Reviewed by Charles Potters
The Mexican peso (MXN) is one of the world’s most traded currencies and is third in the Western Hemisphere, behind only the U.S. dollar (USD) and the Canadian dollar (CAD).
The Mexican peso has transformed from a national currency into a formidable international financial instrument in recent decades. While forex trading in general has also boomed worldwide, three catalysts have helped drive the Mexican currency’s popularity and liquidity: the nation’s relatively high interest rates, its proximity to the U.S., and its role as a major oil producer.
Key Takeaways
- Mexico usually has higher interest rates than the United States, which can attract investment funds into higher-yielding Mexican government bonds.
- Mexico and the United States share a border, which has led to broad trade agreements and increasing commercial interactions between the two countries.
- Mexico is one of the largest global petroleum producers and the fourth-largest oil producer in the Americas after the United States, Canada, and Brazil.
Mexican Peso and Global Economic Conditions
Developed nations tend to attract investment flows during times of uncertainty and global recessions. However, emerging economies like Mexico tend to attract investment capital during times of economic expansion and global stability.
As a result, currencies like the peso can experience wild fluctuations—called volatility—in their exchange rates during times of instability.
The Dollar As a Reserve Currency
The U.S. dollar is a reserve currency, meaning it’s held by central banks and used to facilitate many financial transactions, particularly in the commodity market. Gold, silver, and crude oil are usually priced in U.S. dollars.
That makes the U.S. dollar a safe haven, which is essentially an investment strategy that limits an investor’s exposure to losses during market downturns.
As a result, the dollar tends to appreciate, or rise in value versus other currencies, during recessions or when investors are risk-averse. For example, global investors might sell their peso-denominated investments and mutual funds for U.S. dollar-denominated investments and Treasuries.
That movement weakens the value of the peso against the dollar.
The Mexican Peso and Recessions
We saw risk aversion play out during the financial crisis of 2007-2008. On July 30, 2008, the peso traded at 10.0345 versus the dollar, meaning you would receive 10.0345 pesos for one dollar. Once the financial crisis struck, leading to the Great Recession, the peso weakened by more than 53% to 15.4060 by March 2, 2009.
The Mexican peso also lost value versus the dollar due to the COVID-19 pandemic and the resulting recession in 2020. The peso stood at 18.86 on Dec. 31, 2019, a few months before the pandemic began. Once the pandemic struck, many investors sent their money to safe-haven assets such as U.S. Treasuries.
As a result, U.S. Treasury bond prices soared and the Mexican peso weakened versus the dollar. The peso lost more than 33% of its value, to 25.13 pesos per dollar, by March 24, 2020.
1. Higher Interest Rates and the Carry Trade
Typically Mexico has higher interest rates than the United States. In other words, Mexican bonds pay a higher return than U.S. government-backed U.S. Treasuries.
Interest Rate Differential
Typically, Mexican bonds produce higher interest rate returns than the U.S. because its central bank maintains higher interest rates. Mexican government bonds were paying about 10% to 11% in interest in 2024, roughly twice the rate for Treasury bonds.
The difference in rates among developed and emerging markets leads speculators and investors to borrow money in low-interest countries and invest it in markets with higher interest rates—a strategy known as the carry trade.
Carry Trade
The carry trade can be far more profitable due to the use of leverage by currency traders. Foreign exchange (forex) traders can use 10:1 or even 100:1 leverage to multiply their gains from the carry trade. Shorting (or selling) the U.S. dollar and going long (or buying) the Mexican peso with enough leverage can produce returns of 60% or even 600% in a year.
When interest rates are six percentage points higher in Mexico, such leveraged gains are possible even when there is no movement in the exchange rate.
However, just as leverage can magnify gains, it can also magnify losses. The peso carry trade can collapse suddenly when the U.S. dollar rises rapidly against the Mexican peso, as happened during the 2020 bear market.
Before the 2020 recession, Mexican interest rates for government bonds offered 5-6% more interest than their U.S. counterparts, which encouraged borrowing funds from U.S. banks and investing in Mexican bonds.
The trade can work well in times of stability since the USD/MXN exchange rate would likely be stable, but during the 2020 recession, instability rose due to the pandemic.
As a result, capital flows fled Mexico and into safe-haven investments, such as Treasuries, despite them offering much lower yields than Mexican government bonds. This led to the peso weakening by 33% from the end of 2019 to late March of 2020.
Important
Using leverage in the carry trade (or any trading) can multiply losses as easily as gains.
2. Proximity to the U.S.
Mexico and the United States share a border and a relationship that extends to broad trade agreements as well as immigration disputes.
Physical proximity has an additional effect on the peso’s value. Highly prosperous border regions engaging in commercial interactions significantly increase Mexican peso liquidity.
The USD/MXN forex pair offers a natural currency play, and it is also the most liquid MXN pair. Regarding trade, the United States exported more than $322 billion in goods to Mexico in 2024 while importing $475 billion worth of goods, adding significant liquidity.
However, trade agreements between the U.S. and Mexico can be revised, which can lead to volatility in the USD/MXN exchange rate and capital flows between the two countries.
3. Crude Oil
Mexico is one of the largest petroleum producers globally and is the fourth-largest oil producer in the Americas after the United States, Canada, and Brazil. As of 2023, Mexico had about 5.6 billion barrels of crude oil reserves, placing it in the top 25 reserves holders in the world.
The Mexican peso often moves with energy prices because Mexico’s oil reserves provide collateral for financing. The money from borrowing allows the Mexican government to obtain funds for domestic spending programs.
International lenders are more willing to invest and assume risk in petroleum-dominated countries when crude oil prices are high. The connections between the Mexican peso and oil have also led to investors speculating on oil prices and the USD/MXN exchange rate.
However, many risks exist to investors due to volatility and uncertainty surrounding crude oil prices and Mexican oil production. A dramatic collapse in oil prices in early 2020 added to the depreciation in the value of the peso.
What Was the Mexican Peso Crisis?
In 1994, the Mexican peso experienced a sudden devaluation. This caused an economic shockwave that reverberated throughout Latin America. This so-called “tequila effect” was fixed with a $50 billion bailout package signed by then-President Bill Clinton and administered by the International Monetary Fund.
What Is the Value of the Mexican Peso?
It takes 20.393 Mexican pesos (MXN) to buy $1 U.S. dollar (USD) as of Jan. 26, 2025.
Where Did the Mexican Peso Get Its Name?
The Mexican peso was based on the Spanish real, but its name comes from the silver 8-real coin that was the currency’s most common denomination until the mid-19th century. The word means weight in Spanish.
The Bottom Line
The Mexican peso shows high liquidity for three reasons. First, it offers relatively high interest rates that encourage the currency market’s high-volume carry trade. Secondly, the country’s physical proximity to the United States encourages billions of dollars in commercial activity between the two nations. Finally, it has crude oil reserves that contribute to international trade.
That said, the Mexican peso’s value tends to be volatile, strengthening in good economic times and weakening during recessions.