Minutes of the Bank Board Meeting on 29 June 2000

Present at the meeting: Josef Tošovský (Governor), Oldřich Dědek (Vice-Governor), Miroslav Hrnčíř (Chief Executive Director), Luděk Niedermayer (Chief Executive Director), Pavel Racocha (Chief Executive Director), Pavel Štěpánek (Chief Executive Director)

The Board opened the meeting by reviewing the latest information based on the report on monetary and economic development in the Czech Republic in order to provide possible interpretations for this information as well as to put it into context with overall developments. The Board said that assessment of the overall macroeconomic framework, its causes and the outlook for the future had not significantly changed and that there was a prevalence within this framework towards more positive trends.

Special attention was devoted to the published data on GDP growth in Q1 and the significant contribution of net export as a part of GDP. It was said that the data had been confirmed by the validity of signals, which for certain economic indicators could already be observed from the beginning of this year. The numbers confirmed that the evidence for only gradual recovery of domestic demand, which does not in itself generate inflationary risks, was still valid. With the substantial, positive rise in the import and export of goods and services in constant prices, a key factor would be the sustainability of these high dynamics in the subsequent period as well. Although with continuing improvements in the structure of Czech foreign trade, it is reasonable to assume that the results for Q1 were not all that exceptional. It was also mentioned that the problematic ("inert") part of the Czech economy had stopped declining. In assessing economic performance and net export, the possibility of better-than-expected developments on the supply side of the economy were also discussed. In keeping with the previous GDP estimate, it was stated that the growth level would fluctuate more in the upper boundaries of the interval. However, this depended on whether or not the analyses for the next situational report could provide grounds for changing the forecasted interval.

Inflation developments had confirmed the prevailing positive assessments and expectations. Even in the presence of a certain risk stemming from the present dynamics of industrial and agricultural producer prices, the demand side continued to prevent their full transmission to final consumption prices. The current data on inflation had not justified any change in the existing inflation forecast for this year or for 2001. As was already mentioned at previous board meetings, the inflation forecast for next year had become a more and more significant criterion for the adequacy of monetary conditions. Considering the duration of the transmission mechanism, the growing likelihood that the level of the net inflation indices would be below the lower boundary of the medium-term inflation target for 2000 continued to have less significance in the setting of monetary policy instruments.

Board members stressed during the meeting the importance of the interest rate differential. After the European Central Bank's decision to increase the euro reference rate by a half percentage point, the interest rate differential between the koruna and the euro was reduced even further. This differential now fluctuates between 0.6-0.9 percentage points depending on maturity. Along with the negative interest rate differential against the US dollar and British pound, this difference had created incentives for the outflow of capital abroad mainly through investment in foreign securities. It was mentioned that in the absence of the inflow of foreign investment, the current balance of payments and in particular the outflow of capital would produce a deficit and, in turn, cause the koruna to weaken. At this time, the interest rate differential is a limiting factor that influences the movement of domestic interest rates.

The Board also discussed the possible consequences of the recent developments at Investiční a Poštovní banka (IPB) and the sale of the bank to ČSOB. The causes and effects as well as the progress made towards resolving the IPB crisis were positively assessed abroad and did not produce any unfavourable reaction on the markets. The anticipation of stricter criteria for lending by ČSOB could speed up needed structural changes in a restricted segment of the economy.

All in all, it was expressed during the meeting that very favourable trends had been developing in the economy, such as accelerating economic growth accompanied by low inflation. The forecast for the near future indicated that these positive elements could be expected to continue even in the upcoming quarters. The koruna's present exchange rate must be evaluated in context with the overall economic situation. In view of this, board members considered the exchange rate to be at a tolerable level. The longer-term forecasts for economic and monetary conditions will be the subject of the next situational report, which is to be discussed by the Board at the end of July.

At the close of the meeting, the Board unanimously decided to leave the CNB two-week repo rate at its current level.

Author of the Minutes: Petr Krejčí, CNB, Council of Advisers

Comments are welcome on the following email address: research@cnb.cz