CNB likely to cut rates by a quarter percentage point on Thursday
Economic commentary by Jakub Seidler, Chief Economist of the CBA
The CNB will again decide on monetary policy on Thursday and will not have a new macroeconomic forecast available, but will only assess developments compared with the last one in November. So far, inflation has been very close to the CNB's expectations, but economic activity and the outlook for next year have generally deteriorated since the last CNB meeting. While the vote on a possible rate cut in November was still 5:2 in favour of stability, signals coming from the CNB suggest that even then the decision was close and the Board is more open to the possibility of a rate cut in December. Therefore, we believe that the chance of a quarter percentage point rate cut this week is the most likely scenario. Analysts and the market were split on the outcome of the December meeting, but the latest consensus is already in favour of a rate cut, as is the market already pricing in a quarter percentage point cut.
The main argument for a rate cut is the forward-looking nature of inflation targeting. The CNB's estimate (Chart 2) - but also the consensus among analysts - assumes a significant decline in domestic inflation next year. The CNB's estimate is 2.6 %, while analysts' estimates hover around the 3 % mark. According to Focus Economics (a consensus of around 30 foreign and domestic institutions), the estimate of domestic inflation next year is the lowest in the region (Table 1). While the uncertainty of January inflation itself is high, even in the event of an upside surprise, the current 7 % level of rates will be too restrictive. At the same time, the consensus on January inflation is currently slightly above 3 % (Chart 3).
The arguments mentioned above have been valid for some time, but at the November meeting the CNB gave much consideration to the communication aspects of a rate cut followed by an acceleration in annual inflation in the last quarter due to the introduction of the austerity tariff last year. However, this statistical effect was well explained in the media, thanks to the CSO's comments publishing inflation without the effect of the austerity tariff (4.7 % yoy in November versus the official figure of 7.3 %), and will thus probably no longer be key in the December decision-making.
Although inflation itself ended slightly above the CNB's estimates in October and November, core inflation was slightly below it. Also, looking at month-on-month inflation excluding regulatory and administrative prices (around 85 % of the consumer basket), adjusted for seasonal effects, it is clear that inflationary pressures are fading and annualised inflation has been below the CNB's 2 % target for the past three months (Chart 5). The surprising 0.5 % acceleration in imputed rents in November was driven by construction prices, not house prices, and was also due to revisions to the figures and the fact that the CSO primarily calculates annualised values and monthly ones are only recalculated and can then be more volatile.
The much weaker outlook for the economy and the significant market shift in the main central banks' rate developments also play in favour of monetary easing. These should reduce fears of a weakening of the koruna following a fall in rates in the domestic economy. The koruna exchange rate itself has rather surprised with stronger readings since the November meeting, and despite its weakening in recent days, its Q4 value is slightly stronger than the CNB's November forecast (24.6 vs. 24.5). Thus, unlike the November meeting, the exchange rate did not bring about an easing of monetary conditions compared to the forecast, rather the opposite (Chart 6).
In terms of the future path of 3M Pribor rates, the market expects a fall in rates by the quarter in December, and given global developments, the trajectory of rates for next year has been reassessed towards lower values (Chart 7), and at the end of 2024, the market expects rates to be slightly above 3 %, whereas even after the November meeting these expectations were around 4 %. In this respect, it cannot be ruled out that the CNB will hedge against such a significant re-pricing of expectations (the traditional gap between the repo rate and the 3M Pribor disappears in a rate cut cycle, so that the 3M Pribor expectation roughly corresponds to the CNB's main rate).
The balancing of all the pros and cons will continue at the December meeting, and the outcome may be close, but if the Board agrees on a rate cut, it may end up being unanimous. While media comments by CNB officials were not unequivocal about the December meeting, they were more open to a rate cut compared to November. Thus, at present, the likelihood of a modest quarter percentage point rate cut this Thursday seems higher than delaying a decision until early next year, when the board will not yet know January inflation at its February meeting and delaying a decision until late March no longer seems sustainable;
The main argument for a rate cut is the forward-looking nature of inflation targeting. The CNB's estimate (Chart 2) - but also the consensus among analysts - assumes a significant decline in domestic inflation next year. The CNB's estimate is 2.6 %, while analysts' estimates hover around the 3 % mark. According to Focus Economics (a consensus of around 30 foreign and domestic institutions), the estimate of domestic inflation next year is the lowest in the region (Table 1). While the uncertainty of January inflation itself is high, even in the event of an upside surprise, the current 7 % level of rates will be too restrictive. At the same time, the consensus on January inflation is currently slightly above 3 % (Chart 3).
The arguments mentioned above have been valid for some time, but at the November meeting the CNB gave much consideration to the communication aspects of a rate cut followed by an acceleration in annual inflation in the last quarter due to the introduction of the austerity tariff last year. However, this statistical effect was well explained in the media, thanks to the CSO's comments publishing inflation without the effect of the austerity tariff (4.7 % yoy in November versus the official figure of 7.3 %), and will thus probably no longer be key in the December decision-making.
Although inflation itself ended slightly above the CNB's estimates in October and November, core inflation was slightly below it. Also, looking at month-on-month inflation excluding regulatory and administrative prices (around 85 % of the consumer basket), adjusted for seasonal effects, it is clear that inflationary pressures are fading and annualised inflation has been below the CNB's 2 % target for the past three months (Chart 5). The surprising 0.5 % acceleration in imputed rents in November was driven by construction prices, not house prices, and was also due to revisions to the figures and the fact that the CSO primarily calculates annualised values and monthly ones are only recalculated and can then be more volatile.
The much weaker outlook for the economy and the significant market shift in the main central banks' rate developments also play in favour of monetary easing. These should reduce fears of a weakening of the koruna following a fall in rates in the domestic economy. The koruna exchange rate itself has rather surprised with stronger readings since the November meeting, and despite its weakening in recent days, its Q4 value is slightly stronger than the CNB's November forecast (24.6 vs. 24.5). Thus, unlike the November meeting, the exchange rate did not bring about an easing of monetary conditions compared to the forecast, rather the opposite (Chart 6).
In terms of the future path of 3M Pribor rates, the market expects a fall in rates by the quarter in December, and given global developments, the trajectory of rates for next year has been reassessed towards lower values (Chart 7), and at the end of 2024, the market expects rates to be slightly above 3 %, whereas even after the November meeting these expectations were around 4 %. In this respect, it cannot be ruled out that the CNB will hedge against such a significant re-pricing of expectations (the traditional gap between the repo rate and the 3M Pribor disappears in a rate cut cycle, so that the 3M Pribor expectation roughly corresponds to the CNB's main rate).
The balancing of all the pros and cons will continue at the December meeting, and the outcome may be close, but if the Board agrees on a rate cut, it may end up being unanimous. While media comments by CNB officials were not unequivocal about the December meeting, they were more open to a rate cut compared to November. Thus, at present, the likelihood of a modest quarter percentage point rate cut this Thursday seems higher than delaying a decision until early next year, when the board will not yet know January inflation at its February meeting and delaying a decision until late March no longer seems sustainable;
Chart 3:Consensus Forecast estimate of January inflation (% yoy)
Table 1: Focus Economics estimate of annual inflation (%)
Figure 4:
Figure 5:
Figure 6:
Figure 7:
Disclaimer: Text translated automatically, excuse any imperfections.