Statement of the Bank Board for the press conference following the monetary policy meeting
Decision
At its meeting today, the Bank Board lowered the two-week repo rate by 0.5 percentage point to 5.25%. At the same time, it lowered the discount rate by the same amount to 4.25% and the Lombard rate to 6.25%. All seven board members voted in favour of this decision.
The Bank Board discussed the new macroeconomic forecast. Its baseline scenario implies a further decline in interest rates. The interest rate path in the model is significantly higher than in the winter forecast in this and subsequent quarters. It has thus moved closer to the levels communicated by the Bank Board in previous months.
The CNB hit its target in the last two months – inflation was exactly 2% in February and March. Price stability has thus been restored in the Czech Republic. However, the Bank Board still sees modestly inflationary risks in the outlook. Their materialisation would mean that inflation would diverge from the target towards the upper boundary of the tolerance band in the quarters ahead. The Bank Board therefore considers it necessary to persist with tight monetary policy and approach further rate cuts with great caution.
At its meetings ahead, the Bank Board will base its decisions on an assessment of newly available data and their implications for the inflation outlook. The pace of any further reduction in rates will depend mainly on an evaluation of the persistence of the low-inflation environment, exchange rate developments, the effect of fiscal policy on the economy, an analysis of the tightness in the labour market, the evolution of domestic and external demand, and the actions of key foreign central banks. The Bank Board will also assess the transmission of interest rate cuts to lending activity, asset prices and subsequently real economic activity. At the same time, the Bank Board states that the interest rate reduction process can be paused or terminated at any time at levels that are still restrictive if inflation – especially its core component – does not develop in line with the forecast.
Although the CNB started lowering rates gradually in December 2023, the fight against inflation is not over. Interest rates remain significantly positive in real terms and are dampening inflation. The Bank Board confirms its determination to continue its tight monetary policy in order to stabilise inflation near the 2% target in the long term.
The Bank Board also discussed the assumption regarding the nominal natural rate of interest. The baseline scenario of the forecast is still based on a rate of 3%. However, part of the Bank Board considers it highly likely that the natural rate of interest has risen slightly compared with the pre-Covid period.
Economic developments
The Czech economy rebounded at the end of 2023 and continued to grow at the start of this year. According to the CZSO’s flash estimate, GDP rose by 0.5% quarter on quarter and 0.4% year on year in Q1. Both external demand and household consumption contributed to the year-on-year growth. With inflation falling, real household income growth is recovering. This is reflected in improving household sentiment, which exceeded its long-term average for the first time in April.
However, according to our analyses, the economy is still below its potential and domestic and external demand remain weak. Demand is being partially dampened by tight monetary policy. Domestic and, to a lesser extent, external demand are also being curbed by elevated saving due to households’ caution and attractive returns on deposits.
The labour market tightness is easing slowly, but unemployment remains low. Wage growth slowed from 7.1% to 6.3% in 2023 Q4. It remains slightly elevated from a historical perspective, but the risk of a wage-price spiral does not seem to be materialising.
We observe signs of recovery in external demand, and the forecast assumes it will accelerate in the course of this year. More robust global economic developments – together with more persistent inflation – push the outlook for foreign rates higher than in the previous forecast.
Outlook
Our forecast expects inflation to rise slightly in the months ahead due to higher fuel prices and a more moderate decline in food prices. However, it will remain close to 2% for the rest of this year and beyond. Its whole-year average will thus be 2.3% this year and 2% next year. Core inflation is expected to be slightly elevated this year, averaging 2.6%.
According to the forecast, Czech GDP will grow by 1.4% this year and accelerate to 2.7% next year. We expect household consumption, which is still below the pre-Covid level, to rise gradually.
Risks and uncertainties
The Bank Board assessed the risks and uncertainties of the outlook as being modestly inflationary. A slower decline in the elevated inflation expectations is a risk in this direction. Given the tight labour market, this could be reflected in stronger wage demands. Higher-than-expected inertia in services inflation and a halt in tradables disinflation, which has so far been due mainly to fading supply-side problems, are additional upside risks. Movements in the koruna exchange rate, which could cause prices of imported goods to go up, are an upside risk to tradables prices. An inflationary risk in the longer term is a potential acceleration of money creation in the economy stemming from a significant recovery in lending activity, especially on the property market. By contrast, a stronger-than-expected downturn in global economic activity and weaker German economic output are a downside risk to inflation. The future monetary policy stance abroad remains an uncertainty of the outlook.
Statutory mandate
The Bank Board assures the public that the CNB’s actions will be sufficient to maintain price stability in accordance with its statutory mandate. In addition, the Bank Board is ready to react appropriately to any materialisation of the risks of the forecast.