Czech Recession May Support Rate Cut Call as Demand Falters

The Czech economic recession deepened in the first quarter as falling domestic demand outweighed rising exports, which may boost chances that the central bank will cut interest rates.

Gross domestic product shrank 0.8 percent from the previous quarter, after contracting a revised 0.2 percent in the final three months of last year, the Prague-based Czech Statistics Office said today. The result was better than the flash estimate of a 1 percent decline published on May 15. GDP fell 0.7 percent from a year earlier.

The weakening economy is making it more difficult for Premier Petr Necas to trim the fiscal deficit to the European Union limit of 3 percent of GDP this year. Fading household spending may support arguments for lower borrowing costs after two central bank board members, including Governor Miroslav Singer, voted for a rate cut on May 3.

“Weak domestic demand weighs on economic growth and exports do not fully compensate for the negative impetus,” Vojtech Benda, a senior economist at ING Groep NV in Prague said in an e-mail. “We suspect the central bank board will discuss only two options at the next meeting; no change or a cut. We think a 25 basis point cut is more likely.”

Final consumption fell 1.1 percent in the first quarter, with household demand decreasing 2.3 percent, the statistics office said. Government spending rose 1.8 percent from the previous quarter. Gross fixed capital formation fell 8.6 percent. Exports rose 8.2 percent from the previous quarter, while imports increased 7.4 percent, the statistics office said.

The koruna weakened 0.9 percent to 25.546 to the euro as of 1:13 p.m. in Prague.

Tax Increase

The government raised the lower bracket for the value-added tax levied on goods and services including food, drugs and public transport to 14 percent from 10 percent starting in 2012. Necas plans to push through more austerity measures, including another increase in the VAT and reduced spending on pensions, which the central bank expects to slow the economy next year.

The government’s austerity plans are clouding the outlook for monetary policy as central bankers are divided over the effects of the measures on inflation. Inflation began to accelerate in the final quarter of last year as businesses raised prices before the tax increase took effect.

Mixed Board

Singer and Vice-Governor Vladimir Tomsik sought a quarter-point rate reduction in interest rates at a May 3 policy meeting, while four policy makers voted to keep the benchmark two-week repurchase rate at a record-low 0.75 percent. One board member voted for a quarter-point increase in the rate, which has been unchanged for two years. settings.

“The latest GDP figures confirm that we have a very low domestic pressure on inflation, so for this, it doesn’t provide any significant signal to change my personal opinion about the stance of the monetary policy,” Tomsik said in an interview in Bucharest today. “But I always take my final decision on the day of the monetary-policy council meeting. I can’t rule out any monetary-policy steps.”

While the economy fell into a recession, Necas’s two-year-old administration wants to push through 57 billion koruna ($3 billion) worth of budget measures to narrow the deficit to 2.9 percent of GDP next year from the planned 3 percent this year.

Both quarterly and annual GDP was 0.7 percentage points below the central bank’s forecast, as household spending fell more than expected, the bank said in a statement. The latest data are a “downside risk” for the central bank’s forecast of “domestic economic activity,” it said.

The Ceska Narodni Banka forecasts a stagnant economy this year and a 1.9 percent expansion in 2013.

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