Czech headline inflation picks up due to higher food prices

Annual headline inflation increased to 2.6% in September, adding a higher-than-expected 0.4ppt compared to the previous reading. The food and non-alcoholic beverages section was the main driver of this pick-up. Food prices switched to a 0.6% annual increase in September from a 1.8% decline in August. For instance, milk prices picked up by 20.3% year-on-year in September (down 3.3% in August), and butter prices accelerated to 42.5% YoY (22.4% in August). Prices of goods rose 1.2% in September, while prices of services added 5.0% from a year earlier. The increase in basic grocery prices will strain consumers' budgets, as wage increases for low-income households do not fully offset these costs.

In terms of the monthly comparison, consumer prices fell by 0.4% month-on-month in September. Prices in the recreation and culture section were the main drag, as full-service holidays fell 20.9% given that the summer season has ended. The transport section also recorded a price decline from the preceding month, with prices of fuel and oil down 4.8% in September, reflecting lower Brent crude prices and a stronger exchange rate in the same month. The expected and observed decrease in electricity prices also contributed to a reduction in overall consumer prices.

In contrast, the food section saw upbeat pricing in September, with prices of butter up 16.0%, milk up 14.1%, and poultry up 4.1% from the preceding month. The start of the school year marks the usual occasion to change fees in education, with prices in the sector adding 10.5% from the month earlier in September, as nursery school fees jumped 39.6%, kindergarten fees picked up by 28.4%, and private grammar school fees added 7.1%. Such upward moves in mandatory expenditure for some families will tighten the aggregate budget constraint once again.

Our preliminary estimate shows that core inflation likely softened to 2.2%-2.3% YoY. Prices in the housing section contributed significantly to the annual consumer price dynamic in September and to core inflation, with rents rising by 6.4% YoY. The revival of the residential market, followed by renewed growth in property prices, sets the scene for further increases in both market and imputed rents. Such increases are usually more pronounced in January, which could drive both core and headline inflation early next year. Overall, headline inflation came in on a rather strong footing in September, increasing the likelihood of crossing the 3% upper bound limit of the Czech National Bank's tolerance band in December or even earlier. Already in September’s reading, headline inflation is 0.3ppt above the CNB's summer forecast, adding to the chances of a pause in the cutting cycle toward year-end.

We anticipate a modest cut in November, bringing the rate down to 4.0%. This will likely be followed by a pause to assess the January inflation figures, given the strong inflation print for September. If nothing stands out in January’s consumer inflation reading, the soft cuts will follow according to the scheduled meetings from March onward, bringing the base rate down to 3.25% mid-next year.