
Overnight Interbank Interest Rate 1/
(%)
1/ The target for the overnight interbank interest rate (Banco deMéxico’s operating target) is shown since January 21, 2008.Source: Banco de México.
0
2
4
6
8
10
12
Jan-
03Ju
n-03
Nov
-03
Apr
-04
Sep-
04Fe
b-05
Jul-0
5D
ec-0
5M
ay-0
6O
ct-0
6M
ar-0
7A
ug-0
7Ja
n-08
Jun-
08N
ov-0
8A
pr-0
9Se
p-09
Feb-
10Ju
l-10
3.5
4.0
4.5
5.0
5.5
6.0
6.5
7.0
7.5
8.0
8.5
9.0
1 1 3 6 1 2 3 5 10 20 30
31-Dec-09
31-Mar-10
30-Jun-10
26-Oct-10
day months years
3. Inflation and Monetary Policy
Outline
1. External Conditions
2. Economic Activity in Mexico
3. Inflation and Monetary Policy
4. Forecasts and Balance of Risks
5. Modifications to the Communication Scheme
25
4. Forecasts and Balance of Risks
During the third quarter the balance of risks associated toinflation improved. Therefore, the forecast for annual headlineinflation has been revised downwards:
Next two quarters’ intervals were revised downwards:
• 2010-Q4: from 4.75 - 5.25% to 4.25 - 4.75% (-50 bp revision).
• 2011-Q1: from 4.50 - 5.00% to 3.75 - 4.25% (-75 bp revision).
For 2011-Q2 inflation is expected to be between 3 and 4%.
From 2011-Q3 onwards inflation is expected to convergetowards the target of 3%, bearing in mind the variabilityinterval of +/- 1 percentage point.
26
Headline Inflation Forecasts(% Quarterly Average)
Source: Banco de México.
0
1
2
3
4
5
6
III20
09
IV 2
009
I 201
0
II 20
10
III 2
010
IV 2
010
I 201
1
II 20
11
III 2
011
IV 2
011
I 201
2
Observed Inflation
Previous Forecast
2010-Q3 Inflation Report Forecast
…
4. Forecasts and Balance of Risks
27
The inflation forecast is subject to risks:
The growth rate of public sector prices and tariffs. (↑)
The possibility of a reversion of the effects of greater competitionamong retail chains. (↑)
Abrupt changes in the exchange rate. (↑↓)
Volatility of the international prices of grains. (↑↓)
Higher downside risks on economic activity. (↓)
High degree of volatility of fruit and vegetable prices. (↑↓)
4. Forecasts and Balance of Risks
-7
-6
-5
-4
-3
-2
-1
0
1
2
3
4
5
6
7
2007
2008
2009
2010
f
2011
f
28
Between 3.2 – 4.2
Around 5.0
12.0
12.5
13.0
13.5
14.0
14.5
15.0
15.5
2007
2008
2009
2010
f
2011
f
Between 575 and 675thousand jobs
Between 500 and 600 thousand jobs
-2.0
-1.5
-1.0
-0.5
0.0
2007
2008
2009
2010
f
2011
f
Gross Domestic Product(Annual % change)
IMSS-insured Workers(Million)
Current Account(% of GDP)
f/ Forecast.Source: INEGI and forecast of Banco de México.
f/ Forecast.Source: IMSS and forecast of Banco de México.
f/ Forecast.Source: Banco de México.
4. Forecasts and Balance of Risks
29
The Mexican economy faces the challenge of generating growthrates that will lead to a greater level of development.
Macroeconomic policy plays a fundamental role.
Nevertheless, it needs to be complemented by an incentivestructure that leads to gains in productivity.
Public policies that could have a favorable effect:
Increasing the degree of competition in input and final goodsmarkets.
Flexibility in the labor market.
4. Forecasts and Balance of Risks
Outline
1. External Conditions
2. Economic Activity in Mexico
3. Inflation and Monetary Policy
4. Forecasts and Balance of Risks
5. Modifications to the Communication Scheme
31
Publication of Minutes of the Board of Governors’ meetingsregarding monetary policy decisions from 2011 onwards.
The number of predetermined monetary policy announcementdates will be reduced from 11 to 8 in 2011.
Changes in the format used to publish inflation and economicactivity forecasts. Starting from the next Inflation Reportonwards, these forecasts will be published using “Fan Charts”.
5. Modifications to the Communication Scheme
32
Publication of Minutes
The publication of Minutes will contribute to increase thetransparency of the Central Bank and to be in line with the bestpractices in these matters.
Information on the monetary policy decision-making process willbe provided, in particular on the factors that influence thedecisions of the members of the Board.
The Minutes will be released 10 working days after theannouncement of the monetary policy decision.
5. Modifications to the Communication Scheme
33
Reduction in the Number of Predetermined Monetary PolicyAnnouncement dates
Considering that inflation has converged to low and stable levelsduring recent years, the number of predetermined dates toannounce monetary policy decisions will be reduced from 11 to 8in 2011.1/
The Central Bank will be publishing information on monetarypolicy during all of the months of 2011 through theabovementioned announcements, the Minutes and/or theInflation Reports.
Indeed, although the number of monetary policy announcementsduring the year will be reduced, the amount of informationreleased to the public will increase.
1/ As in previous years, the Board of Governors reserves the right to announce changes in the monetary policy stance at dates different tothose previously scheduled, in the case of extraordinary events or situations requiring the Central Bank’s intervention.
5. Modifications to the Communication Scheme
Calendar for 2011
1/ The Inflation Report that will be published on February 9, 2011 corresponds to 2010-Q4, the one to be published on May11 to 2011-Q1, the one to be published on August 10 to 2011-Q2, and the one to be published on November 9 to 2011-Q3.
MonthAnnouncement of the
Monetary Policy Decision
Minutes of the Board of Governor's Meetings
Regarding Monetary Policy Decisions
Inflation Reports 1/
January 21February 4 9March 4 18April 15 29May 27 11June 10July 8 22August 26 10September 9October 14 28November 9December 2 16
5. Modifications to the Communication Scheme
35
Changes in the format of forecast publications
Starting from the next Inflation Report onwards, the forecasts ofinflation and economic activity will be published using “FanCharts”.
Advantages of using these graphs:
They illustrate the uncertainty associated to the forecastedvariable.
They explicitly indicate the probability with which the forecastedvariable is expected to lie within different intervals.
They reflect the fact that the longer the forecast horizon, thegreater the uncertainty of the estimates.
Their use is considered a best practice among central banks.
5. Modifications to the Communication Scheme
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T1 T2 T3 T4 T5 T6 T7 T8 T9 T10
T11
T12
Fan Chart Example for a Particular Variable
5. Modifications to the Communication Scheme