Česká národní banka

CNB > Monetary policy > CNB Board decisions > 2019 > Transcript of the questions and answers from the press conference

Transcript of the questions and answers from the press conference

7 Feb 2019

Three things. Could you please summarise today’s meeting, which took longer than usual. The decision was published half an hour later than usual, so could you please tell us what delayed the discussion and what arguments the Bank Board members used. The second question is partly related: in the new forecast, you assume a more pronounced weakening of inflation pressures from abroad and you have revised the economic growth forecast downwards relatively markedly, but the forecast for Czech inflation has been lowered only very cosmetically, so could you please explain why you believe that domestic inflation will remain relatively stable around 2%. The third question, and you have already hinted at this, is whether it still holds true that we should look simultaneously at the koruna exchange rate versus the forecast, and, if the koruna fails to appreciate, whether we can expect that the central bank will, ceteris paribus, compensate for the weaker koruna by increasing rates at the well-known ratio of a 1% appreciation of the koruna equalling a 25 basis point increase in rates.

As regards the course of today’s meeting, in the larger, open part of our meeting we had a relatively long debate about the forecast and about all the circumstances which are synthesised into the forecast and which lead to its conclusions, so that took longer. After that, in the closed part of the meeting among the Bank Board and a few experts, the discussion was relatively rich, because today’s decision was difficult in that, on the one hand, we agree with the forecast, in the sense that the broadly positive story of the Czech economy is continuing to materialise. We share none of the warning or catastrophic scenarios that have appeared from time to time recently. We continue to foresee relatively rapid growth of the Czech economy close to 3%. Yes, we have lowered our original forecast by around 0.4 percentage point, so we expect GDP to grow by 2.9%, as against 3.3% in the previous forecast, I think, for this year. For next year, we are at 3% now, as against 3.3% previously.

So, on the one hand we expect the Czech economy to continue growing at a solid pace. We regard that as a return to potential growth, or a healthy cooling of the economy. That alone probably wouldn’t deter us from continuing the gradual normalisation of interest rates which we began last year, when we gradually raised our key interest rate to the current 1.75%. However, in the discussion of the forecast we assessed a whole range of circumstances, especially from the external environment, because that is where the biggest changes have occurred, be it according to the Consensus Forecasts prediction by foreign analysts or according to the other sources we monitor. We also monitor the actions of our partner central banks. All those signals are pointing to a relatively rapid cooling of economic growth in countries crucial to our foreign trade and economic cooperation in general. This is something we can’t ignore. We can also see that the European Central Bank is basically postponing the decision about starting the path towards their interest rate normalisation. Originally it was expected around late summer this year, whereas today everybody is saying it will happen not this year but maybe sometime next year. We can see a slowdown in industrial production and overall economic growth in our key partner countries such as Germany. We can also see a change in rhetoric and intentions for the future on the part of the US Fed. We can see increasing Brexit-related uncertainty.

All these circumstances prompted the majority of us to decide to wait with the rate hike for future opportunities – meaning any future meeting this year – when we might have rather less uncertainty about, for example, to what extent the slowdown in economic growth at the year-end in Germany and other euro area countries was due to one-off factors such as car production, a shortage of water on water transport routes and problems in the pharmaceutical and chemical industries, and to what extent they are trend factors related to the slowdown of the Chinese economy, the propagation of mistrust connected with the complications in global trade and, of course, Brexit and its at least medium-term impacts. So, we are unable to assess these factors today with a sufficient degree of certainty, so we concluded that in this situation we are under no pressure to necessarily make a slight rate hike now, but we can wait until one of the forthcoming meetings. If the version we hope is true is confirmed, i.e. that these are one-off fluctuations, the solid trend in economic growth will continue, only at a slower pace but more or less close to our potential, so it will be sustainable over the longer term.

This was basically the context of the discussion. Of course, each member accentuated something slightly different. The two colleagues who wanted to raise rates today accentuated the inflationary pressures stemming from the buoyant wage growth and the depletion of the labour market. Some also argued using macroprudential policy issues, i.e. that rates are in fact still very relaxed and may unnecessarily be sending out false signals about credit policy being very loose, but that was basically marginal. So, that was the context.

With regard to domestic inflation, the outlook for which hasn’t changed much… well, it hasn’t changed much, but that was also one of the reasons why some of us were in favour of maintaining the status quo, because even in the variant involving a small rate hike of 0.25 percentage point today the outcome for future inflation at the monetary policy horizon was almost unchanged. Inflation is firmly anchored in the comfort zone close to the target, or slightly above it in the first few months, but we can no longer influence that with any monetary policy decision taken now. The fact that it isn’t falling in any dramatic way… we must realise that we have a new forecast that contains a slightly shifted koruna appreciation outlook, starting from a higher level, from a weaker koruna if you wish, so you need to factor that in. Therefore, the inflationary effect of the weaker exchange rate is reflected there and offsets more than sufficiently the other, slightly anti-inflationary effects, some of which I mentioned. Domestic demand, in particular rapid wage growth, is still the key source of domestic inflation. We don’t expect this factor to disappear this year. There was a debate about how quickly the economy may adjust in a worse scenario, but more with regard to the years ahead, 2020 onwards.

As for the third question: yes, it still holds true that there’s a trade-off between the exchange rate level and interest rate developments. That’s simply an objective fact for us as a small open economy with a floating exchange rate and inflation targeting. Nonetheless, interest rates are our main instrument and inflation targeting is of key importance to us. We monitor the exchange rate, of course, but it isn’t the primary indicator determining our actions. In the variants we had, which differ to a minimal extent, as I said before, we were reliably on target with regard to inflation. We therefore felt no major pressure to take into account that the koruna is perhaps slightly weaker than assumed by our forecast. At the moment, actually, it isn’t that much weaker. The weakness may deepen, of course. We are prepared for that eventuality. And if it does, we will react, of course. We will take it into account. But as I say, inflation is the key variable and interest rates are the key instrument.

We had a long theoretical and methodological discussion about the fact that the new situation confirms that in the post-commitment era, or post-intervention era, there is a slightly different relationship between the interest rate differential, the koruna and other factors affecting the koruna. That is clear. We don’t know exactly all the mechanisms affecting this. They aren’t easy to decipher. We will continue to discuss them and try to sort them out more. However, this leads me to the hypothesis that even if we had raised interest rates by 0.25 percentage point today, it wouldn’t have given us any great certainty that the koruna would be stronger. Maybe it would be stronger for a time, and maybe it wouldn’t. If it was, the question is for how long. So we really can’t look at it mechanistically like that. Our decision is a part of the overall context of current economic developments, both at home and to a significant extent also in the external environment.

In the weeks prior to the meeting, you said that with your knowledge of the situation at the time, you could imagine no hike, one hike or two hikes during this year. From what you know today, after reading the new forecast and discussing its assumptions and risks with your colleagues, would you repeat that outlook, or would you change it? Looking at the forecast for market interest rates, which we take as a proxy for the official interest rate, the forecast alone doesn’t differ by more than a few basis points from the previous one. The Bank Board sees some inflationary risks, so if I simplify things completely to your previous words, would you repeat them, or would your phrase them differently?

I would basically confirm my previous words. The dispersion may be a bit higher, but we currently have no greater certainty, and two potential hikes, i.e. a total of 0.50 percentage point, aren’t that much. I can still imagine one or even two hikes during this year. That could easily happen. It would be the variant where we would basically return to the more optimistic scenario of a soft landing, a cooling of the economy to the sustainable longer-term equilibrium growth rate, and at the same time the koruna probably appreciating less sharply than we expect. I can still easily imagine that. Similarly, I can imagine that in somewhat adverse circumstances there may be no hike this year. So, the interval is unchanged.

Two questions. First, do you consider it realistic that the Czech National Bank will manage to bring interest rates to the neutral level in the foreseeable future, say in a year and a half? Second, which external risks do you regard as the most serious ones from the perspective of the forecast you presented today?

As regards the neutral level of interest rates, there might, of course, be a debate about where the neutral level lies. However, assuming conventionally that it is at 1% in real terms, i.e. roughly between 2.5% and 3% in nominal terms, I fear that we will hardly reach that level this year. If we do, in the most optimistic scenario in this regard it might be somewhere near the bottom of that notional interval.

As for the risks, I have already mentioned them. Generally speaking, the external environment is the biggest risk for us. We can see no fundamental threats in the domestic environment. The Czech economy is presenting an exceptionally balanced development, perhaps unseen in our history to date, so we aren’t afraid of that. Threats may come from abroad, and I will repeat myself here, starting with the impacts of a disorderly Brexit, and then, to a potentially greater extent, a possible return of stagnation or recession to the key euro area countries for whatever reason. It’s also linked, of course, with global factors – the slowdown in China, the problems in global trade due to the growth in protectionist measures, and potential financial market instability linked, among other things, with geopolitical risks or risks of overindebtedness of certain major economies, especially in Europe. So there’s nothing fundamentally new. The risks and uncertainties are still the same and keep returning to the foreground in one form or another and to a greater or lesser extent. Sometimes they interconnect and accumulate, and that’s something to which the Czech economy as a very open economy may of course be potentially very sensitive. In the domestic economy, the most visible risk is still labour market tightness. Labour shortages are a problem that will certainly stay with us this year.