Mexico's central bank maintained its benchmark target for the interbank overnight rate at 3.0 percent, as expected, saying the balance of risks to economic activity had improved and it still expects inflation to return to its 3.0 percent target in the first half of 2015.
The Bank of Mexico, which surprised financial markets by cutting its rate by 50 basis points in June, said it would closely track inflation and inflation expectation and pay particular attention to changes in economic slack along with the relative monetary policy stance to the U.S.
The central bank said the current slack in the economy means there is a lack of pressure on inflation from aggregate demand and this lack is expected to continue in coming quarters. However, the economic slack is expected to be gradually reduced.
In the second quarter, Mexico's economy recovered from significant weakness in the previous two quarters, mainly due to external demand but also improved domestic demand.
"Thus, the balance of risks for economic activity has improved," the central bank said.
Given better-than-expected second quarter growth, financial markets expect the central bank's next move to be an increase in rates after the bank cut rates by 150 basis points since start of 2013.
Mexico's Gross Domestic Product expanded by 1.0 percent in the second quarter from the first quarter for annual growth of 1.6 percent. The quarterly growth rate in the first quarter was 0.44 percent after 0.17 percent in the fourth quarter of 2013.
Last month the central bank lowered its 2014 growth forecast for the third time, forecasting growth of 2.0-2.8 percent but retained the 2015 forecast at 3.2-4.2 percent. In 2013 the economy expanded by only 1.1 percent, hit by defaults by major homebuilders and two hurricanes.
Mexico's headline inflation rate has accelerated in recent months due to transitory factors, including the comparison with last year but also unanticipated increases in the prices of livestock and some processed food. Nevertheless, core inflation, which excludes farm and energy costs, has remained close to 3.0 percent and medium and long-term inflation expectations remain stable.
Mexico's headline inflation rate rose to 4.07 percent in July from 3.75 percent in June and the bank expects the past change in livestock product prices to continue to impact inflation in coming months so inflation could end the year around 4 percent before declining toward 3 percent in the first half and ending 2015 at that level.
Core inflation, which rose to 3.25 percent in July from 3.09 percent in June, is expected to end this year close to 3.0 percent and decline below that level in 2015.
Turning to the world economy, the central bank noted the varying degree of dynamism among advanced economies, with geopolitical problems causing temporary turbulence in financial markets.
While U.S. growth has strengthened, growth in the euro zone stalled in the second quarter, increasing the risk of deflation with the result that the monetary stance has been relaxed considerably. However, growth in emerging markets has stabilized, but also with some differences.
"On balance, risks to growth of the global economy have improved," the bank said.