Inflation isn’t beaten, the fight will go on. The public should forget about ultra-low interest rates

Interview of Aleš Michl, Governor
By Michaela Nováková (ČT24 27. 6. 2024, Interview ČT24 programme)

Selected quotes

Satisfaction with first two years in office

When I took office as governor in mid-2022, inflation was running at 18 per cent. In February and March this year, it was two per cent in annual terms, which is exactly our target. So yes, I’m satisfied, or, I should say, we’re satisfied, because we at the Czech National Bank are one team and it’s a success for all our staff.

Is inflation beaten?

No, it isn’t. The future will judge us by our long-term results, not by our short-term success in reducing inflation significantly. The fight will go on. That’s also why we’re telling the public to forget about the ultra-low interest rates we had in the ten years before Covid. The average interest rate in the Czech Republic was 0.6 per cent. It was a rate that encouraged debt and inflation.

Cutting interest rates

Inflation is near the target, if not exactly at the target. The latest annual figure is 2.6 per cent. So we’re on the alert – we don’t want inflation to take off again. At the horizon we consider, namely a year, a year and a half ahead, we see inflation somewhere around two per cent. But at the same time we’re saying that growth in services prices is still elevated, as it is elsewhere around the world. The quantity of money in the economy is still high. Banking sector liquidity is high. Public finance deficits are high. So, rates are going down, but not to where they were before.

Probability of another half percentage point cut in the policy rate

We are keeping all options open, because our mandate is to deliver price stability in the country and not repeat the episode of 18 per cent inflation. In other words, we can’t rule anything out. At the moment, though, it’s more likely we’ll slow or halt the decline in interest rates.

The natural policy rate

The natural interest rate should be around three, three and a half per cent in nominal terms, much higher than the average of 0.6 per cent over the ten years before Covid. It’s a purely theoretical quantity I can lean on. It’s the rate at which the economy should be in equilibrium and should continue to thrive, the rate at which inflation should simultaneously be at the target level.

Household spending and saving

The interwar minister of finance Alois Rašín, one of the founders of the independent Czechoslovak Republic, used to say “work and save”. My vision is similar. Let’s save and work and not go back to the way things were before, when money was free, when everyone was spending and taking out multiple mortgages and consumer loans, and when the cost of money was lower than inflation, so savings were losing value. The Czech National Bank’s long-term vision is for rates to be a little higher than inflation and for savers to be duly rewarded.

Wage bargaining in the economy, CNB setting an example

We at the central bank want to set an example. That’s why the average wage at the Czech National Bank went up by 4.5 per cent this year. We regard that as sensible growth. Anyone with brilliant performance, productivity and work results can of course have a bigger pay rise. That’s how it was with us at the Bank. But on average, we want growth of roughly 4.5 per cent for firms and the same in the public sector, so that pay doesn’t run riot and we really do crack down on inflation.

The fight against inflation, a strong koruna

We don’t target the koruna exchange rate, but the new approach we introduced on our appointment was to stabilise interest rates and call for a strong koruna. It worked, purely because most of the (high) inflation was cost inflation, imported inflation. The best way we could fight that was to have a strong koruna. It made imports cheaper and therefore lowered inflation. It was a success. During our time in office, the koruna was at its strongest level in history in spring 2023. We aren’t commenting much on the exchange rate right now, but naturally the stronger it is, the better.

Two years as governor

It was a time when we streamlined the running of the Czech National Bank, so as to lead even more by example. Not only did we emphasise wage restraint, we also laid off five per cent of our staff. It was pretty unpleasant, but we wanted to set an example. Everywhere else in the public sector, people are being recruited. You lay off some of your employees, but then you can raise the pay of those who perform really well.

Supporting growth of the national economy

The Czech National Bank can help the Czech economy in two ways. First by delivering stable inflation. That’s non-negotiable. And second by promoting financial stability. With financial stability and low inflation, we create the best growth environment people and firms could ask for. It’s an illusion that the Czech National Bank or the government can generate growth. No government strategy or document can do that. Growth is generated by entrepreneurs and their ideas.

Euro adoption

The key to adopting the euro is for politicians to know what they want. So, when the political leadership gives the order, meaning that they agree on joining the euro area, we as the Czech National Bank will do the job for them with the utmost professionalism. We will create conditions for a stable koruna or for introducing the euro exactly as agreed with the prime minister, present or future.