Disinflation in the Czech Republic has reached a milestone. The annual inflation rate reached the Czech National Bank's target of 2 pct. In February, the CPI slowed from 2.3 pct y/y. Inflation rose by 0.3 pct m/m, down from 1.5 pct m/m, as food prices fell to offset higher fuel prices.
Weak domestic demand plays a vital role in keeping inflationary pressures in check. Real GDP contracted by 0.5 pct in 2023 and is expected to grow by a modest 1.5 pct y/y this year. The Czech Republic is the only EU country that has not returned to pre-pandemic output levels. Its lacklustre performance is mainly due to the battered German industry. Consequently, only modest reflation is on the cards. The bounce in the CPI annual rate should peak out in the fourth quarter of the year comfortably below the 3 pct y/y mark.
The latest inflation prints have exceeded the Czech National Bank's official forecasts. As a result, the CNB accelerated the pace of monetary loosening in February by reducing the key rate from 6.75 to 6.25 pct. What is more, it signalled more than 50 bp cuts might be appropriate. Such a move proved to be a substantial dovish surprise for the markets and triggered another round of koruna weakness.
Since bottoming out in April last year, the EUR/CZK pair has surged by almost 10 pct. Last month, the rate touched the 25.50 mark for the first time in nearly two years. The Czech koruna underperforms its peers as well. The currency has gone from a regional safe haven to a laggard. It depreciated over 15 pct against the powerfully bouncing Polish zloty in the last couple of quarters.
With the prospect of annual inflation in the 2-3% y/y range, the CNB should continue to ease monetary policy. However, further aggressive cuts in borrowing costs may not materialise. Investors are pricing in a cumulative 250bp of further cuts before the end of the year. The market's pricing seems high and may be close to a turning point. The CNB is beginning to view the weakness of the koruna as undesirable. The monetary authorities have indicated that they may even stop cutting interest rates if the koruna continues to weaken. As a result, fintech Conotoxia forecasts that the EUR/CZK exchange rate will trend lower for the remainder of the year and break below 25.00 in the second half of the year.
This commentary is not a recommendation within the meaning of Regulation of the Minister of Finance of 19 October 2005. It has been prepared for information purposes only and should not serve as a basis for making any investment decisions. Neither the author nor the publisher can be held liable for investment decisions made on the basis of information contained in this commentary. Copying or duplicating this report without acknowledgement of the source is prohibited.
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4 Mar 2024 10:16
Thomas Jordan's last dance: SNB Governor steps down
Disinflation in the Czech Republic has reached a milestone. The annual inflation rate reached the Czech National Bank's target of 2 pct. In February, the CPI slowed from 2.3 pct y/y. Inflation rose by 0.3 pct m/m, down from 1.5 pct m/m, as food prices fell to offset higher fuel prices.
Weak domestic demand plays a vital role in keeping inflationary pressures in check. Real GDP contracted by 0.5 pct in 2023 and is expected to grow by a modest 1.5 pct y/y this year. The Czech Republic is the only EU country that has not returned to pre-pandemic output levels. Its lacklustre performance is mainly due to the battered German industry. Consequently, only modest reflation is on the cards. The bounce in the CPI annual rate should peak out in the fourth quarter of the year comfortably below the 3 pct y/y mark.
The latest inflation prints have exceeded the Czech National Bank's official forecasts. As a result, the CNB accelerated the pace of monetary loosening in February by reducing the key rate from 6.75 to 6.25 pct. What is more, it signalled more than 50 bp cuts might be appropriate. Such a move proved to be a substantial dovish surprise for the markets and triggered another round of koruna weakness.
Since bottoming out in April last year, the EUR/CZK pair has surged by almost 10 pct. Last month, the rate touched the 25.50 mark for the first time in nearly two years. The Czech koruna underperforms its peers as well. The currency has gone from a regional safe haven to a laggard. It depreciated over 15 pct against the powerfully bouncing Polish zloty in the last couple of quarters.
With the prospect of annual inflation in the 2-3% y/y range, the CNB should continue to ease monetary policy. However, further aggressive cuts in borrowing costs may not materialise. Investors are pricing in a cumulative 250bp of further cuts before the end of the year. The market's pricing seems high and may be close to a turning point. The CNB is beginning to view the weakness of the koruna as undesirable. The monetary authorities have indicated that they may even stop cutting interest rates if the koruna continues to weaken. As a result, fintech Conotoxia forecasts that the EUR/CZK exchange rate will trend lower for the remainder of the year and break below 25.00 in the second half of the year.
See also:
Thomas Jordan's last dance: SNB Governor steps down
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