Česká národní banka

Minutes of the Bank Board Meeting on 3 August 2017

Present at the meeting: Jiří Rusnok, Vladimír Tomšík, Vojtěch Benda, Oldřich Dědek, Marek Mora, Tomáš Nidetzký.

The meeting opened with a presentation of the fifth situation report containing the new macroeconomic forecast covering the horizon up to the end of 2019. Inflation had decreased slightly in 2017 Q2 but had remained in the upper half of the tolerance band around the CNB’s target. The growth in consumer prices had continued to be driven by rising core inflation and food prices. The Czech economy was slightly above its potential output level. Its growth had picked up in Q1, mainly as a result of a higher contribution of net exports and an unwinding of the year-on-year decline in government investment connected with the EU funding cycle. Robust growth in household consumption was continuing, in conditions of accelerating wage and employment growth and persisting consumer optimism.

Inflation would stay in the upper half of the tolerance band for the rest of this year. Inflation pressures were currently peaking, reflecting accelerating wage growth amid robust growth of the domestic economy. The inflation pressures would ease in the period ahead owing to rising labour productivity growth and a renewed anti-inflationary effect of import prices. Inflation would thus fall towards the CNB’s 2% target in early 2018 and would be slightly below it over the monetary policy horizon. Core inflation would meanwhile fluctuate stably around 2%. The growth of the Czech economy would accelerate visibly above 3% this year and would stay slightly above this level in the following two years. It would be driven by rapid growth in household consumption and a recovery in investment amid continued growth in external demand. Stable growth in labour demand coupled with an increasingly distinct shortage of available labour would manifest itself in buoyant wage growth. Consistent with the forecast was an increase in domestic market interest rates in 2017 Q3 and later also in the following two years. According to the forecast, the koruna would appreciate further against the euro. Appreciation would be fostered by continued real convergence of the Czech economy to the euro area countries, a positive interest rate differential vis-à-vis the euro area and ongoing asset purchases by the European Central Bank. However, the exchange rate forecast did not take into account that the appreciation may still be dampened in the quarters ahead by market “overboughtness”.

In the discussion that followed the presentation of the situation report, the Board agreed that the balance of risks to the current forecast was tilted slightly to the inflationary side. The koruna exchange rate remained a significant risk in this direction. In the quarters ahead, it may be weaker than forecasted owing to the closing of koruna positions by financial investors in the absence of a counterparty. 

The board members also concurred in positively assessing the current economic situation. The Czech economy was growing at a robust pace, while employment and the participation rate were at historical highs and were also high by international comparison. The growing tightness in the labour market was leading to faster wage growth. The property market was simultaneously overheating. The reasons why this was not being reflected in stronger inflation pressures were discussed. Most of the board members agreed that although the domestic economy was fostering higher inflation, reflected, among other things, in rising core inflation, the external environment was having an anti-inflationary effect. Another hypothesis mentioned was the possibility of a decrease in the sensitivity of inflation to real variables (a flattening of the Phillips curve), not only in the Czech economy, but on the global scale. This would lead to a decrease in the effect of monetary policy on inflation. On the other hand, however, it was said that the current evidence did not offer strong enough support for changing the view about the functioning of the Phillips curve.

When assessing future developments, the Board agreed that the new forecast provided a good guide for its monetary policy decision-making. The forecast demonstrated that, unlike in November 2012, the Czech economy no longer needed a stimulus in the form of technical zero interest rates. The appreciation of the koruna had led to a tightening of the exchange rate component of the monetary conditions equivalent to an interest rate increase of 3/4 to 1 percentage point, but on the basis of the forecast the interest rate component of the monetary conditions could also be tightened somewhat. It was said several times that financial stability-related macroprudential considerations also spoke in favour of raising rates.

The size and timing of the interest rate increase was discussed. It was said repeatedly that although the inflation forecast lay slightly below the 2% target over the monetary policy horizon and that purely from the inflation-targeting perspective the costs of increasing interest rates later on were small, the recommendations of the forecast should not be looked at mechanically. In the flexible inflation-targeting regime, it was also necessary to take other factors into account and look at the economy as a whole. There was a consensus that raising interest rates would be a further step in the return to standard monetary policy-making. Owing mainly to overboughtness of the koruna on the foreign exchange market, however, monetary policy was still not in “normal times”, so it would be premature to start publishing numerical exchange rate forecasts again.

Part of the discussion was devoted to the possible market response of the koruna exchange rate to the increase in interest rates. A majority of the board members felt that there was no need to fear such a reaction, as most of the market was expecting a rate hike. The response of the koruna would depend mainly on whether the rate increase was interpreted as a one-off or as the first step in a gradual tightening of monetary policy. A weakening of the koruna could not be ruled out in the former case, while a stronger appreciation could not be ruled out in the latter. The Board meanwhile agreed that the timing of further steps in raising interest rates would be conditional on the evolution of all key macroeconomic variables, including the exchange rate of the koruna.

In a discussion of the risks and uncertainties, the political and economic uncertainties of developments in the EU and other world economies were also mentioned. It was said that the current relatively favourable situation abroad could be fragile. In this regard, it was nevertheless said that raising domestic interest rates would give the CNB room to react to any such adverse developments.

At the close of the meeting the Board decided unanimously to increase the two-week repo rate by 20 basis points to 0.25% with effect from 4 August 2017. The Lombard rate was increased by 25 basis points to 0.50%. The discount rate was left unchanged at 0.05%. Jiří Rusnok, Vladimír Tomšík, Vojtěch Benda, Oldřich Dědek, Marek Mora and Tomáš Nidetzký voted in favour of this decision.

Author of the minutes: Jan Filáček, Monetary Department