The Czech economy has been in a recession since the last quarter of 2011. Austerity measures in the majority of EMU countries hampering external demand for Czech export goods, and even the domestic fiscal consolidation, which has resulted in lower consumption, have been the main reasons for the contraction of the Czech economy. The current drop in consumer demand is the deepest in history and thus presents the biggest negative surprise in this year’s economic development. With respect to our previous forecast, we have revised down the growth outlook for this year and next year by 0.3pp, respectively, mainly due to the deterioration in household consumption.

2013: Slow exit from recession

The outlook for the coming quarters calls for the Czech economy to stay on the edge of a recession even at the beginning of 2013. Industrial production and construction are not performing well, and even fixed investment is expected to remain depressed. We expect household consumption to drop by a deep 2.6% this year. Only external trade remains the driver of the Czech economy, as real net exports should post a 2.8pp contribution to GDP growth.

The Czech economy is expected to drop by 0.8% yoy in 2012. We see a marginal improvement next year with the GDP growing by 0.3%. The sources of GDP growth will change, however. Weakening external demand will be reflected in net exports’ contribution to GDP dynamics being virtually zero. On the other hand, we look for a mild recovery in domestic demand, with household consumption supported by the expected deceleration in inflation and a lower pace of savings growth. Moreover, the current political clashes may ease the fiscal restrictions.

The recession in the Czech economy is consistent with another increase in the unemployment rate. The rate of registered unemployment (seasonally adjusted) started to increase as early as May. At end-2012, we estimate the non-seasonally adjusted rate of unemployment to climb above 9%. Deterioration in the labour market will continue even during next year, when the rate of unemployment may reach 10%. Following this year’s decline in real wages by 0.4%, we expect them to stay flat in 2013.

Inflation is and will continue to be influenced by cost factors. On the other hand, there are no demand-pull inflationary pressures and we see little prospect for such pressures emerging in the foreseeable future. With wage costs rising very slowly, we do not expect any inflationary pressures coming from the labour market either. Adjusted inflation should therefore remain close to zero this year while average consumer inflation should be 3.3%. Next year, prices could be 2.5% higher (if the hike by 1pp in both VAT rates is approved).

We expect another monetary policy stimulus. The Czech National Bank cut its key rate 0.25bp to 0.25% at its September meeting. The next cut may take place as early as Thursday. However, we cannot rule out the possibility that central bankers will wait for Q3 GDP data. With interest rates approaching zero, central bankers have started thinking about additional tools that could be used to provide a further monetary policy stimulus if required. Given the small and open nature of the Czech economy, its healthy banking sector and small portion of foreign currency loans, FX intervention is the most effective tool.

The crown becomes a CNB monetary policy tool as the room for rate cuts is almost exhausted. This could lead to an increased risk of a higher volatility of the EUR/CZK exchange rate in the coming weeks. We believe the CNB could turn to a (rather non-sterilised) intervention should the crown appreciate sharply and quickly beyond September’s 12-month peak of 24.40 CZK/EUR and should the recession in the Czech economy deepen further (hand-in-hand with growing deflationary tendencies). We are moderately optimistic on the outlook for the Czech economy in 2013, expecting a recovery from recession and an improvement in the current account.

High uncertainty drags on Czech fiscal position. We still look for a 2012 public finance deficit of 4.9% of GDP (ESA95) due to the poor economic performance and the church property restitution law. Next year, we expect the deficit to reach 3.2% of GDP. The possible fall of the government and divergence from the consolidation path is the greatest risk for Czech public finances.

The main risks to our macroeconomic forecast lay no longer abroad only. However, the possible deeper and longer (with respect to expectations) recession in the EMU, and a spreading and escalating debt crisis, have remained the biggest risks. Moreover, we see domestic risks stemming from the unstable political environment, which hampers households’ and firms’ expectations with a potential to further depress domestic demand.

Macroeconomic forecast 2011 2012 2013
GDP (real growth, yoy in %) 1.7 -0.8 0.3
Household consumption (real growth, yoy in %) -0.6 -2.6 0.7
Fixed investment (real growth, yoy in %) -0.9 -2.0 -1.8
External trade (CZK bn) 191.1 298.7 305.6
Industrial production (real growth, yoy) 6.7 0.1 -1.8
Retail sales (real growth, yoy in %) 2.0 -1.1 -0.6
Wages (nominal growth, yoy in %) 2.4 2.9 2.5
Unemployment rate (MPSV*, in %) 8.5 8.7 9.5
Inflation (yoy in %) 1.9 3.3 2.5
Taxes (contribution to yoy inflation) 0.0 1.2 0.9
Adjusted inflation (yoy in %) -0.2 -0.2 0.1
Food prices (yoy in %) 4.6 3.3 3.1
Fuel prices (yoy in %) 9.8 7.0 2.9
Regulated prices and taxes (yoy in %) 4.8 7.0 4.2
3M PRIBOR (average) 1.2 1.0 0.5
2W Repo (average) 0.75 0.54 0.10
CZK/EUR (average) 24.6 25.1 24.6

* Ministry of Labour and Social Affairs methodology

Source: Economic & Strategy Research, Komerční banka

Jan Vejmělek
Chief Economist, Komerční banka
Tel.: +420 222 008 568