CZK strengthens when inflation surpasses CNB estimate

After quite some time, Czech economic data including the inflation figures started surprising on the upside. This wasn’t expected neither by markets, nor by the CNB. Subsequently, the Bank Board is facing a situation, where the inflation rate is higher than it has been pencilled into the CNB projection.

Since the introduction of the intervention regime, the Czech koruna investors and traders have monitored closely the development of Czech macroeconomic indicators in relation to expectations and have looked closely how the Bank Board responded to these developments. Therefore, we examined how the koruna has behaved before and after the CNB meetings since the introduction of the EUR/CZK 27.0 floor. Our stylized facts show that when the macro (inflation) data positively surprised before the CNB meeting, the koruna tended to strengthen slightly even after it.

To be more specific about our stylized facts: we focused on the behaviour of the EUR/CZK currency pair over a period of +/‐15 days before and after the CNB meeting, starting from the introduction of the new intervention regime in November 2013. These indicate that the CNB meetings are undoubtedly important market movers for the koruna, when decisions of the Bank Board often led either to the acceleration of the existing trend or fundamental change (see charts on the next page). Moreover, it shows that the rhetoric of the CNB, whether communicated via Governor Singer’s press conference, the minutes of the Board’s meeting or through the projection data, has market implications.

Nonetheless, we concentrated particularly on situations where the actual (year‐on‐year) inflation figure was higher (as it was on March 9) than it had been expected by the CNB in its projection.

Such moments have only occurred twice during the recent intervention (monetary) regime, specifically before the meeting of the Bank Board on February 2nd of 2014 (the inflation figures for December 2013 were available) and before the meeting on September 25th last year. In both cases, the koruna strengthened (before) and after the CNB meeting..

Obviously, this does not mean that such a scenario must inevitably occur in the Czech forex market after Tuesday’s meeting (March 26). Nevertheless, this ‘historical experience’ of the behaviour of the koruna after these meetings provides at least some guidance. Moreover, the CNB Bank Board might be satisfied by a number of other soft and hard data which have also been bringing positive surprises. After all, these are also depicted in our Czech Macro Surprise Index which by‐the‐way has reached record highs since the beginning of the intervention regime (see the chart).

Hence, in our opinion the koruna may admittedly receive verbal assurances of the Bank Board that the CNB is ready to defend the EUR/CZK 27.0 floor, but nonetheless the related macro‐economic comments send an overall positive message to the market. Consequently, such outcome of the CNB meeting should not prevent the Czech koruna from further strengthening, which might be driven not only by stronger data, but by positive spill‐over effects from the ECB quantitative easing too.