Minutes of the Bank Board Meeting on 21 December 2000

Present at the meeting: Zdeněk Tůma (Governor), Oldřich Dědek (Vice-Governor), Luděk Niedermayer (Vice-Governor), Michaela Erbenová (Chief Executive Director), Jan Frait (Chief Executive Director), Pavel Racocha (Chief Executive Director), Pavel Mertlík (Minister of Finance)

The Board opened the meeting with a discussion of the economic forecast. The Czech economy had begun 2001 with a favourable inflation outlook and gradual economic growth recovery. The attained economic growth had generated only slight demand inflation pressures. The inflation forecast for 2001 corresponded to this conclusion. The forecast's mid-point had been situated slightly below the mid-point of the inflation target. The koruna exchange rate had been stable, and the current account deficit was financed by an inflow of foreign investment. Moreover, the effects of the external cost shock had been fading away in agreement with the assumptions on its temporary character.

The Board discussed the risks of this particular scenario. Members agreed on the need to monitor the balance of payments, which could be significantly affected by the current account deficit and restructuring of portfolio investment. Some views suggested that the baseline scenario for the inflation forecast had overestimated certain inflationary pressures, particularly in the exchange rate and monetary area. It was also said that after taking these risks into account, the inflation forecast would most likely be headed towards the lower half of the targeted interval. In this respect, it was mentioned that the ongoing restructuring of the banking sector could still have a restrictive effect on the money supply next year. It was, furthermore, expressed that the expected slowdown in economic growth in Europe would also be an anti-inflationary factor.

Nevertheless, some views warned against the inflationary risks that could, on the contrary, cause the inflation forecast to deviate in an upward direction. The abrupt rise in regulated prices at the beginning of 2001 and the upward swing in the PPI due to an external shock could cause inflation expectations to worsen. As was mentioned, the Czech economy belonged to a region characterised by declining one-digit inflation. If CPI inflation were to rise above the current level, this would be a trend differentiating the Czech economy from neighbouring countries.

The Board continued by discussing two areas of economic development that could interfere with the stability of the Czech economic framework. The first area concerned wage developments. Under certain conditions, this could be a source of imbalance. It was expressed that sectoral wage differentiation would not necessarily affect the aggregate data and that the business sector had been faced with hard budget constraints. However, one inflationary risk, as suggested during the discussion, involved the spread of wage contagion to sectors, in which labour productivity had not been increasing at a corresponding rate. The rising public budget deficit was the second area of concern. In this context, the Board concentrated on the issue of autonomous tightening of monetary conditions, which had developed in connection to the rise in long-term interest rates. Board members discussed the relationship of this particular development to the increasing need to finance public budget deficits. This topic was considered to be potentially relevant to the monetary area, and members agreed that further analysis of this specific situation was needed.

The Board identified both of the areas mentioned above as risky, even though their impact on inflation would presumably not be observed next year. However, without a change in some of the current trends and adequate economic policy response, these factors could complicate economic developments in the medium run. Discussions on monetary policy measures next year will concentrate more on fundamental domestic factors. Considering the extent of external shocks in the past, earlier meetings were focused more on applying the mechanism of caveats in a situation of price shocks.

The Board decided unanimously to leave the CNB two-week repo rate at its current level.

Author of the Minutes: Kateřina Šmídková, CNB, Council of Advisers

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