Minutes of the Bank Board Meeting on 17 December 2020

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 eighth situation report assessing the fulfilment of the macroeconomic forecast contained in the seventh situation report in the light of the newly available information. According to the current forecast, inflation would decrease into the tolerance band in late 2020 and early 2021 and return close to the 2% target over the monetary policy horizon. Consistent with the forecast was stability of domestic market interest rates initially, followed by a gradual rise in rates in 2021.

The Board viewed the risks and uncertainties of the current forecast in the context of the ongoing coronavirus pandemic as remaining very substantial. In the opinion of the Board, the forecast was materialising with relatively small deviations from reality, while the overall situation was starting to head in the direction of the easier fiscal policy scenario described in Inflation Report IV/2020. The risk of a worse course of the pandemic, associated with longer-lasting and broader shutdowns of the economies of the Czech Republic’s trading partner countries and of domestic industry, was not materialising fully so far, but a deterioration could not be ruled out. The risk of a no-deal Brexit had meanwhile been increasing in late 2020. According to the Board, the structure of supply and demand factors at home and abroad and their impact on inflation remained a general uncertainty of the forecast. The Board therefore agreed that leaving interest rates unchanged was the appropriate decision at the moment.

The materialisation of the scenario of easier fiscal policy in the coming years connected with the planned package of tax changes stimulated a major discussion. This package would ceteris paribus have an inflationary effect relative to the current inflation outlook. The question was, however, to what extent the income tax changes would pass through to consumption and economic growth. A revision of the fiscal impulse would be an important topic for the new situation report. Marek Mora, Vojtěch Benda and Oldřich Dědek said that they did not expect the planned measures to have a large inflationary effect, because a large proportion of the population would save the money they gained, so it would not show up in their consumption. Tomáš Holub added that municipal investment might be curbed if the version of the tax changes approved in the first round by the Chamber of Deputies were passed. A majority of the board members expressed the opinion that the tax measures would be ineffective in the current context of the fight against the economic impacts of the coronavirus pandemic and unfavourable in terms of public finance sustainability. Aleš Michl nonetheless viewed supporting the economy by means of fiscal measures – especially in the form of a payroll tax cut – as appropriate at the moment. At the same time, though, he was of the opinion that the government should come up with a plan for rebalancing public budgets.

The Board viewed the risk of a worse course of the pandemic, associated with longer-lasting and broader shutdowns of the economies of the Czech Republic’s trading partner countries and of domestic industry, as less significant in the current situation. However, although this risk was not materialising fully, a deterioration of the situation could not be ruled out. The Board assessed the information about the availability of a vaccine as unequivocally good news. At the moment, however, it was not clear how soon the population could be vaccinated. According to the Board, the country would have to live for some time yet in an alternately more and less limiting regime of partial shutdowns of the economy, which would negatively affect a substantial proportion of firms (Jiří Rusnok, Oldřich Dědek, Tomáš Holub). Tomáš Nidetzký added that a two-speed trend was being observed in the Czech economy. This was not simply a matter of manufacturing versus services only. Exporters – especially in the automotive industry – had recovered in the summer and had been able to adjust to the situation, whereas the rest of industry remained very circumspect and was not investing despite improving soft indicators. Import-intensive fixed investment had thus been falling, as had additions to inventories. At the same time, firms had often been able to survive the spring shutdowns by drawing on their reserves, which, however, they had not managed to replenish during the summer. The situation was having a particularly hard impact on firms in services. As Marek Mora said, it was not clear that the recovery after the second wave of anti-epidemic measures would be as rapid as that after the first. He also drew attention to possible negative second-round impacts of the crisis, especially in the euro area, where the problems of the real economy might spill over into the financial sector, which was still highly vulnerable. Aleš Michl also mentioned the need to prevent financial instability. Jiří Rusnok then summarised that the first few months of 2021 would be a continuing “vale of tears”, as the adverse epidemic factors coupled with the economic problems would hit small businesses, entrepreneurs and the most vulnerable households particularly hard. He did not expect the situation to improve until the second half of 2021.

The koruna had strengthened against the euro during November, reversing its prior sharp depreciation linked with the onset of the second wave of the pandemic. The koruna’s exchange rate against the euro had thus been around 50 hellers stronger than forecasted in 2020 Q4. For the time being, however, Vojtěch Benda did not view the observed movement of the exchange rate over the past two months as a dramatic anti-inflationary risk to the forecast. According to Marek Mora, the question was to what extent the exchange rate was reacting to fundamentals (and thus performing the role of automatic stabiliser) and to what extent it was subject to market sentiment. However, he maintained that the stabilisation function of the exchange rate was prevailing overall. Tomáš Holub noted that he had been pointing to the risk of a firmer exchange rate since November, and it now seemed the koruna would stay at stronger-than-forecasted levels for some time to come. He added that the outlook for domestic market interest rates had increased by 20–40 basis points since the preparation of the last forecast and that the CNB’s rhetoric had probably contributed to this. From the perspective of economic growth and inflation, he regarded this as a premature tightening of the monetary conditions, which was not desirable.

The Board also discussed its opinion on the longer-term course of monetary policy. As regards unconventional monetary policy instruments, it seemed there was no current need to use them in the Czech economy. Nonetheless, the Board would continue to apply itself to preparing them. As Vojtěch Benda said, a continuing debate on unconventional instruments would be useful from the perspective not only of monetary policy, but also of financial stability, as he was concerned that the long end of the yield curve might rise as a result of an increase in the risk premium if the government did not come up with a credible plan to stabilise public budgets in the medium term. For the CNB, this could imply a risk of non-fulfilment of the inflation target and a need to affect the longer end of the yield curve. According to a majority of the board members, though, the macroeconomic situation was now turning more towards a need for less accommodative monetary policy in the medium term. Given the considerable uncertainties, however, the Board regarded it as appropriate to leave the door open in both directions. In this context, two board members also commented on the monetary policy easing that the Board had decided to implement in spring 2020. Aleš Michl said that the 0.5% repo rate he had proposed in May would have currently suited the economy better. Vojtěch Benda essentially agreed, saying that the easing stemming from the Board’s decision had been stronger than the economy had needed. On the other hand, however, he stood by the maxim that in hard times it is always better to give the economy a firmer push. According to Vojtěch Benda, the Board should take this into account in its future decision-making and offset the excessive easing in 2020 with a rather stronger tightening the following year. However, according to Vojtěch Benda and Oldřich Dědek, it would be difficult to proceed to such a decision until there were signals of the economy returning to sustained growth after the impacts of the coronavirus pandemic had faded out. Tomáš Holub also said it was too soon to talk about the timing of any future interest rate hike in a situation where the coming few months may not see such a smooth relaxation of restrictions in the service sector as assumed by the current forecast. In line with this, Jiří Rusnok expressed the opinion that the early May forecast would be first around where a major debate on the future course of monetary policy could take place.

At the close of the meeting the Board decided unanimously to leave interest rates unchanged. The two-week repo rate remains at 0.25%, the discount rate at 0.05% and the Lombard rate at 1%.

Author of the minutes: Kamila Kulhavá, Monetary Department