Minutes of the Bank Board Meeting on 22 September 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 sixth situation report assessing the new information and its effect on the fulfilment of the risks of the inflation forecast contained in the fifth situation report. The risks of the forecast were tilted slightly towards lower inflation and significantly towards lower interest rates. The main anti-inflationary risks were associated with the external environment. Domestic economic developments were broadly in line with the forecast and the deviations from the forecast were so far small and in both directions. Annual GDP growth had been 2.2% in Q2, i.e. 0.3 percentage point lower than forecasted. Annual inflation had been 1.7% in August, i.e. 0.4 percentage point lower than forecasted. By contrast, wage growth in the business sector in Q2 had been 0.3 percentage point higher than forecasted. Another upside risk to inflation was the weaker-than-expected exchange rate; this factor had been growing in strength recently. A more detailed discussion of the risks of the inflation forecast can be found in the commentary on the Graph of Risks to the Inflation Projection (GRIP).

In the discussion that followed the presentation of the situation report, the prevailing opinion was that the risks of the inflation forecast were slightly on the downside. The board members agreed that the appropriate monetary policy response was to leave rates at the current level. The opinion was expressed several times that the domestic inflation pressures were not significant. It was also said repeatedly that the domestic situation was in line with the forecast and that the deviations from the forecast were due to external developments. In this context, several of the board members mentioned that as a result of the uncertainty regarding the impacts of the euro area debt crisis on the Czech economy, interest rate movements in either direction could not be ruled out in the future.

The Board discussed in detail the external situation, which is an important condition for domestic economic growth. It was said that despite the recent sharp growth in uncertainty, the external situation represented a downside risk to inflation. It was said several times that austerity measures were currently being introduced in developed economies and that this might have a negative effect on economic growth. The opinion was expressed that a crucial factor would be how the advanced nations cope with the debt and financial crisis.

In connection with the outlook abroad, it was said that the situation in Germany – the main trading partner of the domestic economy – was of primary relevance. The opinion was expressed that the stimulation of German domestic consumption currently under discussion might have a negative effect on Czech exports, which are tied more to German exports than to consumption. It was also said that the problems of the southern euro area countries might reduce demand for German exports. However, the opinions were also expressed that the effect of these trade flows was not all that strong and that account should be taken rather of the possibility of financial market contagion.

It was said repeatedly that the high prices of agricultural and other commodities represented an upside risk to inflation in the event of a persisting weaker exchange rate of the koruna. It was said that the relevant exchange rate for commodity prices was the koruna-dollar rate, which had weakened significantly. The opinion was expressed that agricultural commodity prices are highly volatile and can fall sharply after a period of growth. However, the opinion was also expressed that the gap between supply and demand in the commodity market would continue and that this could imply a rising trend for prices of agricultural and other commodities. It was added that commodity prices affect industrial producer prices and consumer prices with a lag and that their pass-through to consumer prices might increase. It was said several times that in the short run the exchange rate could move either way owing to the uncertainty in financial markets.

The Board went on to discuss other potential sources of domestic inflation pressures. It was said several times that the situation abroad could cause domestic economic growth to slow and that this might be reflected in an increase in unemployment, a decline in consumption and a decrease in state budget revenues. In this regard, however, it was said that the current evolution of wages and the long-run inflation expectations of corporations represented more of an upside risk to inflation. However, the opinion was also expressed that corporations would – as in the past – keep the total payroll constant. It was also said that the labour market developments would lead to slowing growth of wages, disposable income and household consumption. However, it was added that there had been a significant rise in travel expenditure and investment abroad, which might mean that households were not facing major budget constraints. Several of the board members expressed the opinion that a decrease in state budget revenues could lead to a further decline in public consumption, which would slow economic growth further. The opinion was also expressed that the positive deviation of HICP inflation from CPI inflation may indicate upside risks to inflation, as may the second-round effects of the January 2012 VAT increase.

At the close of the meeting the Board decided unanimously to leave the two-week repo rate unchanged at 0.75%. Miroslav Singer, Mojmír Hampl, Vladimír Tomšík, Kamil Janáček, Lubomír Lízal, Pavel Řežábek and Eva Zamrazilová voted in favour of this decision.

Author of the minutes: Bořek Vašíček, Adviser to the Board