Czech National Bank preview: the end of a hawkish era

On 22 June, the Czech National Bank (CNB) Board will hold its last meeting in its current composition. Things have changed dramatically since the May meeting, both in terms of economic conditions and at the CNB itself. From a macroeconomic perspective, 1Q GDP showed 0.9% quarter-on-quarter growth, while the central bank had expected 0.0% in its May forecast. EUR/CZK is 2.5% stronger than CNB expectations for 2Q and inflation deviation from forecast came in at 1.1pp (16% year-on-year) in May. Thus, the overall picture of the economy is better than expected while inflationary pressures are visibly rising further.

The June meeting will thus, in our view, bring another 125bp hike in the key interest rate to 7.0%. We see the risks to our call balanced on both sides this time. The significant slowdown in the mortgage market in recent months (new mortgages dropped by 40% month-on-month in April) argues for a smaller move. On the other hand, given the changes in the CNB board and the last meeting with the current composition, the frontloading aspect may support a bolder move. Still, the May forecast expects interest rates to rise above 8%. And as we enter the blackout window for CNB communication, some of the last words come from board member Tomas Holub. Today he described the market pricing of a 100bp hike at the June meeting as 'rational'.

The new composition of the board seems, according to the first indications, to be a clear dovish shift in the CNB's monetary policy. In his first speech, the new governor pledged to propose interest rate stability at the first meeting under his leadership on 4 August. On the one hand, the new dovish board has good timing for its starting point, as the CNB expects inflation to peak in these months and a drop in the headline number would thus allow for an easy change in communication. On the other hand, as we mentioned before, we are increasingly skeptical about a peak in inflation due to the new announcements of energy price hikes from major suppliers in the country and the continued rise in fuel prices despite the excise tax cut since early June.

Thus, given the lag in data releases, we expect that the initial dovish tone of the new board may be replaced by a wait-and-see mode later on. At the same time, however, we must keep in mind that the current forecast already implies a CNB interest rate cut this year. Inflation will one day peak and this will mean the beginning of interest rate cuts for the central bank's model. Then it will just be a question of how long the new board will delay in following the CNB staff's recommendations. Given the near-zero insight the market has into the new board members, it is impossible to draw a clear conclusion now. However, we continue to believe that the market is still underestimating the current CNB transformation to a dovish stance and that the first rate cut will come earlier than the middle of next year, as the market currently expects. For now, it seems to us that the turn of the year may be an opportunity to show the full force of this dovish shift for the first rate cut, given that the full effect of the comparative base from this year will already be showing up in inflation.