Political pressure on the Czech National Bank (CNB, the central bank) has increased, but we do not expect this to affect policymaking during the next year, with the foreign-exchange intervention regime remaining in place until at least mid-2016. This forecast is informed by the CNB's high level of independence and solid record of resistance to external pressures, and by the fact that inflation remains well below the 2% target. A change of central bank governor after July 2016 will mean that there is greater uncertainty over policy beyond this date, as the new governor will be appointed by the president, Milos Zeman, who has expressed vocal opposition to the currency ceiling. Our core view remains that the intervention regime will be concluded in the second half of 2016.
On August 11th Mr Zeman, as well as chairman of the Chamber of Deputies (the lower house of parliament) Jan Hamacek and president of the Senate (the upper house) Milan Stech, publicly urged the CNB to stop intervening in the foreign-exchange markets and allow the koruna to appreciate beyond its current ceiling of Kc27:€1.
The challenge to the CNB's policy stance has come at a moment when the Czech economy is rebounding strongly. GDP growth in the second quarter of 2015 came to 4.4% year on year, inflation has strengthened since the start of the year, unemployment is falling and exports are reaching record highs. In response, the koruna has strengthened, trading between Kc27.02:€1 and Kc27.04:€1 for most of August. In this context, Mr Zeman, Mr Stech and Mr Hamacek (who is also the deputy chairman of the ruling Czech Social Democratic Party) argue that there is no longer any need artificially to weaken the currency. A recent survey by CSOB, a major bank, showed that 42% of business leaders also now consider the intervention regime to be harmful.
The foreign-exchange regime was launched in November 2013, following two years of recession, in order to boost exports and raise inflation by weakening the currency. Following an initial intervention, the koruna weakened by 7% against the euro, and remained weak thereafter, with only verbal reiterations of policy from the CNB until mid-July, when it was again forced to intervene in the foreign-exchange markets to maintain the ceiling. Since then, the currency has remained close to Kc27:€1, and it is likely that the CNB has been intervening further, although no official confirmation of this has yet been made.
In its August meeting statement, the CNB repeated that conventional monetary policy will not resume until inflation has returned sustainably to its 2% target, which it now does not expect to occur until early 2017, given the anti-inflationary pressures arising from the strengthening of the koruna. The CNB re-emphasised that the foreign-exchange intervention regime would not be discontinued before the second half of 2016. Given that annual inflation in July was still well below the target, at just 0.5%, and in view of the CNB's clear and consistent rhetoric on this point, we believe this outlook to be credible and consider an exit from the regime before mid-2016 to be unlikely. Our forecast in this case is unchanged by the recent increase in political pressure, as the CNB has a high level of independence and a solid record of resistance to external pressures.
After mid-2016, the outlook for policy is less certain. The CNB governor, Miroslav Singer, reaches the end of his second term at end-July 2016 and, according to the central bank's rules, cannot remain for a third term. CNB board members are appointed by Mr Zeman, who has previously stated that he favours appointing Jiri Rusnok, one of the current board members, as the next governor. Mr Rusnok is a long-term ally of the president, having served as finance minister in 2001-02 when Mr Zeman was prime minister, and as prime minister of a caretaker government appointed by Mr Zeman in 2013-14, in an unusual move that bypassed parliament.
Changes to the CNB board
Changes to the central bank board may lead to a gradual shift in the prevailing CNB opinion on monetary policy. The mandate of board member Kamil Janacek also expires in July 2016, while those of Lubomir Lizal and Pavel Rezabek expire in February 2017 (although both Mr Janacek and Mr Lizal would be eligible to stay on for a second term). Mr Zeman has repeatedly said that he will not appoint anyone to the board who is in favour of the devaluation policy, on the grounds that this is not in line with his preference for the adoption of the euro. During his election campaign in 2013, Mr Zeman mentioned Jaroslav Ungerman and Martin Fassmann as possible future CNB board appointees; both have expressed reserved or negative opinions on the intervention regime. Mr Rusnok, however, revealed earlier this year that he does not consider the exchange-rate commitment to be antithetical to euro adoption. This suggests that his appointment as governor by Mr Zeman is, as yet, far from certain.
Interventions expected to continue
We expect the CNB to maintain its Kc27:€1 ceiling until at least July 2016, under the governorship of Mr Singer, as inflation gradually rises back towards the 2% target. The strengthening of the economy means that this will probably necessitate further interventions, but we do not consider this to be problematic, given the current low level of foreign-exchange reserves. After July 2016 we see greater uncertainty surrounding the expected end-date of the intervention regime, with inflationary pressures from the accelerating economy contending with anti-inflationary pressures from the stronger koruna. Our core view remains that the regime will conclude in the second half of 2016.
5th November 2018
2nd November 2018