The Czech koruna shrugs off dovish comments from the CNB board

Headlines

Currencies: The Czech koruna shrugs off dovish comments from the CNB board
Fixed Income: Key swing voter supports interest rate cuts in Poland

Czech Republic

The Czech koruna shrugged off dovish comments coming from the CNB Board and erased its previous losses yesterday. One domestic supportive factor was the release of a new CNB financial stability report. It showed that domestic banks should be able to withstand an even deeper recession that the Czech economy has been experiencing. Recall that the CNB completed a stress test of domestic banks and concluded that nonperforming loans could rise to 7.9% of all loans by the end of this year, up from the current 3.4%. This scenario assumes a 2.4% drop this year in GDP and a gradual recovery next year (we expect 3.0 % decline this year and 2.0 % growth in 2010). A few small banks could have troubles with capital adequacy under this scenario, requiring a capital injection of Kč 8bn. Under the worst of the CNB’s three scenarios - and one that the CNB does not consider likely – nonperforming loans could rise to 11.2% of all loans at the end of this year. This scenario assumes that the global situation worsens and that the Czech economy contracts by 6.2% this year. The CNB found that the banking system should remain resilient under even the worst of its three scenarios.

The domestic calendar contains the April C/A balance, which might grab some attention. It probably posted a moderate deficit. While the trade balance figure, in accordance with expectations, was good, due in particular to cheaper raw materials, the increased dividend outflow to foreign countries should begin to make itself felt over the course of time. Anyway, we do not expect the current account to show significantly negative values this year, and its full-year deficit might be around 3% of GDP. Latter on however, the koruna will start to watch global markets (the EUR/USD pair and the US equity market particularly).

The Czech yield curve steepened as yields at the short and medium segment of the curve dropped. The positive price action was supported by another comment coming from the CNB Board. Vice governor Holman said they could vote for a rate cut on the next meeting. Let us remind that Holman was among two Board members, who actually voted against rate cut at the last meeting. Thus, Holman’s comments make the outlook for the next CNB meeting (next week) even less certain. Nevertheless, we stick to our scenario that Czech rates will probably remain unchanged this time and the Board will rather wait for the new projection till the summer.

Poland

The Polish zloty strengthened a bit due to relief on European equity markets after the better than expected German ZEW index on Tuesday. Nevertheless the pair was not able to break below 4.50 EUR/PLN and clearly stays in defensive mode. The gains could have been limited by dovish comments from NBP. One of the key swing voters Andrzej Slawinsky said that it is difficult to rule out further rate cuts as the growth is expected to be below potential for several quarters. His comments more or less support our base scenario of 25 bps cut on the next week meeting.

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