Minutes of the Bank Board Meeting on 16 March 2020
Present at the meeting: Jiří Rusnok, Marek Mora, Tomáš Nidetzký, Vojtěch Benda, Oldřich Dědek, Tomáš Holub, Aleš Michl.
The Board held an extraordinary meeting ten days ahead of its regular monetary meeting. The aim of the meeting was to adopt, in a timely and flexible manner, stabilising monetary, macroprudential and microprudential policy measures to mitigate the impacts of the coronavirus pandemic on price and financial stability and on the Czech economy.
At the start of the meeting, the Board was informed about the assessment of the situation and the scenarios that the Monetary Department was preparing for the regular monetary meeting. Based on the available information, the Czech economy could be expected to slow sharply or even contract this year. The strong domestic inflation pressures, which had been amplified by one-off factors at the start of the year, would fade quickly. The spontaneous weakening of the koruna observed in recent days was helping to ease the monetary conditions. However, this was not enough to keep inflation close to the target at the monetary policy horizon. Consistent with the continuously updated outlook for the Czech economy was an immediate reduction of monetary policy interest rates by 0.5 percentage point, with further cuts possible in the course of this year. In a more pessimistic scenario in which the measures taken so far do not work and more drastic ones have to be taken, the economic downturn would be longer and deeper and would exert pressure for a further easing of the monetary conditions beyond what had been said. Financial markets were subject to substantial uncertainty and dynamic movements. Liquidity was low in various segments of the market, including the usually most liquid markets abroad. Czech government bond yields were rising, reflecting asset sales by foreign investors. The liquidity of the local banking sector was sufficient and no demand for liquidity was being registered on the part of banks.
The Board agreed on the need to lower the CNB's key interest rates and thereby ease the monetary conditions beyond what was resulting from the weakening of the koruna. The risk of error with an immediate rate cut was minimal; this extraordinary board meeting had been convened for that very reason. The Board discussed the degree to which rates should be lowered. There was a consensus on the need to reduce rates by more than the standard step of 0.25 percentage point. A proposal was made to reduce rates by 0.75 percentage point (Jiří Rusnok, Aleš Michl). Against such a reduction, however, it was argued (Tomáš Holub, Vojtěch Benda) that the market might interpret it as meaning that the Board was privy to information indicating even worse developments than the market was expecting, whereas the Board had no such information. From this perspective, it would be safer to reduce rates by 0.5 percentage point and announce a readiness to go further if the negative trend was to escalate. Aleš Michl expressed the opinion that rates should be lowered substantially to make operating loans much cheaper for crisis-hit firms. However, Vojtěch Benda argued that the financial relief for firms would be low even so, and he still saw a reduction in rates as a monetary policy tool, not a tool for maintaining financial stability. Concerns were also expressed about the exchange rate becoming destabilised in the event of a large interest rate cut in an environment of increased market volatility, reduced liquidity and, in places, market panic (Tomáš Nidetzký, Oldřich Dědek).
The Board then debated the role of the exchange rate in the economy. There was a consensus that the spontaneous weakening of the koruna in recent days constituted a desirable easing of the monetary conditions. It would also partly offset the anti-inflationary effect of the domestic and foreign economy. However, concerns were expressed about the negative side effects of excessive depreciation in the economy (Tomáš Holub, Vojtěch Benda, Oldřich Dědek). Such effects could arise, for example, in firms that are hedged against exchange rate movements but will lose previously contracted foreign currency revenues due to the drop in external demand. A weak exchange rate also increases imported inflation and does not help when international supplier-customer relations are collapsing. A majority of the board members agreed that the managed float made it possible to respond without difficulty to excessive movements of the koruna that would otherwise lead to economic volatility. Jiří Rusnok and Tomáš Holub noted that the CNB was in a comfortable position, as it had relatively large international reserve holdings that could be used to reduce exchange rate swings if necessary. Oldřich Dědek nonetheless advised caution in intervening against the weakening koruna. Aleš Michl said he would never support foreign exchange interventions, since the level of exchange rate is driven by market forces.
Some of the board members expressed the view that the impacts of the present situation should be addressed primarily using fiscal or structural policy measures and that monetary policy could usefully complement them. It was noted that the Czech government and central bank had considerable scope for stimulating the economy by comparison with other European economies. In addition, the banking sector was stable and well capitalised and hence able to face a sizeable shock.
The Board agreed that the current decision-making was going on in a very non-standard situation. The opinion was expressed (Marek Mora, Vojtěch Benda) that the decision made at this extraordinary meeting lay outside the standard inflation-targeting regime, as the inflation outlook was subject to considerable uncertainty despite the best efforts of the CNB's analytical team. Vojtěch Benda expressed the opinion that for this reason, among others, he was inclined to reduce rates by 0.5 percentage point and await subsequent reference materials at the Board's next regular monetary meeting. The combination of the evolution of the exchange rate and interest rate components of the monetary conditions might also be non-standard (Oldřich Dědek, Vojtěch Benda). In this regard, it was also said that the - at first glance - non-standard combination of a rate cut and potential foreign exchange interventions against a sizeable weakening of the koruna could be warranted in the conditions that had arisen (Tomáš Holub, Oldřich Dědek, Vojtěch Benda, Marek Mora). Regarding the effectiveness of the measures taken, the Board agreed it would be important to adopt measures with a strong signalling effect and also to combine monetary policy measures with actions in the macroprudential policy and banking supervision areas where necessary.
The Board went on to discuss the parameters of the tools for supplying liquidity to the banking sector that had been introduced during the Global Financial Crisis in 2008 and subsequent years. It was noted that the CNB had been offering koruna liquidity to commercial banks since 2008 in the form of liquidity-providing repo operations and since 2010 also in the form of foreign exchange swaps, which are used to supply koruna liquidity against euros. The Financial Markets Department had reported it was not currently registering demand for such operations. The Board nonetheless agreed preventively to increase the frequency of the liquidity-providing repo facility to three operations per week along the lines of the liquidity-withdrawing repo operations. Banks' bids would be satisfied at a fixed rate corresponding to the two-week repo rate, i.e. with a zero spread.
In the financial stability area, there was a consensus that in order to minimise the impacts of the pandemic, measures need to be taken first at the microprudential supervisory level and only then at the macroprudential policy level. The measures to support financial stability applied to both retail and corporate customers in order to prevent any negative impacts from spilling over between sectors. As regards the supervisory approach, the Board agreed there was a need, in a framework of regulatory flexibility, to allow banks to postpone loan instalments in cases where customers suffered a temporary loss of income as a result of the coronavirus epidemic or preventive measures. Such a postponement would not automatically imply an obligation to categorise a claim as non-performing, assuming that the customer's problems were only temporary and there was no fundamental threat to their ability to repay the loan in the future. The CNB would nonetheless continue to require banks to maintain high credit risk management standards. In the area of macroprudential policy, the Board agreed it was not currently necessary to release the countercyclical capital buffer, because the capital position of the Czech banking sector was robust. However, the Board revoked its May 2019 decision to increase the countercyclical capital buffer rate to 2% with effect from 1 July 2020, i.e. it decided de facto to maintain the rate at the current level of 1.75%. In addition, the Board expects that, given the high uncertainty regarding future economic developments, banks will, with immediate effect and until both the acute and longer-term consequences of the novel coronavirus epidemic fade away, refrain from making any dividend payouts or taking any other steps that might jeopardise individual banks' resilience. At the same time, the Board also agreed it was ready to release the countercyclical capital buffer immediately and fully were the banking sector's unexpected losses to rise, in order to support banks' ability to provide credit to non-financial corporations and households without interruption.
At the close of the extraordinary meeting the Board decided unanimously to lower the two-week repo rate by 50 basis points to 1.75%. At the same time, it lowered the Lombard rate to 2.75% and the discount rate to 0.75%. In addition, the Board declared it was ready to cut interest rates further should the economic situation so require. Furthermore, the Board confirmed that the CNB stood ready to react to any excessive fluctuations of the koruna exchange rate using its instruments, in line with the managed float exchange rate regime.
Author of the minutes: Tomáš Adam, Adviser to the Board