Minutes of the Bank Board Meeting on 5 May 2011

Present at the meeting: Miroslav Singer, Mojmír Hampl, Vladimír Tomšík, Kamil Janáček, Lubomír Lízal, Pavel Řežábek, Eva Zamrazilová.

The meeting opened with a presentation of the third situation report containing the new macroeconomic forecast. Domestic economic growth, which had so far been driven mainly by investment in inventories, was slowing. Annual inflation had fallen in 2011 Q1, mostly as a result of the fading effect of the changes to indirect taxes made in January 2010, and stood at 1.7% in March 2011. The initial inflationary pressures stemming from the domestic economy were not significant at present, owing to weak domestic demand and low wage growth. Higher commodity prices were the main inflationary factor.

According to the May forecast, both headline inflation and monetary-policy relevant inflation would be close to the 2% inflation target over the entire monetary policy horizon. Economic growth would slow to 1.5% this year as a result of fiscal restriction, fading investment in inventories and slowing external economic activity. A more robust recovery would occur in 2012, when GDP growth was expected to rise to 2.8%, with all components of domestic demand contributing. The nominal exchange rate was gradually appreciating over the forecast horizon. Consistent with the forecast was broad stability of market interest rates in the near future and a gradual rise in rates starting in 2011 Q4. The headline inflation forecast for 2011 was little changed from the previous forecast. Higher inflation pressures stemming from the external environment, most notably higher commodity price inflation, were being offset by a sharper decline in domestic inflation pressures. The path of market interest rates was only slightly higher than in the previous forecast. The expected VAT increase in January 2012 was captured in an alternative scenario. The second-round effects of the VAT increase were expected to be weak and the risks of the forecast for monetary-policy relevant inflation were generally regarded as balanced.

In the discussion that followed the presentation of the situation report, the prevailing opinion was that the risks to monetary-policy relevant inflation were balanced and that the appropriate monetary policy response was to leave monetary policy rates at the current level. The opinion was expressed that the current evolution of the domestic economy was an upside risk to inflation. The debt problems in some euro area countries were a downside risk. A majority of the board members agreed that inflation expectations were well anchored and that the rise in headline inflation due to the potential VAT change would be only temporary, as evidenced by previous experience.

In the discussion of the risks of the inflation forecast, it was said repeatedly that in the period since the previous forecast there had been changes in the external and domestic variables entering the forecast, but the inflation forecast had changed very little. It was said that the current domestic inflation pressures were insignificant and that the only source of higher inflation was commodity prices. Some of the board members expressed uncertainty about how long the higher commodity prices would last. The opinion was expressed that the higher commodity prices were starting to pass through to production prices in some industries. However, it was repeatedly pointed out that the higher commodity prices had been incorporated into the forecast and did not represent an additional upside risk to inflation that the forecast had not taken into consideration. It was said that corporations had room to absorb cost-push inflation pressures to the detriment of their margins, which were gradually renewing, and that the inflation pressures from higher commodity prices would not affect consumer prices. The cost-push inflation pressures would also be attenuated by the appreciating exchange rate.

The Board discussed the risks of the inflation forecast relating to the economic growth outlook. The prevailing view was that domestic demand was subdued and that GDP growth would slow further this year. However, it was said in the discussion that domestic economic growth would be higher than forecasted, especially this year, and that other sectors besides the export-oriented manufacturing industry were recovering thanks to the higher external growth. At the forecast horizon, the risks of the inflation forecast were on the upside. In support of the argument about higher GDP growth it was also said that the retail sales figures for January and February were indicating higher-than-forecasted growth in household consumption in the first half of 2011. Against this, it was pointed out that household consumption growth would be depressed this year by low wage growth and fiscal consolidation measures. The opinion was expressed that exports were the sole possible source of higher growth compared to the forecast, but higher exports would lead to a stronger-than-forecasted exchange rate, and that would reduce the impacts of the higher growth on inflation.

In the context of the economic growth outlook, the Board discussed the risks associated with the external demand outlook. It was said that the recovery abroad was unbalanced both territorially and sectorally. Industry in Germany was enjoying strong growth, but the situation in other sectors was not favourable. The opinion was repeatedly expressed that a continuing debt crisis in some euro area countries, or even just the uncertainty associated with this scenario, represented a downside risk of the inflation forecast and thus reduced the need to raise monetary policy rates. Some of the board members stated that the effect of countries hit by debt crisis on the euro area as a whole was small and that demand in the domestic economy’s main trading partner nations would not necessarily be negatively affected by the debt crisis. The opinion was also expressed that potentially lower and slower growth in interest rates in the euro area compared to the current forecast based on the Consensus Forecasts could be regarded as a downside risk to inflation.

It was said repeatedly in the discussion that the current level of monetary policy rates was low and that it was desirable to return to a neutral rate level. It was said that in some segments of the economy there was a threat of overheating at the forecast horizon due to the low monetary policy rates. The opinion was expressed that interest rates on loans to corporations were low and that growth in loans to corporations was simultaneously recovering, hence a monetary policy rate increase would not have a negative effect on lending to the corporate sector. However, it was said several times that the absence of demand-pull inflation pressures in the domestic economy was an argument for unchanged rates. It was also said that the appreciating exchange rate was attenuating the transmission of inflationary pressures from abroad and that monetary policy could be easier.

At the close of the meeting the Board decided by a majority vote to leave the two-week repo rate unchanged at 0.75%. Five members voted in favour of this decision: Miroslav Singer, Mojmír Hampl, Vladimír Tomšík, Lubomír Lízal and Pavel Řežábek. Two members voted for increasing rates by 0.25 percentage point: Kamil Janáček and Eva Zamrazilová.

Author of the minutes: Kamil Galuščák, Adviser to the Board