Transcript of the introductory statement from the press conference - 2 May 2013

VICE-GOVERNOR

Before we get to the forecast and the subsequent discussion, it is my duty to say that the Bank Board took the decision in its full composition – all seven members. I apologise on behalf of the Governor, who has to go abroad on a business trip this afternoon. I am therefore here today as his deputy.

Let me present the initial assumptions of the forecast – the new forecast – ¬and therefore the initial assumptions underlying the Bank Board’s decision.

Let’s move to the individual points. I find it important to repeat a few basic premises of this institution. The first is that after discussing the situation report the Bank Board decided unanimously to leave the two-week repo rate unchanged at 0.05%. As I said, all seven members present voted for this decision. It was a unanimous vote.

It is good to repeat a few things that have already been communicated by this institution and which we are sticking to. The first thing is that interest rates will be kept at their current levels, i.e. at technical zero, over a longer horizon until inflation pressures increase significantly. I say this because at today’s Bank Board meeting no inflation pressures and no risks of inflation pressures were currently identified, not only in the current situation and at the current time, but also for 2014. It is therefore appropriate to repeat the phrase that the Bank Board announced in the autumn of last year. We are sticking to this commitment. Another point which may be worth repeating is that the Czech National Bank is ready to use foreign exchange interventions if needed to further ease monetary policy, i.e. if further steps towards easier monetary policy are warranted. The commitment that the Czech National Bank is ready to go down this path still applies. In other words, I am merely repeating that the decision on this was taken last autumn and we are sticking to it. In other words, I mean that we still regard the exchange rate as a potentially suitable instrument for further easing monetary policy in a small open economy. We believe that it is capable of offsetting any anti-inflationary pressures both from the domestic economy and from abroad.

I think we can now move on to the reasons for the decision in the context of the new forecast. Consistent with the forecast is a slight decline in market interest rates, followed by a rise in rates in 2014. I have already said clearly here that considerations of a possible further easing of the monetary conditions during the rest of this year remain relevant. Therefore, when I say that a slight decline in interest rates is consistent with the forecast, and the Czech National Bank said earlier that we have already reached technical zero, i.e. the bottom, it means that if further monetary policy easing is needed, considerations of easing by means of another instrument are relevant. But it is important to repeat, and I already said this with the previous slide, that we identified no increase in inflation pressures, i.e. the new forecast does not expect inflation pressures to increase. We have identified no tangible risks of inflation pressures, not only now, but also in the future. You will therefore probably not be surprised by the third bullet saying that, on the contrary, the Bank Board regarded the balance of risks as being on the downside. I would leave the discussion of which specific risks we identified as anti-inflationary to the classic standard slide at the end. Perhaps one more thing on the decline in rates that is mentioned there. A slight decline is consistent with the forecast. I underline the word slight decline. Why is it slight? Because the current depreciation of the exchange rate is largely offsetting the anti-inflationary effect of the domestic economy and the reduced forecast for administered prices. That is why we have not further eased the monetary conditions at this time.

Now let’s look at the summary of the forecast. The sources of current inflation as we see them are still tax changes together with administered price inflation. By contrast, domestic economic developments are having a dampening effect on inflation. According to the forecast, headline inflation should be slightly below the target of 2% this year and the next. Nevertheless, it will be below the target of 2% over the entire horizon. Monetary-policy relevant inflation will be close to the lower boundary of the tolerance band this year and then slowly return to the target.

Basic information on GDP. The new updated forecast expects GDP to fall by 0.5% in 2013. We will see a subsequent improvement in GDP the following year amid continuing fiscal consolidation and a very gradual recovery in external demand. We expect growth of 1.8% for next year.

The exchange rate of the koruna. We are still publishing the exchange rate of the koruna. It is still part of the forecast. The following prediction is consistent with this new forecast. The koruna-euro exchange rate will appreciate very slowly from a weak initial level, which I already commented on. And just for repetition, consistent with the forecast is a slight decline in market interest rates, followed by a rise in rates in 2014. Those were the basic premises of the forecast.

Let’s take a look at the external environment, which is of course a very important input parameter of our forecast. Let’s start with consumer prices. For consumer prices you can see – the new forecast is the light blue one versus the dark blue one – a decline, albeit a very slight decline, in both 2013 and 2014. As for producer prices, the assumptions for 2013 are unchanged. For 2014 there is a very small decrease. We can also see a decrease in economic activity – GDP is lower in both 2013 and 2014. For the three-month EURIBOR, there is a significant – well, significant, it is 0.1 percentage point in both 2013 and 2014, but from already very low levels – Consensus Forecasts has decreased the market outlook for the three-month EURIBOR even further.

Those were the basic assumptions. We have another two left regarding the external environment: the Brent crude oil price and the dollar-euro exchange rate. For the Brent crude oil price, we expect – or rather we take it from the market – the previous forecast expected higher prices, but the new one expects a decrease in both 2013 and 2014. And by contrast, the new forecast expects the exchange rate to shift towards a weaker dollar. More specifically, the dollar is 3% weaker in 2013 and then 2% weaker in 2014.

Now for the Czech National Bank’s current headline inflation forecast. When summarising the forecast, I said that the headline inflation forecast should be below the inflation target of 2%, but within the tolerance band, over the entire forecast horizon – i.e. from now until the monetary policy horizon, where we believe monetary policy transmission to be the most effective. The most interesting thing here is probably the spike in early 2014, when inflation should fall furthest below the 2% inflation target. This is mainly because the first-round effects of indirect tax changes will subside, and headline inflation should drop more noticeably below the inflation target at this time. However, we still expect it to stay within the tolerance band. Perhaps a few words on adjusted inflation excluding fuels, which, after all, represents more than 50% of the consumer basket. It remains negative and reflects the clearly anti-inflationary effect of the domestic economy.

Let’s look at the forecast for monetary-policy relevant inflation. So far I have said only one sentence about it. It is important to say that we know it is currently below the lower boundary of the tolerance band. We expect it to remain so over the next few months, but we expect a gradual return into the tolerance band towards the end of this year. At the most effective monetary transmission horizon we should be approaching the inflation target, which still remains at 2%, but the approach will of course be from below. We do not expect to overshoot the inflation target.

The forecast for GDP. I have already announced the two key figures. We expect GDP to decline by 0.5% this year. For next year we expect growth of 1.8%. Why do we think that the economy might start to grow gradually next year? We see two possible things there. We expect a recovery in external demand. I will come specifically to this point towards the end when speaking about inflation risks, as this was discussed in detail at the Board meeting. We also take into account that the effect of government consolidation measures might progressively fade.

The forecast for interest rates, or the “interest rate sentence”, says that consistent with the forecast is a slight decline in market interest rates, followed by a rise in rates in 2014. The decline in interest rates is mostly due to the low level of foreign interest rates. I have already stated here that the three-month EURIBOR has decreased for both 2013 and 2014 since the last forecast. The current estimated level of interest rates expects only a slow rise in prices, reflecting the subdued domestic economy.

And now I come to the final assumption of the current forecast, i.e. the quarterly averages of the forecast for the koruna-euro exchange rate. It is important to say that the koruna’s exchange rate against the euro will appreciate only very gradually from a weak initial level. It may be interesting for the public to hear the concrete figures. The short-term forecast for 2013 Q2 assumes an average exchange rate of CZK 25.70. I’m mentioning this figure on purpose because if we are talking about the monetary conditions of the Czech economy – and I said that the forecast expected an average exchange rate of CZK 25.70 for Q2 – the current average is somewhat weaker. We can thus see that the monetary conditions are offsetting the assumption of the current forecast regarding a slight decline in interest rates.

This future slight, gradual appreciation is based on two new facts. A low outlook for foreign interest rates is fostering a possible appreciation of the Czech koruna, which means that the interest rate differential might start to have an effect again. Moreover, this forecast assumes – and the assumption is based on Consensus Forecasts market outlooks; we do not forecast it ourselves – a recovery in external demand. However, both the market outlooks for EURIBOR interest rates and the recovery in external demand were discussed by the Board. I will come to this towards the end, in the last slide, when talking about the downside risks to inflation.

The comparison with the previous forecast. Paradoxically, I’ll start with the second, third and fourth columns. Why? If you look at GDP, we expect a deterioration in economic activity in both 2013 and 2014. This means for 2013 a decline from -0.3 in the previous forecast to -0.5 in the new forecast, and for next year a decrease in GDP growth from 2.1 to 1.8. The three-month PRIBOR expects a decline from 0.4 to 0.3 and a slight increase of 0.1 in 2014. I’ll explain why this is so later. The exchange rate is expected to be at weaker levels. You can see we have moved from 25.30 to 25.60 and from 25.00 to 25.30 in 2014.

I will now come to the first column, which I skipped earlier. We expect a slight increase of 0.1 for consumer prices only. But I’d like to point out that it says 2014 Q2 and Q3, which means this is the forecast for headline consumer price inflation at the horizon of most effective transmission. These are not the current figures for what we expect in the near future.

Overall, it should be said that the inflation forecast for this year has changed and has of course been reduced. Only the outlook for inflation at the monetary policy horizon, which is presented in the chart, is marginally, really marginally lower.

Now for possibly the most important item. The question is, which risks associated with the new forecast did the Bank Board discuss and see today. Most of the Board members agreed that the risks of the new forecast are on the downside. Three downside risks to inflation were identified, and I’d like to discuss them more in detail.

The first is clearly external developments – specifically future EURIBOR developments and the oil price. Why have we put such an emphasis on the downside risk of external developments? Because it has been expected for quite some time that the effective part of the euro area, which is our main trading partner, will see a recovery. This will accelerate demand for Czech exports and drive the Czech economy forward. Nevertheless, this recovery has not arrived yet. It is constantly being postponed. The question, then, is whether the assumptions of this forecast, for 2014 in particular, will materialise. If we see a further postponement, the question remains whether this forecast will materialise for future periods.

If the recovery continues to be postponed, we can logically expect it to be reflected in the price of oil, which, by the way, is currently below the assumptions of the forecast. We always work with market outlooks – with the Consensus Forecasts as of a certain date – in our forecasts, and the current price of oil is lower than the one built into the forecast.

The second risk, which was discussed fairly clearly at the Board meeting, is that the domestic economy is still not showing any visible, tangible signs of recovery. Let me compare this to what was said in some monetary policy commentaries before the Board meeting. We are walking along the bottom of the Czech economy. The Bank Board said today that there were no visible signs of recovery, so the question is how long will we be walking along the bottom. At the moment, we don’t know how long the bottom will be, how long we will stay there. We must wait for further data from the real economy in order to be able to confirm our hypotheses, our forecasts. Just to remind you, we are still working with quarterly data for 2012 Q4. For 2013 we have only monthly figures from the real economy, and the monthly figures from the real economy confirm that we are walking along the bottom. We simply cannot see any tangible signs of recovery.

The last downside risk to inflation which the Bank Board identified today for the new forecast is growth in competition in oligopolistic industries. We believe that lower inflation might be fostered by increased competition, especially in communications and the gas industry.

It might be fair to conclude by saying that most of the Board members concurred on these downside risks to inflation, although of course the intensity of the individual risks was seen differently by individual Board members.

The last slide just shows where you can find the current forecast.

Thank you for your attention.