Czechs to Refrain From Rate Cut to Zero as Outlook Dims

The Czech central bank will probably refrain from cutting its main interest rate to zero today and instead move closer to weakening the koruna as the economy remains mired in a recession.

The Ceska Narodni Banka will keep the main two-week repurchase rate at 0.25 percent, half a point below the euro- area benchmark, at its board meeting, according to 15 analysts in a Bloomberg survey. Seven economists forecast a rate reduction to zero, 0.1 percent or 0.15 percent. The bank postponed its rate-decision announcement by one hour to 2 p.m. and will hold a news conference at 3:30 p.m., also one hour later than originally scheduled. No reason was given.

Policy makers in Prague are preparing tools for relaxing conditions after cutting the benchmark by a quarter-point in June and September. With the economy in its second recession since 2009, the bank board agreed to use the koruna if it needs to ease policy beyond what another rate reduction would achieve, Governor Miroslav Singer said last month. The Cabinet yesterday cut its forecasts for economic output.

“The Czech National Bank’s conventional options for easing monetary policy have been pretty much exhausted,” Michal Dybula, an emerging-market strategist at BNP Paribas in Warsaw, said in an Oct. 26 note to clients. “The benefits of a weaker exchange rate will outweigh the costs. Stronger exports will support investment and employment, offsetting the impact of higher inflation on disposable income and spending.”

Koruna Gains

The Czech koruna has pared the 1.5 percent gain it made against the euro after Governor Singer said the bank may use “the exchange-rate channel” next to relax monetary conditions. The currency traded at 25.131 to the euro at 1:07 p.m. in Prague, down 0.3 percent since the previous rate meeting on Sept. 27, according to data compiled by Bloomberg.

Interest-rate cuts have helped fuel a Czech bond rally. The yield on five-year koruna notes were at 0.95 percent today, near a record low, according to generic data compiled by Bloomberg.

BNP forecasts the main Czech rate to stay unchanged today, though the bank may narrow the “interest-rate corridor” by cutting the Lombard rate and announce direct interventions on the foreign-exchange market.

Monetary authorities in eastern European Union members are following central banks in the U.S. and U.K. in easing policy to tackle an economic slowdown as Europe fights a debt crisis.

The Czech economy is suffering from weak domestic demand after the government cut investments and raised taxes to trim the budget gap. The central bank will also present a new forecast today, which will probably assume a further interest rate cut, according to policy maker Lubomir Lizal.

Another Reduction

“The current forecast assumes another rate reduction,” Lizal said in an Oct. 23 interview . “I don’t think the next forecast will be dramatically different from the current one. This means there shouldn’t be a change in the trend, although there may be a change in the timing.”

Traders have stepped up bets on monetary easing after Lizal said the bank should cut rates before moving to weaken the koruna. Forward-rate agreements fixing interest costs in January traded 19 basis points, or 0.19 percentage point, below the Prague interbank offered rate yesterday, the widest margin in four weeks.

Czech gross domestic product fell 0.2 percent in the second quarter from the previous three months, the third consecutive contraction, after consumers responded to the worsening economic outlook by spending less.

Consumer prices grew 3.4 percent in September, less than the central bank’s estimate of 3.5 percent. The inflation rate has been above the 3 percent upper end of the bank’s tolerance range this year because of factors outside the influence of monetary policy, including a sales-tax increase and global commodity costs.

Policy Inflation

Inflation relevant for monetary policy, defined as price growth adjusted for changes in indirect taxes, was 2.1 percent in September, according to central bank data. The bank targets the monetary-policy inflation rate at 2 percent and sees it at 1.5 percent in the third quarter of next year, according to an August forecast.

While the country maintains a foreign trade surplus, export growth was the slowest since the end of 2009 in the second quarter as the euro area’s crisis curbed purchases of electronic goods and cars. Exports account for three-quarters of Czech GDP, with about 80 percent going to the 27-nation EU.

The Finance Ministry forecasts GDP to fall 1 percent this year, compared with a previously estimated contraction of 0.5 percent, it said yesterday. The ministry cut next year’s GDP growth prediction to 0.7 percent, from a previously expected 1 percent expansion.

The bank last stepped into the market to weaken the koruna 10 years ago. Unlike the Swiss central bank, which set a cap last year on the franc to stop its gains from hurting the country’s economy, policy makers in Prague haven’t indicated any exchange rate at which they may start to sell the currency.

To contact the reporter on this story: Peter Laca in Prague at placa@bloomberg.net

To contact the editor responsible for this story: Balazs Penz at bpenz@bloomberg.net

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