Minutes of the Board Meeting on 27 October 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. Štěpánek (Chief Executive Director)

The Board opened the meeting with a presentation of the large October situational report, containing the new forecast for inflation and other macroeconomic variables.

The inflation forecast over the short term was adjusted downwards against July. At the beginning of 2005, the CPI was expected to fluctuate near the bottom of the targeted inflation band. During the period of the most effective transmission, the inflation forecast was aimed towards the midpoint of the inflation target. Lowering the food prices forecast and postponing the expected increase in indirect taxes in 2005 for cigarettes by one quarter were the main reasons for a correction at the short end of the forecast. Demand pressures associated with the future closing of the negative output gap were predicted close to the July forecast, even though the original output gap level, in the light of published economic growth and inflation data, had increased slightly. The forecast continued to work with the limited impact on consumer inflation originating from cost pressures in the area of import prices.

The forecast confirmed the message of the two previous forecasts regarding the turn in economic activity in the first half of 2004 as well as continued acceleration of economic growth in the second half of 2004 and 2005. GDP growth was pulled by investments stimulated by rapidly growing exports. Despite a certain slowdown in 2003, private consumption had maintained relatively high dynamics. Economic growth was encouraged by eased monetary conditions and continuing foreign recovery. 

The slight rise of interest rates in the longer term  was consistent with the forecast. The implied interest rate trajectory was lower in comparison to the July forecast.

Following the presentation of the situational report, the Board turned to a discussion of the new forecast and the uncertainties associated with it. The Board agreed that the new forecast was consistent internally. At the same time, however, this meant a further shift towards less inflationary development with corresponding lower implied interest rates, especially in comparison to the April forecast. The changes in the economic growth forecast were, nevertheless, insignificant.  

The Board said that the effect of cost factors was essential to the forecast and its risks. The economy had been recently affected by major cost shocks. Their impact on consumer inflation was, however, not yet apparent. This could be due to some cost factors operating in opposite directions. Whilst the prices of energy resources and other commodities, including metals, shifted upwards, this had been offset by the current dollar exchange rate developments. Agriculture producer prices had also started to shift downwards, with an impact on food prices. Some uncertainty was related to the speed with which these price changes should affect business contracts. 

However, this situation could change quite quickly. With a longer time interval and the continued influence of cost factors, their impact on inflation could be intensified. A view was expressed that the assumption of a limited spillover of import prices into domestic price development could prove to be inadequate over the longer term. Similarly, the counter-directional agriculture price influence affecting food prices could only be temporary. Upward external cost factors could gradually start to have an impact on agriculture producer prices, which had now been influenced by this year's good harvest. Food prices should also progress in line with demand in the economy. Gradually strengthening inflation demand pressures had recently been signalled by accelerated price growth for unregulated nontradable commodities. In the longer run, certain food price growth could be expected in line with the ongoing convergence processes.  

There was overall consensus that monetary policy decision-making was complicated by the fact that rising prices for energy resources and other commodities would cause a negative supply shock with possible implications for global economic growth. Cost inflation pressures associated with this development could, thereby, be reduced by the effects associated with a possible global slowdown. Slower European export growth could be an anti-inflationary risk if the euro appreciated more substantially against the dollar.  

The Board also dealt with the possible effects of the expected wage acceleration in the noncorporate sector in 2005. The short-term effects on inflation would not have to be significant. In the longer term, though, wage development in the economy could be influenced more intensely. This could lead to a rise in demand and wage cost inflation pressures. The fiscal impact of this development could also play a significant role. 

At the close of the meeting, the Board decided to leave the CNB two-week repo rate unchanged at 2.50%. All six board members present voted in favour of this decision. 

Author of the minutes: Aleš Čapek, Adviser to the Board

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