Minutes of the Bank Board Meeting on 7 November 2019

Present at the meeting: Jiří Rusnok, Marek Mora, Tomáš Nidetzký, Vojtěch Benda, Oldřich Dědek, Tomáš Holub, Aleš Michl.

The meeting opened with a presentation of the seventh situation report and the new macroeconomic forecast covering the horizon up to the end of 2021. Headline inflation had stayed just below 3% in 2019 Q3. The brisk growth in prices in recent months had been due mainly to core inflation. Inflation had also been supported by high growth in administered prices and food prices. Nevertheless, the overall inflation pressures in the domestic economy were easing somewhat, due mainly to a decline in import prices. At the same time, wage growth would continue to slow gradually. Changes had occurred in the structure of the growth of the Czech economy in Q2, but the overall growth had remained only slightly below the estimated pace of growth of potential output in recent quarters.

Inflation would remain at an elevated level in late 2019 and early 2020. In the subsequent period, it would moderate due to the unwinding of a large increase in administered prices and easing domestic price pressures. However, the decrease in inflation would be slowed next year by the price impacts of changes to indirect taxes. They would fade out in 2021 and inflation would be close to the target. The growth of the Czech economy would slow in the quarters ahead due to weak growth in external demand and would return close to its potential rate at the end of next year. Solid growth rates of household and government consumption would contribute to the growth in economic activity. Private investment was also expected to show renewed growth later on as the economic slowdown abroad gradually faded away. Consistent with the forecast was a rise in domestic interest rates in this quarter and the next, followed by a decline from mid-2020.

In the discussion that followed the presentation of the situation report, a majority of the board members assessed the risks to the forecast as being anti-inflationary. All the members saw signs of a deterioration in the domestic economy since the last meeting. Mention was made of negative signals mainly from industry, which was being affected by the slowdown abroad. There was also a consensus that the Czech economy remained interconnected with Germany in particular. The situation in the automotive industry, which is crucial for the Czech economy, was discussed in detail. It was said that the perceived barriers to growth of industrial firms had switched from labour shortages to insufficient demand. One board member stated that industry was flirting with recession and that this was evident not only in the world’s main economies, but also now in the Czech Republic. However, the opinion was also expressed that the current situation in the domestic economy represented a healthy slowdown in a situation where the labour market was still strongly overheated. According to some of the board members, the Czech economy had an increasingly dual nature, with domestic demand still rising robustly despite the slowdown in industry. The external environment was thus anti-inflationary, whereas the domestic one was inflationary.

The downward revision of the foreign outlook in the new forecast in the spirit of the previous forecast’s sensitivity scenario was considered appropriate by the board members. At the same time, though, a majority of the board members also saw some signs of an improvement in the situation abroad. These included in particular a decrease in the risk of a hard Brexit and a softening of the rhetoric regarding the introduction of protectionist measures in international trade. One board member nevertheless expressed doubts about this good news and described the risks arising from abroad as still significant. He also mentioned the unfortunate combination of adverse cyclical and structural factors, especially in Germany.

In this environment, the exchange rate was playing an important role as a significant absorber of external economic shocks. This had been apparent in, among other things, the recent appreciation connected with the calming of the Brexit situation. From this perspective, therefore, the inflationary effect of the exchange rate could be smaller than perceived by the forecast.

Another issue discussed was the observed slowdown in domestic private investment growth linked with the slackening of economic growth abroad and its effect on domestic inflation. Unlike the forecast, which interpreted this as an inflationary factor acting via a decline in labour productivity growth, a majority of the board members were of the opposite view. At the same time, the board members expressed doubts regarding the effect of the assumed second-round effects of changes to indirect taxes on the interest rate path.

The issue of the potential threat to the anchoring of inflation expectations in a situation where inflation had been close to the upper boundary of the tolerance band for an extended period of time and might even exceed that 3% level in the near future, was raised several times in the course of the meeting. Although the Board was aware of this risk, most of its members did not regard a short-term departure from the tolerance band in the next few quarters as a threat to its credibility. It was mentioned that broader aspects of the inflation-targeting regime – the predictability of monetary policy actions and their understandability for the public – had to be taken into consideration. The opinion was also expressed that the period in question lay before the horizon of most effective monetary policy transmission and any increase in interest rates adopted at the November meeting would not have a direct effect on inflation in the said period. However, there was a voice warning of unnecessary hesitation and the ensuing risk of inflation expectations becoming detached from the target.

At the close of the meeting the Board decided by a majority vote to leave the two-week repo rate unchanged at 2%. Five members voted in favour of this decision: Jiří Rusnok, Marek Mora, Tomáš Nidetzký, Oldřich Dědek and Aleš Michl. Two members voted for increasing the rate by 0.25 percentage points: Vojtěch Benda and Tomáš Holub.

Author of the minutes: Filip Novotný, Monetary Department