Statement of the Bank Board for the press conference following the monetary policy meeting
At its meeting today, the Bank Board of the Czech National Bank increased the two-week repo rate by 125 basis points to 2.75%. At the same time, it increased the discount rate to 1.75% and the Lombard rate to 3.75%. Five members voted in favour of this decision and two members voted for leaving rates unchanged.
The decision adopted by the Bank Board is underpinned by a new macroeconomic forecast. Consistent with the forecast is a sharp rise in market interest rates at the end of this year and the start of 2022. This is in response to the current exceptionally strong price pressures in the domestic and foreign economies. The rise in rates will limit the pass-through of these pressures into prices in the longer term, ensuring the return of inflation towards the 2% target at the monetary policy horizon. The Czech National Bank’s response will also help anchor inflation expectations at its target.
The global economy continues to face the impacts of the coronavirus pandemic. Economic growth in the Czech Republic’s main trading partner countries, which was buoyant during the summer, will slow in the rest of this year. This will be due mainly to persisting overloading of global production and supply chains and related problems with supplies of materials and components. Strong demand in the euro area is coming up against these constraints. This is greatly increasing the price pressures, especially in industry. Those pressures are being exacerbated by rising prices of oil and other energy commodities. Together with high growth in producer prices, this is being reflected in accelerating consumer price inflation. At its recent meeting, the European Central Bank announced it would reduce asset purchases under its pandemic programme as from 2021 Q4. Nevertheless, the outlook for foreign interest rates remains negative over the entire horizon. The overloading of global production chains can be expected to abate around mid-2022. This will be reflected in rising economic growth and falling price pressures.
Compared with the previous forecast, the Brent crude oil price outlook has shifted distinctly higher due to reduced oil production and strong growth in demand for oil. The increase in oil prices is expected to peak at the start of next year. The euro-dollar exchange rate is little changed from the previous forecast and is expected to appreciate only slightly.
In the summer months, the Czech economy continued on the path of recovery that started in the spring, as the favourable pandemic situation allowed trade and services to operate almost without constraints. According to the assumptions of the forecast, the currently observed partial tightening of anti-epidemic measures will have no tangible economic impacts. Renewed economic growth will continue to be fostered by increasing household consumption, benefiting among other things from spending of forced savings and swift wage growth on the labour market, which is overheating again. Solid external demand and labour shortages will boost firms’ investment activity. Government investment will also rise. However, the performance of the Czech economy will be slowed until mid-2022 by a negative contribution of net exports. The latter will be hit by continued overloading of global production and supply chains, on which the export- and industry-oriented Czech economy is strongly dependent. GDP will grow by around 2% overall this year and gain pace considerably over the next two years. Domestic economic activity will return to the pre-pandemic level at the end of 2022.
Headline inflation will rise significantly further at the close of this year and approach 7% during the winter, with all its components contributing to the increase. The faster price growth will be driven by a further increase in core inflation, reflecting significant domestic price pressures and strong producer price inflation at home and abroad. This will be accompanied by rising food prices on the back of growth in agricultural commodity prices on world markets. Fuel price inflation will also remain high. Administered prices will rise significantly at the start of 2022 owing to growth in prices of electricity and natural gas for households. The strengthening domestic inflation pressures will reflect faster wage growth in the next few quarters. However, the overall inflation pressures will start to ease in the course of next year, especially as growth in import prices fades. This will be supported by an appreciating koruna. Inflation will gradually fall in the course of next year, aided by a prior significant increase in interest rates, and will decline close to the Czech National Bank’s 2% target over the monetary policy horizon.
The koruna will strengthen to CZK 25 to the euro on average in Q4. This will mainly reflect a rapidly widening positive interest rate differential vis-à-vis the euro area. The koruna will continue to firm gradually next year due to renewed export growth, which will reflect the fade-out of the previous problems in domestic industry and the completion and export of previously unfinished products. A gradual tightening of the European Central Bank’s monetary policy will have a modest opposite effect. In 2023, the koruna will be close to CZK 24 to the euro.
Consistent with the autumn forecast is a sharp rise in market interest rates at the end of this year and the start of 2022. Monetary policy reacts to the exceptionally strong price pressures from the domestic economy and abroad. The continued forceful increase in rates limits the pass-through of these pressures to prices in the longer term, reinforcing the confidence of Czech economic agents in long-term price stability in our country.
By comparison with the previous forecast, the inflation outlook is markedly higher for this year and especially next year. By contrast, economic growth has been revised downwards for this year and the next, and relatively significantly upwards for 2023. The outlook for domestic interest rates is higher for all three years, while the koruna exchange rate is firmer in 2022 and 2023.
The Bank Board assessed the uncertainties and risks to the new forecast as being significant but not calling into question the message of the forecast overall. The duration of the global production and supply chains disruptions is the main inflationary risk to the forecast. Lengthier disruptions could generate additional price pressures in the global and domestic economies, with a weaker koruna also having an inflationary effect. The exchange rate may in itself be an additional upside risk to inflation given its recent developments. Increased inflation expectations could pose a risk in the same direction. A sharper-than-expected increase in energy prices and imputed rent is also an upside risk to inflation. By contrast, a more substantial consolidation of public budgets by the new government is a slight anti-inflationary risk.
In view of the forecast, the Bank Board decided to increase interest rates by 1.25 percentage points. This forceful interest rate increase aims to return inflation close to the target at the monetary policy horizon, i.e. 12–18 months ahead, and to support the anchoring of firms’ and households’ inflation expectations. These expectations have recently been faced with significantly elevated inflation and the Czech National Bank does not intend to allow them to become more significantly unanchored from the 2% target. The Bank Board is ready to continue increasing interest rates in line with the autumn forecast.