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 to 7.00%, i.e. by 1.25 percentage points. At the same time, it increased the discount rate to 6.00% and the Lombard rate to 8.00%. Five members voted in favour of this decision and two members voted for leaving rates unchanged.
This decision of the Bank Board is underpinned by the spring macroeconomic forecast and by an assessment of information obtained since it was prepared. Consistent with the baseline scenario of the spring forecast is a further sharp rise in market interest rates. The Bank Board assessed the risks and uncertainties of the spring forecast in light of the new information as being markedly inflationary and acting towards a need for further significant tightening of monetary policy.
The war in Ukraine and anti-epidemic measures in China are dampening the growth of the global economy. The euro area countries have so far withstood the adverse geopolitical developments, so the GDP outlook for the effective euro area has shifted slightly higher for this year. By contrast, the outlook for 2023 has worsened slightly. The complicated situation with supplies of materials and components, coupled with the price of oil, which is higher than in the spring forecast, is reflected in a higher outlook for industrial producer prices. Consumer price inflation has also been revised upwards. The European Central Bank is expected to raise interest rates several times in the months ahead, so the outlook for foreign market rates is slightly higher.
Both the current Brent crude oil price and its outlook are higher than assumed by the current forecast. The expected euro-dollar exchange rate is weaker over the entire forecast horizon due to more forceful monetary policy tightening by the Fed.
Domestic inflation increased significantly further during Q2, reaching 16% in May. It was about one percentage point above the forecast. More than one-half of this was due to higher-than-expected core inflation caused by unexpectedly strong growth in prices of both tradables and non-tradables. Imputed rent and prices in restaurants and cafés are the biggest contributors to the growth in services prices. Fuel prices were also higher than expected in May. Growth in food prices and administered prices was only slightly higher than in the spring forecast. According to the spring forecast, inflation will be in double figures this year but will fall quickly in the first half of next year and return close to the 2% target in late 2023.
Annual GDP growth was one percentage point faster than forecasted in 2022 Q1. The deviation from the forecast was due almost solely to stronger-than-expected investment activity. This occurred despite rapid growth in prices of capital goods and a rise in uncertainty connected with the war in Ukraine. The dynamics of exports and imports were also higher than forecasted, while the contribution of net exports was broadly as expected. Household consumption and additions to inventories were in line with the projection. By contrast, growth in government consumption lagged behind expectations. According to the spring forecast, the Czech economy will slow markedly this year and even decline slightly in year-on-year terms in the second half of the year. Economic growth will recover next year.
Industrial production dropped further year on year in April, but this was mostly due to base effects. Leading indicators are signalling no major weakening of industrial activity for now. Growth in construction output slowed year on year in April, as did growth in retail sales.
The tightness in the domestic labour market is still increasing slightly. The share of unemployed persons declined slightly in April and May, whereas the forecast had expected it to increase. This was due to higher employment of refugees from Ukraine. Average wage growth in market sectors remained buoyant in Q1, despite being slightly slower than forecasted.
So far in Q2, the koruna has been 2.5% weaker against the euro compared with the spring forecast. Despite a rising interest rate differential, this is due to a sharp weakening of the domestic currency in May, which reflected a change in financial market sentiment regarding the future course of domestic interest rates. Further depreciation of the koruna is being prevented by foreign exchange market interventions by the Czech National Bank.
To sum up the materialisation of the spring forecast, inflation in May and economic growth in Q1 were both roughly one percentage point higher. By contrast, the average wage in the economy in Q1 and the share of unemployed persons so far in Q2 were lower.
The Bank Board assessed the risks and uncertainties of the spring forecast as being markedly inflationary and acting towards a need for further significant tightening of monetary policy. In particular, higher price growth at home and abroad is having an inflationary effect. This is due, among other things, to a sharp rise in energy and commodity prices amid concerns about Russian supplies being cut off. The upside risks also include a weaker koruna exchange rate and the threat of inflation expectations becoming unanchored from the CNB’s 2% target. Another inflationary risk is the possibility of less restrictive fiscal policy this year and the next. The uncertainties include the future course of the war in Ukraine and the future monetary policy stance abroad.
In this situation, the Bank Board decided to increase interest rates further. This is in response to a continued marked increase in inflation pressures in the Czech economy. Restoring price stability soon is now the Czech National Bank’s absolute priority and is a necessary condition for the long-term prosperity of the Czech economy. Future monetary policy steps will depend on incoming new information and future forecasts. The Bank Board also decided to keep the CNB’s strategy of current foreign exchange interventions unchanged. The CNB has sufficient international reserves, even by international comparison, to fulfil its monetary policy objectives and other duties.