27. 1. 2020

The exchange rate commitment was an extraordinary measure at an extraordinary time

The Czech National Bank has published the internal transcripts of the Bank Board’s monetary policy meetings held in 2013. They reveal the decision-making process which led the CNB to use the koruna as an instrument for further monetary policy easing. Tomáš Holub is the only member of the current Bank Board who was there at the time – back then as Executive Director of the Monetary and Statistics Department. He was interviewed by Director of the Communications Division and CNB spokesperson, Markéta Fišerová.

What are these transcripts of the Bank Board’s monetary policy meetings and why are they interesting?

These transcripts are very detailed minutes of the meetings at which the CNB Board makes monetary policy decisions. They are published with a six-year delay after the meeting. The transcripts for the whole year are all published at the same time. Unlike the public minutes, which are published just eight days after each meeting, they capture the entire monetary policy debate, including the names of the individual speakers. They thus make it possible to study in hindsight how monetary policy decisions are made.

Since when has the CNB been publishing these transcripts, and why does it do so with a six-year delay?

The CNB started publishing the transcripts in 2008. It did so to further enhance its monetary policy transparency and especially its accountability to the public. The six-year delay corresponds to the length of the board members’ term of office. It is motivated by an effort not to limit the board members’ independence in their decision-making at subsequent meetings. At the same time, the board members should in some sense be disciplined by the knowledge that historians and the public can assess the quality and consistency of their arguments at a later stage.

How are these transcripts made?

One of the economists of the Monetary Department (formerly one of the advisers to the Board) is always present at the Board’s meetings. That person uses their own notes and an audio recording to prepare a draft transcript, which is approved by the Board 14 days after the meeting. Later, the transcripts are stored in a safe for six years pending publication.

So isn’t it possible that anyone present at the time could now challenge the authenticity of a transcript?

Before a transcript is approved, each board member can make comments on how their utterances have been recorded. The transcripts are then approved by the entire Board. They are therefore a reliable historical source which cannot be disputed by the individual participants in the debate.

Why are the 2013 transcripts important?

Unfortunately, although the transcripts are a highly valuable historical resource, the Czech economic community doesn’t make much use of them. However, the 2013 transcripts will evidently be an exception, because they fully reveal the decision-making process which led the CNB to introduce its exchange rate commitment. This triggered a highly emotive public debate. So the transcripts will certainly be read this time.

Could you remind us what the exchange rate commitment was and why the CNB introduced it?

It was a measure to further ease monetary policy in a situation where the standard instrument, interest rates, had reached technical zero. The CNB used it to respond to the risk of deflation, caused, among other things, by the fact that the Czech economy had been in a lengthy recession for several quarters. This was linked with a bad labour market situation associated with relatively high unemployment and subdued wage growth. The CNB’s action was intended to reverse these negative economic trends. The central bank weakened the koruna’s exchange rate by 4–5% and undertook keep it above CZK 27 to the euro through potentially unlimited euro purchases in the foreign exchange market.

How was the Czech Republic’s situation different from other countries which chose different instruments to combat deflation than forex interventions, or rather, the exchange rate? Most other banks purchased government bonds and other securities…

The purpose and main principles of these instruments are essentially the same. The difference lies only in the weight of the individual “channels” through which they pass through to the economy. We are a small open economy, and the CNB assessed the exchange rate commitment as the most effective available instrument in this context.

The CNB had used forex interventions before November 2013, for example in 2002. How were the interventions launched in November 2013 different from the previous ones?

The previous cases were standard forex interventions responding to sharp exchange rate movements, such as excessive appreciation in 2002. In 2013, we deployed an extraordinary inflation-targeting instrument after interest rates had reached zero. The exchange rate, or rather the commitment to maintain it at a weakened level for an extended period of time, became the instrument directly. The interventions were only a means of implementing this commitment.

There were signals of a recovery in household consumption and investment in the second half of 2013. Wouldn’t the Czech economy have recovered anyway, and, looking back, can we tell what would have happened had the exchange rate commitment not been introduced?

The transcripts show that the board members were aware of some signs of recovery, and this played a role in the debate. At the same time, though, the Monetary and Statistics Department’s analyses were indicating that if monetary policy remained inactive, this recovery would be very faint in 2014. It wouldn’t have been sufficient to reverse the deflationary tendencies in the economy. Also, it is not enough that the economy is growing; ideally it must slightly outpace its potential. Looking back, of course, we can’t say with absolute certainty what would have happened without the exchange rate commitment. Nevertheless, the studies available show that the commitment supported the economic recovery roughly to the extent expected by the central bank.

Will readers learn anything completely new from the transcripts, anything they didn’t previously know about the exchange rate commitment?

The vast majority of the arguments that led the CNB to introduce the exchange rate commitment have been expressed by us repeatedly in related public communications and academic publications. So there’s nothing much new in the transcripts from that perspective. However, you’ll be able to read what arguments the individual board members presented and how the debate evolved over time. And of course there’s the ratio of the votes on the exchange rate commitment, which was 4:3 in November 2013. This fact is officially confirmed for the first time in the transcript just published.

Isn’t it strange that such a crucial decision was made with the narrowest possible ratio of the votes – 4:3? Doesn’t it cast a shadow of doubt on the decision?

No, it’s not strange. The reason the Board is a collective body is so that it contains experts with a wide range of experience and views. It always decides by a majority vote, and decisions adopted with a 4:3 ratio are equally legitimate and valid as unanimous decisions. It is even common for the most complex, crucial monetary policy decisions not to be unanimous, because you can find good arguments on both sides. I view the lack of unanimity on the decision rather as proof that the debate was careful and all the necessary information was presented so that the Board could make a considered collective decision.

How should members of the public approach studying the published transcripts?

I would advise them not to start and finish with the voting ratios. Unfortunately, we are living at a time when people tend to select excessively from the mass of information available and jump to quick conclusions. I think it’s best to read the transcripts for the whole year carefully and chronologically, at least from spring to November. Only then will readers see how the debate evolved among the Board, at least in two crucial aspects. First, they will see that there was a growing belief that further monetary policy easing was necessary and it was not possible to wait and see. Second, they will see how the debate developed between the use of forex interventions without a publicly announced exchange rate level and the transparent exchange rate commitment that we ultimately opted for. Moreover, in order to fully comprehend the discussion, readers should also study other underlying documents – the Monetary and Statistics Department’s situation reports and monetary policy recommendations.

You are saying that it is good to read the transcripts chronologically, carefully and as a whole. Still, are there any other interesting moments we could draw readers’ attention to?

I really don’t want to take anything out of context. However, it’s interesting that the then Governor Miroslav Singer talked about moving the exchange rate to CZK 27 to the euro as early as the May meeting. This dovetails very well with the debate that the exchange rate commitment should, with the benefit of hindsight, have been introduced earlier, probably in May. Another moment definitely worthy of note is the attendance of the then Finance Minister Jan Fischer at the monetary policy meeting at the beginning of August. His words refute the criticism that the CNB should have discussed the exchange rate commitment with the government but didn’t. The Finance Minister listened to the entire debate on the issue. He was aware of the difficulty of the dilemma the CNB Board was facing. He concluded by saying he was not going to make any recommendation and would fully respect whatever decision

The transcripts reveal that the Board discussed the exit from the exchange rate commitment before the commitment was even introduced. Did the exit in April 2017 proceed in line with the expectations at that time?

Yes, it’s really interesting to see how important a role considerations of a smooth exit played in the debate about the introduction of the exchange rate commitment. It probably comes as no surprise that the proponents of adopting the commitment were less concerned about the exit than the board members who were more sceptical about it. From this perspective, April 2017 was successful beyond expectations.

How do you assess, overall, the exchange rate commitment with the benefit of hindsight?

It was an extraordinary measure taken at an extraordinary time. As I said, with hindsight it should have been taken earlier, maybe as much as six months earlier. But it is understandable in the context of the time that the CNB waited until its introduction seemed unavoidable. Looking back, this measure was even more necessary than we realised at the time, because the deflationary pressures in the euro area were ultimately much stronger and more persistent than expected. The exchange rate commitment served its purpose, as it prevented long-running deflation and substantially speeded up the recovery of the economy, the labour market and the return of inflation to the target. As regards the Board’s discussions in 2013, it is also of key importance that the subsequent exit in April 2017 was smooth and well-timed. It is thanks in part to this that our monetary policy can now be so different from the rest of Europe. We do not have to address the problem of excessively low inflation and the use of unpopular unconventional measures. On the contrary, we have space to respond to any worsening of the situation in the standard way, i.e. by lowering interest rates.

Will transcripts from later years be similarly interesting?

The transcripts made during the exchange rate commitment will also be interesting. The key issues addressed included the length of the commitment, a possible shift of the exchange rate level in the event of very negative developments, and of course also the manner of exit.

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