Nov 2 (Reuters) - Following is the full text of the minutes from the Czech central bank (CNB) governing board's October 25 monetary policy meeting, released on Friday.
Present at the meeting: Zdenek Tuma (Governor), Ludek Niedermayer (Vice-Governor), Miroslav Singer (Vice-Governor), Mojmir Hampl (Chief Executive Director), Robert Holman (Chief Executive Director), Pavel Rezabek (Chief Executive Director), Vladimir Tomsik (Chief Executive Director).
The meeting opened with a presentation of the October situation report and the new macroeconomic forecast. The forecast had responded to the changes in the global environment, in particular the significant fall in the one-year EURIBOR interest rate path resulting from the financial market turmoil, the uncertainty regarding its impact on real economic activity and the resulting monetary policy response. The outlook for consumer price inflation in the euro area was unchanged compared to the July forecast. The expected effect of external demand on the domestic economy was assessed as slightly anti-inflationary.
As for the starting conditions in the domestic economy, the anti-inflationary effect of real wages had faded away, in line with the assumptions of the July forecast, while the inflationary impulses from the volume of production persisted. Overall, however, the current inflation pressures from the domestic real economy were assessed as moderate. This assessment was supported by the evolution of adjusted inflation excluding fuels, which had been lower than forecasted in July. The current setting of the monetary conditions was assessed as roughly neutral.
The new forecast incorporated the impacts of all the approved fiscal reform measures. As a result of these measures, the fiscal impulse would be negative in 2008 and then -- assuming no further reform measures -- turn positive again in 2009, which might cause fluctuations in domestic demand. In line with this, real GDP growth would slow from the 6.2 percent expected this year to 5 percent in 2008 and then speed up again to 5.6percent in 2009.
The October situation report assessed the risks to the new forecast as being balanced. No risk leading to the creation of an alternative scenario had been identified in the forecasting process. Only a sensitivity analysis had been conducted to determine the impacts of large exchange rate changes. For the first time, the Board was presented with an alternative forecast prepared using the new G3 macroeconomic model. The G3 model is much more detailed, allowing for a more realistic description of the impacts of various economic shocks.
The October headline inflation forecast was significantly higher than the July forecast, owing to the inclusion of a rise in indirect tax rates, an increase in regulated prices and a revision of energy and food price inflation. In 2009, most of these one-off factors would unwind and headline inflation would start to return to the inflation target. Monetary-policy relevant inflation conversely lay below the July forecast, mainly as a result of a lower trajectory of adjusted inflation excluding fuels and faster appreciation of the koruna. Consistent with the macroeconomic forecast and its assumptions was growth in nominal interest rates.
After the presentation of the October situation report, the Board discussed the new forecast. It agreed that despite the fairly sizeable downward revision of adjusted inflation excluding fuels and the implied interest rate path, the fundamental macroeconomic outlook contained in the July forecast still applied. The economy would continue to go through a phase of buoyant economic growth driven by growth in household consumption and investment. This would lead to increasing tightness in the labour market and generate some inflationary pressures. It was said repeatedly that the combination of rising indirect tax rates, regulated rents, energy prices and food prices would affect headline inflation. However, it was also repeatedly emphasised that given the one-off nature of some of these factors, their inflationary effects would dissipate quite quickly in 2009.
A major item of debate was the labour market situation. Some of the board members emphasised that the forecast still assessed the effect of real wages on inflation as being neutral with a tendency towards slight fluctuations and the existing growth in nominal unit labour costs as being consistent with the inflation target. Other board members, by contrast, stressed that there was tightness in the labour market and that tendencies towards the generation of wage-inflation pressures were emerging as a result of the unemployment rate falling below the NAIRU. Moreover, the non-inflationary effect of real wages was conditional on an optimistic assumption regarding labour productivity growth.
Another item discussed was the anti-inflationary effect of the stable inflation expectations, reflecting the low inflation over the inflation targeting period. It was said repeatedly that in an economy where inflation had long been close to, or below, the inflation target, inflation expectations were well anchored. Inflation, which was being driven by one-off price deregulations and changes to tax rates, should therefore have very limited impacts on inflation expectations. The monetary policy response could thus be more gradual. Against this it was argued that the Czech economy was currently in a different situation than in previous years. In particular, the tightness in the labour market was greatly facilitating the pass-through of one-off shocks to inflation expectations.
During a discussion of the aggregate demand situation the Board agreed that owing to the turbulence and heightened nervousness in the financial markets there was a risk of lower-than-expected growth abroad and, as a result, weaker external demand. As regards domestic demand, it was pointed out that the assumption of the emergence of a positive fiscal impulse in 2009 was based on the absence of any further public spending measures by the government. Further reforms should prevent the fiscal stimulus turning positive in 2009. The opinion was also expressed that the risks of demand-pull inflation were relatively low, as the slight economic slowdown this year -- which would intensify in 2008 -- was already acting against an overheating of the economy.
The exchange rate was repeatedly identified as a potential risk to the forecast. It was said that in a situation of a predicted narrowing of the interest rate differential, a faster-than-forecasted appreciation of the exchange rate could not be ruled out. The uncertain outlook for foreign interest rates was also identified as a risk with regard to the speed and extent of the appreciation. It was also said in the discussion that even an appreciation trend sometimes undergoes corrections and that in recent years there had also been times when the koruna had surprisingly moved in the depreciation direction.
After discussing the situation report, the Board decided by a majority vote to leave the CNB two-week repo rate unchanged at 3.25 percent. Five members voted in favour of this decision, and two members voted for increasing rates by 0.25 percentage point.
(Reporting by Mirka Krufova in Prague) ((prague.newsroom@reuters.com; Reuters Messaging: mirka.krufova.reuters.com@reuters.net; +420 224 190 477))
Keywords: CZECH ECONOMY/CBANK
