Minutes of the Bank Board Meeting on 28 March 2013

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 second situation report assessing the new information and its effect on the fulfilment of the inflation forecast contained in the first situation report. The new situation report assessed the overall risks to the forecast as being very slightly anti-inflationary and tilted to a need for very slightly easier monetary conditions. Headline inflation had gone down by 0.2 percentage point to 1.7% in February and was thus 0.3 percentage point lower than forecasted. The lower inflation had been due to lower growth in administered prices and food prices and to the absence, for the time being, of impacts from the increase in excise duty on cigarettes. By contrast, the year-on-year decline in fuel prices had been smaller than forecasted. Adjusted inflation excluding fuels had been less negative than forecasted as a result of a change to the consumer basket connected with the completion of rent deregulation. The decline in real GDP had deepened to -1.7% in Q4, representing a decrease of 0.3 percentage point more than had been forecasted. This deviation had been due to deeper declines in household consumption and gross fixed capital formation. The contribution of net exports to GDP growth had remained positive, but had shrunk significantly compared to 2012 Q3 and had been smaller than forecasted. By contrast, inventories and government consumption had been more favourable than expected. Higher wage growth had had a weak inflationary effect in Q4, although the rise had been largely due to tax optimisation. The exchange rate of the koruna and interest rates were in line with the forecast. A more detailed discussion of the risks to 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, it was said repeatedly that the data that had been published since the last situation report did not represent significant deviations from the forecast from the perspective of inflation pressures. There was a consensus that the appropriate monetary policy response was to leave rates unchanged. A majority of the board members agreed that the risks to the forecast were tilted to a need for slightly easier monetary conditions at the forecast horizon. It was said repeatedly that directly influencing the exchange rate is an effective monetary policy instrument in a small open economy in a situation where monetary policy rates are at technical zero. It was said that monetary policy had been operating under inflation targeting since 1998 and that direct foreign exchange interventions had been used in 2002. The opinion was also expressed that further discussion of the monetary policy options available for responding to current and future shocks was absolutely vital in the present macroeconomic situation.

In a discussion of the structure of inflation, the opinion was expressed that inflation had been slightly overestimated in previous forecasts and that food prices did not fit the picture of a systematically lower inflation path. The inflationary effect of higher food prices and the ensuing smaller need to relax the monetary conditions at the forecast horizon were mentioned repeatedly. It was said that the build-up of cost potential from producer and import prices of food was creating a risk of stronger pass-through to consumer prices in the period ahead. It was said that the domestic demand constraints would gradually ease over the forecast horizon as the effect of fiscal consolidation faded, and that it was not possible to rule out global changes in food demand, which might also lead to higher growth in food prices. It was said in the discussion that the deviation of inflation from the forecast would have been smaller if the projected effect of the increase in excise duty on cigarettes had already materialised. However, it was also said that the higher price growth in some categories and the expected impacts of the higher excise duty on cigarettes were not significant for headline inflation.

In a discussion of the sources of current and future inflation, it was said that domestic economic activity was more subdued than forecasted and was anti-inflationary. It was said that in addition to lower household consumption growth, gross fixed capital formation growth was lower than forecasted and that lower corporate investment was inhibiting the future productive capability of the economy. It was said that the decline in net exports was also hardly a signal of sustained domestic economic recovery. It was said that the lower-than-forecasted export growth had been reflected in higher inventories. In this regard, it was also said that the higher inventories might be a sign of a turnaround in demand. However, it was said that the indicators of confidence and new orders did not support this hypothesis.

The Board discussed the causes of the lower-than-forecasted household consumption growth in detail. It was said that the lower consumption growth was a sign of deferred purchasing and that the reason for the lower purchasing was the continuing decline in prices visible in the category of other tradables excluding food and fuels despite the currently weaker exchange rate. However, it was also said that the deferred consumption would gradually materialise, as signs of a turnaround in some prices were already evident. It was also said that wage growth had been slightly higher than forecasted at the end of last year even after adjustment for the transfer of a part of the remuneration to last year for tax optimisation reasons, and that this would probably be reflected in higher consumption growth, as also indicated by retail sales growth at the start of the year. However, it was also said that the temporarily higher incomes pertained primarily to the high-income part of the population and would therefore be reflected in a higher saving rate due to consumption smoothing. It was also said in the discussion that the low consumption growth was being caused by lower purchasing power of the population due to the adverse economic situation. In this context, it was said that a sustained recovery in consumer demand could not be expected until prices of food and energy stabilised.

It was said in the discussion that in the event of a larger-than-forecasted contraction in household consumption at the forecast horizon it would be necessary to consider and discuss the appropriate further monetary policy response in such a situation. It was said that any interventions to weaken the koruna would primarily affect prices of imported goods, which would help to restore growth in expected prices as well as contributing to ending the deferral of consumption and bolstering demand for domestic output through the substitution channel. However, it was said that the inflationary effect of the weaker exchange rate would be concentrated in less elastic items of the consumer basket such as food and energy, which, conversely, might depress aggregate consumption. It was also said that preventing inflation expectations from falling below the inflation target would mean maintaining low ex ante real interest rates, which should support household consumption.

The Board discussed the external situation, which is crucial to domestic economic growth. It was said that the spreading debt problems in the south of the euro area had undermined confidence within the external financial sector and that the lower sentiment was spreading to the external and domestic real economy. It was said that for these reasons no major growth in demand could be expected in the Czech Republic’s main trading partners and that the recovery might occur later than assumed by the forecast. It was said in the discussion that any negative external shocks would be dampened by the exchange rate of the koruna.

At the close of the meeting the Board decided unanimously to leave the two-week repo rate unchanged at 0.05%. 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: Kamil Galuščák, Adviser to the Board