Minutes of the Bank Board meeting on 7 November 2024
Present at the meeting: Aleš Michl, Jan Frait, Eva Zamrazilová, Tomáš Holub, Karina Kubelková, Jan Kubíček, Jan Procházka
The meeting opened with a presentation of the seventh situation report and the new macroeconomic forecast. According to this forecast, inflation would be close to the upper boundary of the tolerance band around the target at the turn of the year and would then start to decline gradually towards the 2% target. Consistent with the baseline scenario of the forecast was a continued decline in short-term market interest rates initially, followed by broadly stable rates from mid-2025 onwards.
The Bank Board assessed the risks and uncertainties of the outlook for the fulfilment of the inflation target as modestly inflationary overall. Higher-than-expected inertia in services inflation was an inflationary risk. Potential excessive growth in total public sector spending would lead to a risk of the state budget having an inflationary effect. Increased wage demands in the private and public sector were an additional upside risk. An inflationary risk in the longer term was 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 downturn in global economic activity and weaker German – and hence Czech – economic output were a significant downside risk to inflation. This was also reflected in the outlook for further rate cuts by major central banks.
In the Board’s discussion about the present and future monetary policy stance, Aleš Michl pointed out that the Monetary Department had increased the inflation forecast. This showed that the Board’s hawkish communication to date had been right. According to Aleš Michl, there was therefore a need to approach future monetary policy easing with great caution and, if appropriate, to pause the interest rate reduction process. Eva Zamrazilová agreed, saying that the new forecast even saw inflation rising slightly above the upper boundary of the tolerance band in the coming months, and that a potential correction of volatile price items could not be relied on. She therefore felt it was important to take a cautious approach to monetary policy decision-making and to keep monetary policy tight for longer. Jan Frait similarly argued that inflation expectations could start to deviate above 2% because of a long-term overshooting of the target. In his opinion, public concerns about inflation rising in the future might also partly explain the renewed growth in house prices, even though these concerns probably stemmed more from high government budget deficits than from monetary policy. By contrast, Tomáš Holub said that the new forecast did not cast doubt on the fulfilment of the 2% target at the monetary policy horizon and meanwhile assumed that the two-week repo rate would be 0.75 percentage point lower than its current level in the first quarter of next year. Moreover, had the forecast not contained an expert adjustment in the form of a reduction of the decline in foreign interest rates relative to their market outlook, it would have implied an even larger decline in domestic interest rates. In this regard, Jan Kubíček noted that the Monetary Department’s autumn 2023 forecast had assumed that interest rates would be 0.75 percentage point lower on average compared with the tighter monetary policy actually implemented by the Board. In retrospect, given the still unfinished process of disinflation, with even core inflation not heading towards the 2% target but staying above it throughout next year, this tighter monetary policy had proved to be right. This experience, in his view, also cast a shadow of a doubt on the currently reduced interest rate forecast. Eva Zamrazilová additionally pointed out that the new inflation forecast was above the 2% target until mid-2026, a year longer than predicted by the previous forecast.
The board members nonetheless agreed that monetary policy was still fairly restrictive. Most of them therefore saw room for a further cautious interest rate cut. Jan Frait noted that lowering the two-week repo rate by 0.25 percentage point to 4% could be regarded as a safe step. Given the shape of the yield curve as well, it would not give rise to credit growth or to overly optimistic expectations with a major positive impact on consumption. In the opinion of Karina Kubelková, easing monetary policy by this amount would not lead to growth in systemic risks and hence did not pose a risk to financial stability. Real interest rates in the Czech Republic would remain positive and would be higher than in the previous decade, motivating people to save. She and Jan Kubíček also said that the decline in interest rates towards their monetary policy neutral level was gradually reducing the space to cut rates much further. According to Jan Procházka, however, this could raise questions as to whether it made sense in today’s world, which was quite a long way from its steady state, to cling to the level of rates considered neutral. Tomáš Holub argued that an even more forceful rate cut than 0.25 percentage point could be justified on the basis of the forecast and the associated risks.
In the next part of the debate on monetary conditions, the Board focused on the exchange rate, which, according to the new forecast, would stop appreciating. Eva Zamrazilová felt that the markedly weaker koruna exchange rate than in the previous forecast – despite being due partly to a reduction of the assumed equilibrium real appreciation rate in the core forecasting model – was sufficient grounds for putting the rate-cutting process on hold. Jan Frait noted that it would remain very difficult to achieve the 2% inflation target without nominal appreciation, given the current tight labour market. In this context, Eva Zamrazilová and Jan Kubíček pointed out that the combination of the interest rate path and the exchange rate forecast would lead to expansionary monetary policy as early as the second quarter of next year, mainly due to the exchange rate component of the monetary conditions index. Given the strength of the upside risks to inflation, this was a reason for caution. Jan Kubíček added that in the new forecast, the koruna exchange rate at the end of 2025 was around 6% weaker than the forecast had implied a year ago, and almost 4% weaker than analysts were currently expecting.
The Board also discussed prices in more depth. Elevated inflation in the services sector was repeatedly identified as an inflationary factor. According to Jan Procházka, this would lead at the very least to inflation hitting the upper boundary of the tolerance band more often, because of swings in volatile items of the consumer basket. In his view, the Board could not rely on rising food prices being at least partially offset by falling fuel prices, which have a substantially smaller weight in the consumer basket. Tomáš Holub added that the rise in food prices was due to only a few commodities, which could undergo a rapid reversal, whereas the majority of foods with a higher weight in the consumer basket were not seeing major changes. Karina Kubelková noted that the volatility of food prices meant they could also surprise to the downside. The Board agreed that the growth in house prices was an upside risk to inflation. According to Eva Zamrazilová, it was passing through to the consumer price index through various channels and could be a signal of future inflation pressures in other price categories.
According to the board members, worse sentiment in the foreign and domestic economy, which should have a negative impact on consumption and investment, would conversely have an anti-inflationary effect. In the domestic economy, Tomáš Holub and Jan Procházka mentioned the substantial decrease in the wage growth outlook compared with the previous forecast for the end of this year. This reflected weaker observed data, especially from industry. According to leading indicators and survey results, this trend was set to continue into next year. A majority of the board members identified slowing performance or a longer stagnation of the German economy as a significant downside risk to inflation from the external environment. It could lead to further downward pressure on ECB rates and hence also domestic rates. According to Jan Frait, doubts about the economic model of European industrial countries would keep the saving rate higher for longer. By contrast, Eva Zamrazilová said that the weaker performance of the German economy reflects a combination of not only cyclical negative demand factors, but also deglobalisation structural negative supply factors of an inflationary nature, which may be inflation-neutral overall. According to Jan Kubíček, the persisting inflation in services – despite lower wage growth and weaker demand – demonstrated that the present inflation might have a different nature and persistence than we are able to model. According to Tomáš Holub, on the other hand, the risk of persistence of services prices was receding, as the growth in these prices was no longer as broad-based as it had been and would be favourably affected by slowing wage growth.
At its meeting, the Bank Board lowered the two-week repo rate by 0.25 percentage point to 4.0%. At the same time, it lowered the discount rate by the same amount to 3.0% and the Lombard rate to 5.0%. Five members voted in favour of this decision: Aleš Michl, Jan Frait, Karina Kubelková, Jan Kubíček and Jan Procházka. Eva Zamrazilová voted for leaving rates unchanged. Tomáš Holub voted for lowering rates by 0.50 percentage point.
Author of the minutes: Martin Motl, Monetary Department