(Bloomberg) -- Mexico will raise its minimum wage by 20% as President Andres Manuel Lopez Obrador doubles down on redistribution policies even at the risk of spurring inflation and limiting the room for interest rate cuts.
The minimum wage will rise to 123.22 pesos ($6.50) a day next year, Labor Minister Luisa Alcalde announced at an event in Mexico City. While that’s less than the most aggressive pay hike proposal of 29% discussed by the head of the nation’s minimum wage commission, known as Conasami, it’s seven times the current rate of inflation, which slowed to 2.85% in late November.
Minimum wage increases have accelerated under Lopez Obrador, a leftist who has promised to boost income and well-being for the nation’s poorest who had lost purchasing power due to stagnant salaries amid inflation. The 20% raise announced Monday follows a 16% hike during his first year in power, at the time the biggest jump in two decades.
“This is going to help the economy of course because it strengthens the internal market,” Lopez Obrador said at an event at the National Palace in the nation’s capital, thanking union leaders and business representatives. “If there’s more revenue, it helps reactivate the economy, there are more sales for merchants.”
The wage increase likely will prevent core inflation from slowing much, even though economic growth is weak, Carlos Capistran, the chief Mexico and Canada economist at Bank of America (NYSE:BAC), said. Core inflation aims to track underlying price trends by excluding the most volatile goods, such as food and energy.
Capistran sees policy makers cutting the interest rate by only a half point more, to 7%, he said in a research report last week. That would still leave Mexico with one of the world’s high real interest rates, or borrowing costs minus inflation.
“We’re starting to see some effect of high minimum wage increases on inflation in the form of higher core inflation, and that will make the central bank more prudent,” said Ernesto Revilla, head of Latin America economics at Citigroup Inc (NYSE:C). in New York and former chief economist at Mexico’s Finance Ministry. “It will make Banxico go slowly in the easing cycle.”
About 20% of Mexico’s working population earned the minimum wage or less per day as of the first quarter of this year, according to the nation’s statistics institute, known as Inegi. But the minimum wage can affect other types of contracts that are indexed to it, making it relevant for other sectors of the economy.
The central bank’s board has been split at its last two policy meetings, with the majority voting for quarter-point interest rate reductions while Lopez Obrador’s two appointees have supported deeper monetary policy easing, of half a percentage point.
Read more: The most recent research and analysis from Bloomberg Economics
The board will cut the key rate a quarter point to 7.25% at its final meeting of the year on Thursday, according to the median forecast of analysts surveyed by Bloomberg.
Central bank Governor Alejandro Diaz de Leon last month called for caution in raising the minimum wage. It’s desirable that salaries cover Mexicans’ basic needs, but this should be done without distorting the labor market or providing disincentives to hiring, he said.
He declined to specify a level at which the wage should be set. In a report in August, the bank said that the increase at the start of this year contributed to a slowdown in the creation of formal jobs.
The central bank flagged persistent core inflation and wage increases that outpace productivity as the top two inflation risks in the statement accompanying its Nov. 14 policy decision.
(Adds analyst comment in sixth paragraph.)