Why the Dollar is Strengthening Against the Mexican Peso: Factors Influencing Exchange Rates

• Federal Reserve Interest Rates: One of the most significant elements explaining the dollar’s strength is the monetary policy of the United States. On September 16, the Federal Reserve (Fed) raised its target range for federal funds by 25 basis points to 3.75%-4.00%. The institution also indicated that inflation remains elevated and economic uncertainty persists. When investors anticipate higher U.S. rates for a longer period, dollar-denominated assets can become relatively more attractive. This can favor increased demand for the U.S. currency and exert pressure on emerging market currencies, including the Mexican peso.

• Interest Rate Differential Between Mexico and the United States: Mexico has historically maintained an interest rate higher than that of the United States, a factor that has contributed to the attractiveness of peso-denominated assets. However, when the Fed raises its rates while Banxico leaves its unchanged, the differential narrows. Currently, the market expects Banxico to maintain its benchmark rate at 6.50% during its decision on Thursday, September 24. If the Federal Reserve maintains a restrictive stance and eventually makes further upward adjustments, the differential between the two countries could narrow even further. This is because of the relative yield that investors can obtain by holding positions in pesos versus dollar-denominated assets.

• Expectations Regarding Banxico: Banxico’s decision on Thursday will be one of the central events for the Mexican peso this week. Beyond whether the rate remains at 6.50%, investors will analyze the tone of the statement and any signals regarding the future of monetary policy. A more restrictive stance could help maintain the attractiveness of peso-denominated instruments. Conversely, signals of eventual easing could alter market expectations about the interest rate differential.

• Inflation and Economic Activity in Mexico: Relevant data on the Mexican economy will also be released on Thursday. The market expects economic activity in July to show monthly growth of 0.3%, following a contraction of 0.1% in the previous reading. Regarding inflation, expectations point to an increase of 0.28% in the first half of September, with an annual rate of 3.38%, while core inflation is projected to be around 3.81%. This data will be significant as it can modify expectations about Banxico’s upcoming decisions.

• International Dollar Strength: The peso’s performance cannot be analyzed in isolation. The dollar serves as one of the main international reference currencies and typically sees demand when investors seek assets considered relatively safer or when they anticipate higher returns in the United States. This week, markets are also closely monitoring discussions between the United States and China, whose governments are negotiating matters related to trade, investment, and artificial intelligence. The meeting between Presidents Donald Trump and Xi Jinping keeps the market attentive to any signals that could alter expectations about global trade and economic growth. Reuters reported that previous discussions were described as successful by U.S. Treasury Secretary Scott Bessent.

• Oil and Energy Prices: International energy prices can also influence currencies. In recent days, oil has accumulated several sessions of decline due to diplomatic signals related to the Middle East and the possibility of continued energy flows. Reuters noted that oil fell more than 2% on Tuesday as markets assessed prospects regarding the conflict and potential negotiations. A decrease in crude oil prices could reduce some international inflationary pressures, although its impact on the peso depends on several simultaneous factors.

• Risk Appetite or Aversion: Finally, the exchange rate responds to the level of investor confidence in emerging markets. When international uncertainty increases due to geopolitical conflicts, trade tensions, abrupt changes in interest rates, or growth concerns, some capital may shift towards assets considered lower risk. This can increase demand for dollars and generate pressure on currencies like the peso.

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