Minutes of the Bank Board Meeting on 2 February 2012
Present at the meeting: Miroslav Singer, Vladimír Tomšík, Kamil Janáček, Lubomír Lízal, Pavel Řežábek, Eva Zamrazilová.
The meeting opened with a presentation of the first situation report containing the new macroeconomic forecast. The year-on-year growth of the domestic economy, which had previously been driven by net exports, had slowed noticeably in 2011 Q3. Both headline inflation and monetary-policy relevant inflation had risen just above the target in Q4, mainly because of growth in food prices, in which part of the impact of the VAT change implemented in January 2012 had been reflected in advance. Besides food prices, administered prices and the gradual pass-through of the depreciated exchange rate to prices were sources of inflation. By contrast, low wage growth and persisting weak domestic demand would depress inflation.
According to the new forecast, headline inflation would be just above 3% in 2012 owing to the VAT increase and would fall below the inflation target of 2% at the start of 2013. Monetary-policy relevant inflation would be close to the target over the entire forecast horizon with a slightly declining tendency. Domestic economic activity would be flat in 2012 owing to a sizeable slowdown in external demand and continuing domestic fiscal consolidation. Economic growth would recover in 2013, when GDP growth was expected to rise to 1.9%. The forecast expected the exchange rate to appreciate gradually from its currently weakened level. Consistent with the forecast was stability of market interest rates in the near future and a modest decline thereafter. Both headline inflation and monetary-policy relevant inflation in 2012 were higher than in the baseline scenario of the previous forecast. The path of market interest rates in 2012 H1 was higher than in the previous forecast because of a weaker exchange rate of the koruna and a higher outlook for administered prices, whereas at the longer end of the forecast rates were lower, primarily as a result of a lower outlook for foreign rates. The second-round effects of the VAT increase were expected to be insignificant and the risks of the inflation forecast were regarded as balanced.
In the discussion that followed the presentation of the situation report, the prevailing opinion was that the risks of the inflation forecast were balanced. The board members agreed that the appropriate response was to leave rates at the current level. It was said repeatedly that the new forecast had absorbed a large part of the risks contained in the alternative scenario of the previous forecast, which had assumed stagnant economic activity in the euro area, and that there had been no reason to prepare an alternative scenario of the new forecast. However, it was also said that there was still considerable uncertainty going forward due to the external situation.
The Board discussed the causes of the current higher inflation. It was said that non-demand inflation pressures had strengthened as a result of higher food price inflation and that in addition to the VAT change, food prices were being affected by higher prices of fuels, whose upward cycle was not yet at an end. Concern was also expressed about the possible transmission of higher foreign inflation and also about the weakened exchange rate having a stronger effect on prices. However, it was also said that the inflationary pressures from the recently high global prices of commodities and food would gradually weaken.
In the discussion, the opinion was repeatedly expressed that the second-round effects of the VAT increase could be greater than forecasted and that the hypothesis of advance pass-through of the VAT increase to prices would be confirmed only by the new figures on inflation at the start of the year. However, it was said that at the monetary policy transmission horizon, which is what matters for current rate-setting, monetary-policy relevant inflation was slightly below the target. It was also said that the assumption of insignificant second-round effects was confirmed by the results of surveys of inflation and wage growth expectations. It was said repeatedly that inflation expectations were very well anchored and also that inflation expectations at the three-year horizon had fallen to a historical low of 2.1%.
In relation to the risks of the inflation forecast, it was said that the growth outlook in the euro area was substantially lower and that the outlook in other regions of the world was also uncertain. However, mention was made in the discussion of the good condition of the German economy, which was benefiting from exports to non-European markets. This good condition was evident from German business survey indicators. It was said that domestic firms were also optimistic regarding the external demand outlook and that the impact of the fall in growth abroad on the domestic economy would not be so significant. Against this, however, it was said that other statistics were pointing to insufficient demand as an increasing barrier to domestic industrial output growth. It was said repeatedly that the inflationary pressures stemming from potentially higher external growth would be reduced by a stronger exchange rate, while a weaker exchange rate would offset the anti-inflationary effect of potentially lower growth abroad.
In the discussion, it was said that domestic economic growth was slowing and that significant changes were occurring in all components of demand, due partly to a published revision of the national accounts. It was said that the demand-pull inflation pressures in the domestic economy would be insignificant this year owing to the absence of GDP growth, fiscal consolidation and also lower household purchasing power because of the VAT increase. The opinion was expressed that low wage growth could be expected in the public sector as a result of the ongoing fiscal consolidation, and that this would depress wage growth in the business sector as well. In this context, it was said that the average real wage would fall this year and would rise only moderately in 2013. It was also said that the effect of fiscal restriction on economic growth could be lower than forecasted. Conversely, the opinion was expressed that government consumption would be lower at the forecast horizon because of additional fiscal measures that would be necessary given the government’s commitments to consolidate public budgets. Fiscal policy could therefore be expected to be pro-cyclical.
In a discussion of the structure of domestic economic growth, it was said that the forecast for gross fixed capital formation was over-optimistic and that owing to the fall in external demand corporate investment would be lower, which represented a downside risk to inflation. It was said that new lending would be negatively affected by the ongoing deleveraging process in the external banking sector and that these impacts would be amplified by lower growth abroad.
At the close of the meeting the Board decided unanimously to leave the two-week repo rate unchanged at 0.75%. Miroslav Singer, Vladimír Tomšík, Kamil Janáček, Lubomír Lízal, Pavel Řežábek and Eva Zamrazilová voted in favour of this decision.
Author of the minutes: Kamil Galuščák, Adviser to the Board