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