The Exchange rate roulette is going to start next week

Well – Czech national bank didn’t disappoint, it defended the reputation of its level of stubbornness competing with my pet bulldog. Even though there is probably no economist today in the Czech Republic who wouldn’t be from CNB and at the same time didn’t sign up for the statement that the interventions against the exchange rate of Czech crown are outdated and useless and should be ended as soon as possible, CNB after the negotiations of its bank board ended, once again stated that – by their vocabulary – “the exchange rate commitment of weak crown and setting of the interest rates on the current level are remaining”. In other words, CNB keeps fighting against the market pressure on the appreciation of the crown and is not letting the exchange rate go under 27 crowns for euro.

It means that the key moment for the Czech economy which is being looked forward in the financial waters with really giant suspense and by which almost three and half year period ends when the Czech economy simulated by basically fixed exchange rate as if the adoption of euro is being pushed to time in another six weeks so after another “big” meeting of the bank board?
Not by far. We are repeating again that the interventions belong among precautions which are not being announced in advance for strategic reasons. The bank board could freely agree today that it is going to agree on it soon. And if CNB committed keeping the exchange rate until the end of the first quarter then it agreed to keep it until midnight of today. And then there’s going to be the weekend. And then the fun can freely begin. Or it doesn’t have to. Literally, the everyday roulette is going to get started since Monday’s morning. Then every day can bring the moment that is being talked about even by old ladies cooking lunches in a school cafeteria. (Without overreacting. 8 the least-likely people asked me about the exchange rate yesterday, people that I was surprised only by hearing the word “exchange rate” coming from their mouths.)

Despite that, we have at our disposal certain key which is clearing up this roulette a little bit. Governor Jiří Rusnok stated on the press conference at the end of the meeting of the bank board: “Starting next month it is possible to leave the exchange rate commitment on any of the meeting of the bank board. We are going to announce the decision immediately so within ten of minutes.” Aha, so the end of the interventions should happen after one of the other meetings of the bank board takes place. Although, they do have “big” meetings once in six months (that is rather falling at the beginning of May) but “small” meetings are happening every Thursday. And next to that bank board can arrange called meeting anytime. Therefore Thursdays are the first in the line of suspects for the jump of the exchange rate.

And then we have one more certainty. Rusnok was talking about “announcing immediately” after the decision. Aha. So the decision is going to be announced. Not that CNB would be playing a dead bug and let the financial market to notice it on its own. That is for the analysts more fun but for the speculators, small savers and companies heart attack inducing and for CNB the more complicated variant. It is guaranteeing that the jump of the exchange rate is going to be bigger than it would have been if CNB took the more diplomatic route instead. Well, that way the gentlemen from the bank board are making this more adrenaline inducing for both them and us.

D-day for the exchange rate of the crown is coming up

We are going to have 31st March exactly one week from today. So the last day of the first quarter. Not very interesting information. It starts getting better when we add another information to it: All members of the bank board of Czech national bank (CNB) are planning to take part in regular meeting of the bank board which is going to be held on Thursday 30th March. And it is known that CNB officially guaranteed to keep holding the exchange rate of the crown in so-called intervention regime for an entire first quarter, meaning it won’t allow it to appreciate under 27 crowns for euro. Not more not less. There are no guarantees for the second quarter which is starting next Saturday.
Surely the individual members of the bank board were heard to say during many occasions how ideal it would be to end with the interventions that time or the other time; altogether all those from CNB who were talking about the exchange rate mentioned the “ideal” later date sometimes during the middle of the year or even later. But each of those statements can be presented as a personal opinion of some member of the bank board if it comes to it. And the truth is that each of the central bankers who were talking about the timing of the interventions knows very well that words are spoken but the action is being decided behind the closed door of the meeting of the entire bank board. Each of them was saying what they were saying mostly to discourage the speculators from giant speculating on the appreciation of the crown. Because the more are the speculators speculating today the more money it costs CNB. Each speculator that got driven off counts because with each speculator who got discouraged is the entire intervention fun getting a bit cheaper. And the best way how to discourage the speculators is to convince them that the speculations are pointless – or that the interventions are going to last for a long time, alternatively that after their ending the crown can get (!) even weaker, not stronger.
The thing is that it is obviously nonsense. If there was a single reason for the crown to really depreciate after the end of the interventions how one of the central bankers was trying to convince us with his poker face, of course, such tendencies would be manifesting already. The Reality is that once the interventions end respectively once the financial market takes a notice they ended significant turbulences of the exchange rate are going to happen on both sides. Only then consequently, the exchange rate is going to stabilize in couple of days and long-term gradual appreciating trend against the euro is going to take place. By the way, if I was a central banker I wouldn’t be announcing the end of the interventions in advance but backward. I would simply end with the interventions one day and let the exchange rate to its fate. And then let’s say a day later I would confirm it officially. This leaving of speculators in doubt about the details would work as another way of how to restrict the speculations against the crown a bit and therefore make this entire thing from CNB’s point of view “cheaper”. So all things considered: we are probably going to have one week of relative peace on the forex market but then we are going to have to be alerted and have eyes of a hawk every day. Then the D-day can come completely whenever.

Can Trump offer more than rumor?

It is good to look at the financial markets from bigger outlook from time to time. When you are observing only individual days you can’t see the wood for the trees. And right now the look from above is appropriate. A look on the stocks is showing that we have seen something since D. Trump has been elected what we wouldn’t believe in a year ago.

Donald Trump has managed to catapult the global stocks upwards without doing anything at all to achieve that. It was enough to say and promise that he is going to lower the taxes and increase the investments. Index S&P 500 in reaction to this vague promise skyrocketed high since Trump has been elected to the office by 13 % until 1st of March. Here it reached its peak and since then it has been slightly dropping. It was similar with German index DAX: It was growing until 16th March. Until then it added 16 %.

What is juicy about it is that since D. Trump’s election to the office up until now we haven’t found out how Trump is planning to fulfil his promises. Instead of talking about how the taxes are going to drop it is being talked about Obamacare or about how Trump’s connection to Russia is going to be investigated. Basically, it is being talked about everything else but about what is important for the financial markets. And it seems that the financial markets got fed up of it.
Trust has vanished basically from one day to another just like when a flock of starlings scatters after a gunshot. On Tuesday the stocks experienced the biggest drop in the USA since the election of Trump and now we are observing resonance of this drop in Europe too.

I think that the stocks are definitely overheated and it’s long-term. But that doesn’t mean that long-term drop of the stock markets started with this. D. Trump can still manage to save everything if he introduces a specific and trustworthy plan. Or he can freely continue staying mysterious like a haunted castle in the Carpathian Mountains if he accompanies it with sufficient hyper-assertiveness and persuasiveness. But so far we have only been hearing from him something in the style of the good old but pretty insufficiently persuasive motto “Everybody is stealing!” And that probably won’t be enough for speculators anymore...

Marketa Sichtarova & Vladimir Pikora

Isn’t there somewhere in the thinking of speculators some logical mistake…?

It truly is a phenomenon this mister Trump. One would say that when the financial markets were good one week or even longer still distressed from the (possible) raising of the interest rates of the American central bank the Fed that was coming up, possibly even from the key Dutch elections that were getting closer he is going to, today, after the meeting of the Fed and after the elections, be paying enough attention to all of it. But no. Eight out of ten last global news of the financially focused news agency Reuters has “Trump” in their title. I don’t remember that it would ever – whenever – as far as is the memory of the current generation trading on the financial markets reaching be one man considered to be that crucial in influencing of the economy of the world. (To consider somebody crucial and be that person who can actually influence something are two completely different things.)

So despite the fact that the investing community is acting today like the recent events have already been forgotten, they are still important to us. Foremost the stocks took the raising of the interest rates by the Fed as a confirmation that the American economy is doing well to which they reacted by jumping to new all-time maximums. Let’s note: Whenever when some significant bank of the world (the Fed, ECB, BoE and others) announces that it is going to keep loosening the monetary politics stocks take it as a great thing because the flow of cheap money will continue and so they grow. And whenever when it is announced that the monetary politics will be getting stricter the stocks take it as a great thing because that must be a sign of growing economy. Isn’t there somewhere in the thinking of speculators some logical mistake…?

The question trembling in between the lines is if the speculators are not perhaps overreacting once again. Actually, we have already answered that question. Considering that the stocks are currently reacting in the same way to entirely contradictory signals it doesn’t seem to be completely rational. Moreover, the Fed was heard to say that even though it is raising the interest rates now and therefore fulfilling the expectations imposed upon it, it is not intending to overdo it with another raising of the interest rates to the future and that the pace of raising is going to be only “gradual”. It is hard to say what we can imagine by that, it can freely mean that only one more raising is going to happen this year at most. So is there even a real point in dealing with the fact that some country even if it’s the world’s biggest economy is going to raise the interest rates during the year by half of percentage point in total? The financial world – based on the scale of the reaction – is obviously thinking that yes even though from our point of view it is like spitting into the Atlantic.

Inflation is getting wings, beware of the exchange rate of the crown!

The inflation rate in the Czech Republic is soaring: When we recount the inflation by the harmonized index of the prices of the European twenty-eight we will get that the Czech inflation is reaching 2.6 % while the inflation in the Eurozone is making only 2.0 %. In other words, it is hard to find an argument why should CNB continue the interventions.

The initial argument for the interventions was fear of the deflation. That surely won’t happen. We need to realize that the interventions are insanely expensive. CNB increased the forex reserves because of them since the beginning of the year by one-quarter and they cost more than 1.5 trillion crowns in total. Every day of the interventions costs on top of that CNB 10 bn. CZK in average this year. There is no reason to be waiting for the end of the interventions until summer.

Moreover, the inflation pressures are starting to show up all over the world. The German Bundesbank together with IFO institute already warned today against the monetary politics of ECB that is too loose. They are probably going to raise its interest rates in the USA next week because of the inflation. CNB was also expecting significantly lower inflation.

CNB is claiming that the domestic production expenses will continue to significantly grow especially because of the influence of growing wages. Together with the renewed growth of the prices of industrial producers in Eurozone, it is going to lead to another raising of the core inflation. That is all true. I can sign under that. But then an interesting part comes that is worth underlining: CNB is claiming in today’s report that it is going to appeal against the inflation since the middle of this year by the prognosis of presumed appreciation of the exchange rate of the crown after leaving the exchange rate commitment. What is it? Appreciation? CNB has been surely claiming until now (in contrary to everybody else) that there is no reason for the appreciation of the exchange rate after the interventions end…

It is completely inconsistent with the claim that CNB has been feeding us for months that the end of the interventions doesn’t have to mean an appreciation of the crown. In other words, CNB is counting with crown’s appreciation deep down but it is trying to convince the market on the outside that crown won’t appreciate. My opinion is that it will appreciate long-term (more than a year). That is also the opinion published in Financial Times where speculators claim that they think that the crown is going to return long-term to the appreciation trajectory that it was on before the CNB started intervening. I think that this argument is completely logical when we realize that we had a surplus of foreign trade last year. The crown is simply significantly undervalued today.

But of course, that doesn’t mean that the crown is going to be stronger than it is today week after the interventions are ended. I bet on the fickleness of the exchange rate that nobody has seen in the Czech Republic ever before. So much money was bet on the appreciation of the crown by speculators that once they start withdrawing they will easily move the crown by tens of hellers in a couple of minutes. The exchange rate can jump up and down a couple of times a day and always significantly.

Vladimir Pikora, Marketa Sichtarova