Minutes of the Board Meeting on 26 August 2004
Present at the meeting:
Z. Tůma (Governor), O. Dědek (Vice-Governor), L. Niedermayer (Vice-Governor), M. Erbenová (Chief Executive Director), J. Frait (Chief Executive Director), P. Racocha (Chief Executive Director), P. Štěpánek (Chief Executive Director)
The Board opened the meeting with a presentation of the August situational report assessing the new information and risks associated with the July macroeconomic forecast.
Year-on-year consumer price growth registered 3.2% in July, which was fully in line with the forecast of the 7th situational report. In the actual price growth structure, there was, however, a slight inconsistency with the forecast. The contribution of regulated prices and fuels was lower than the forecast. On the contrary, food price growth worked in the opposite direction. The adjusted inflation estimate - from the monetary policy point of view of an important price indicator - corresponded to reality. Industrial production in June continued its two-digit growth, which also applied to Q2 this year for construction production as well. Retail sales development, the value for the consumer climate index and year-on-year household lending dynamics were, in principle, consistent with the consumption forecast in the 7th situational report. Industrial and construction wage growth confirmed the expected slowdown in wages for the corporate sector in Q2 2004. Labour productivity in both sectors showed high year-on-year growth from the beginning of 2004 and thereby exceeded wage growth. The registered unemployment rate was developing as expected. Besides the improving economic performance of the corporate sector, lower unemployment growth was affected by a lower number of graduates entering the labour market. As far as cost factors were concerned, crude oil price growth was re-evaluated upwards in August by 20% against the forecast assumption.
Following the presentation of the 8th situational report, board members discussed the risks associated with the July forecast, not only in connection with inflation but also in view of other key macroeconomic values entering in the prediction. The Board agreed that the new data confirmed the forecast's positioning from the last monetary meeting, and there was no reason for reassessing the current view of economic development, including an appropriate monetary policy reaction.
New data, especially dynamic industry and construction growth accompanied by high productivity growth, were in line with the GDP prediction in the July situational report. It was said, however, that poorer-than-forecasted net exports were possible. Signals of the improving situation on the labour market, faster-than-expected money supply growth and dynamic credit growth were also consistent with accelerating economic growth.
The Board then concentrated on analysing the new price data. It was said that inflation on the one hand, was in line with the CNB's forecast, on the other hand, fuel prices had not yet been fully reflected in CPI inflation. Accelerated food price growth continued to indicate stabilisation of the link between agricultural producer prices and food prices. There was also an opinion that uncertainty related to the expected increase in rents and television fees, considering their weight in the consumer basket, complicated somewhat quantification of the CNB's optimal reaction to these administrative changes. With respect to the continued privatisation of the housing stock the importance of regulated rent should decrease.
The Board then assessed the balance of inflation risks for the July inflation forecast in the light of newly available data. There was agreement that this balance had been evened out on both sides. Dynamic fuel price growth on world markets formed a pro-inflationary cost stimulus in the short-term horizon, which could affect inflation expectations during wage negotiations at the end of this year. If high fuel prices had a longer-term duration, a dampening effect of this cost factor on world economic growth and subsequently on external demand for Czech exports and domestic demand could be expected. The difficult quantification of the cyclical position of the economy was pointed out as an additional source of uncertainty in comparison with its capacity utilisation level. Considering the impact of some temporary effects on prices - of which the recent change in indirect taxes and opening of the domestic market to wider competition on the single European market were the most important - the quantification of the output gap was especially difficult. In this respect, one view expressed that there was an anti-inflationary risk connected with possible underestimation of productivity rises as well as growth of potential product.
Board members then devoted a substantial amount of time to assessing the budgetary policy impact on future economic development. During the discussion, there was consensus that for sustainable future fiscal development it was desirable for any additional public budget income - achieved either by higher fiscal economy yields or by additional privatisation income - to be used to lower the deficit, and not to increase budget expenditures. In the light of coordinating macroeconomic policies, the rise in expenditures would be completely inadequate in this stage of the economic cycle.
Following the discussion of the 8th situational report, the Board decided by a majority vote to increase the CNB two-week repo rate by 0.25 percentage points to 2.5%. In the same manner, the board members decided to increase the discount and Lombard rates by 1.5% and 3.5%, respectively. Six members voted in favour of this decision, and one member voted for leaving interest rates unchanged.
Author of the Minutes: Tibor Hlédik, Adviser
Comments are welcome on the following email address: Tibor.Hledik@cnb.cz