Inflation around 3% is no drama

Interview of Tomáš Holub, Bank Board member
By Krystof Chamonikolas (Bloomberg 27. 7. 2020)

There’s no reason to fight above-target inflation in the Czech Republic even as public concern increases that shop prices may spiral, a central banker said.

An unexpected jump in June price growth is temporary and the central bank probably won’t have to raise interest rates for at least a year, board member Tomas Holub said in an interview.

Inflation slightly above 3% is a “fairly favorable entry point” into what’s projected to be the country’s deepest recession in at least three decades, he said.

“It’s obviously hard for me to say that overshooting the target now is a good thing, particularly in a country with such ultra-conservative views on inflation,” Holub said last week.

“In the medium-term, anti-inflationary trends will prevail amid weaker economic activity, and hence inflation may land quite softly on the target.”

The $250 billion economy has emerged from a coronavirus lockdown with one of the European Union’s fastest inflation rates, fueled by record public spending. In a country with more bank deposits than loans and a population averse to financial risk, that poses a policy and communication dilemma for central bankers.

Czech media often fret over the threat of hyper-inflation, despite years of below-target price growth, and labor unions are demanding a 7% to 15% pay rise in the public sector next year.

Some investors have begun placing early bets on future tightening, given the central bank’s reputation of a rigorous inflation targetter.

Prices growing by around 3% a year is “no drama” and the “current stagflationary trend is temporary,” Holub said, with projections showing unemployment will rise and fiscal stimulus will gradually ebb. He said recent data suggest further easing won’t be needed after the country slashed borrowing costs by 2 percentage points since mid-March, the most in the EU.

“I’m confident that inflation will slow down on the 12- to 18-month horizon,” he said. “And we won’t have an escalating dilemma between whether we want to target inflation or support jobs and the economy.”

The monetary easing has also prompted the bank to shelve an earlier debate about whether to start selling the returns on its vast foreign reserves, according to Holub, who considers the koruna’s pandemic-triggered weakness helpful for the economy.

The 45-year-old former chief economist at the central bank said he would probably vote for keeping the key rate at 0.25% on Aug. 6, and expects this to be the majority view on the board.

“At this moment I can hardly imagine we could even just contemplate rate hikes,” Holub said. “Certainly not this year and probably not in the first half of next year.”