Czechs More Likely to Devalue as President Attacks CNB

Czech President Milos Zeman’s attacks on the central bank’s weak-koruna policy may backfire and spur further devaluation, Ceska Sporitelna AS and Nomura Holdings Inc. said.

The currency strengthened the most in more than three years on Wednesday after Zeman said he will appoint central bankers who oppose the Czech National Bank’s pledge to stop gains beyond 27 per euro until at least 2016. The rally was overdone and policy makers will remain committed to the currency cap to ward off deflation, according to David Navratil, the chief economist at Ceska Sporitelna, a Prague-based unit of Erste Group Bank AG.

“The market is wrong,” he wrote in a report. “If the koruna gains, the CNB won’t be able to meet its inflation target.” Zeman’s comments “pushed the bank board closer to the decision on whether to weaken the koruna, rather than further from it,” he said.

Policy makers extended their pledge to keep the cap until the second half of next year from the first quarter and left their main interest rate at 0.05 percent on Feb. 5, saying the European Central Bank’s quantitative-easing plans are obscuring the nation’s inflation outlook. Governor Miroslav Singer said that day that the euro area is the country’s “main economic risk” and that the CNB may move the koruna cap if needed.

“The CNB is prepared to move the exchange rate commitment to a weaker level if there were to be a long-term increase in deflation pressures,” policy makers said in a statement.

Slowing Inflation

The inflation rate was 0.1 percent in January, unchanged from a month earlier and down from 0.7 percent in October. While the country hasn’t slipped into deflation as economies have from Finland to Poland and France, the consumer price index has been under the central bank’s 2 percent target for two years.

The consumer-price growth will temporarily turn negative in the second and third quarters because of declines in the cost of oil, the central bank said this month.

“We do not doubt the resolve of the CNB to defend the current floor,” Nomura strategists Peter Attard Montalto and James Burton in London wrote in a report. The bank has allocated the equivalent of $5 million on a “tactical trade” to sell the Czech currency with a target of 28.25 per euro, they said.

The koruna weakened 0.5 percent to 27.389 per euro by 5:48 p.m. in Prague. It gained as much as 1.4 percent on Wednesday after Zeman’s comments to 27.185 per euro, the biggest intraday gain since November 2011 and the strongest level since 2013.

Selling Koruna

The bank hasn’t intervened since November 2013, when it set up the cap and sold 200 billion koruna ($8.3 billion) in the market to weaken the currency. The exchange rate, which has averaged 27.5 per euro since then, depreciated to as low as 28.52 on Jan. 12 amid speculation that policy makers may push the limit to a weaker level.

“The floor removal is very unlikely, as the intervention has proven to be efficient for the country’s economy,” Marsa Bobanovic, a London-based strategist at Royal Bank of Scotland Group Plc, said by e-mail. Investors should sell the koruna if it gains to 27.05 as “we expect the CNB to defend the floor,” she wrote.

Zeman, who picks the nation’s central bankers, said on Wednesday he’d “do everything to ensure that this respectable institution is filled in the future with people who won’t do unnecessary experiments with the Czech economy and will support the Czech Republic’s entry into the euro zone.”

Governor Singer’s final term ends in July 2016 and Zeman will need to appoint three more bankers to the seven-member board before his first term as president ends in 2018.

‘Deflation Risk’

“We do not think Singer will abandon the floor as a reaction to political pressure,” Nomura’s Montalto and Burton wrote. “He will most likely issue a strong statement to defend the CNB’s independence.”

Singer is scheduled to appear at a conference in Prague tonight, according to the central bank’s website.

Zeman’s comments may prompt some investors to test the central bank’s readiness to act, according to Nomura.

“An attack on the floor by the market actually increases the chances the floor will be raised given the market will no longer be doing the heavy lifting for the CNB and given the deepening deflation risk,” Montalto and Burton said.

Before it's here, it's on the Bloomberg Terminal.
LEARN MORE