The Life with FX Commitment: Midterm Evaluation and Outlook

Transcription

1 LAGV The Life with FX Commitment: Midterm Evaluation and Outlook Lubomír Lízal, Ph.D. LAGV Aix-en-Provence June 13, 216

2 Outline 1. Situation of the Czech economy in Passive monetary policy vs. (un)conventional tools 3. Easing the monetary conditions using FX 4. Reflection and mid-term evaluation 5. Summary and outlook 2

3 Outline 1. Situation of the Czech economy in Passive monetary policy vs. (un)conventional tools 3. Easing the monetary conditions using FX 4. Reflection and mid-term evaluation 5. Summary and outlook 3

4 Situation of the Czech economy in 213: Inflation actual vs. targets (y/y; %) Inflation was decreasing and was at the lower boundary of the tolerance band around the CNB s target (below 1%) at the end of 213. In spite of VAT and other tax increases. MP inflation was around zero and also showed a decreasing tendency. 4

5 Situation of the Czech economy in 213: Core inflation tradables and non-tradables (y/y; %) Adjusted inflation (except fuels) Prices of non-tradables (except administered prices) Korigovaná inflace bez pohonných hmot (PH) Neobchodovatelné-ostatní Obchodovatelné-ostatní Prices of other tradables bez (except PH food and fuels) /94 1/97 1/ 1/3 1/6 1/9 1/12 Core inflation negative since 29. For the first time in modern history the growth of prices of nontradable goods (and services) stopped. This is very unusual, especially for a converging economy. Partly, this was caused by a decline in prices of communication services. But primarily, it reflected weak demand and slow wage growth. 5

6 Situation of the Czech economy in 213: Structure of GDP growth (y/y; p.p.) I/9 I/1 I/11 I/12 I/13 Household consumption Gross fixed capital formation Change in inventories Net exports Government consumption NPISH expenditure Czech economy back in recession since the beginning of 212. Net exports had a positive contribution only in 2Q213. Fixed investments were negative, change in inventories fluctuated. The drop in consumption has stopped. 6

7 Situation in November 213 Inflation Report IV/213: Interest rate forecast Consistent with the forecast was a significant decline in market interest rates well below zero. (3M PRIBOR in %) IV/11 I/12 II III IV I/13 II III IV I/14 II III IV I/15 II 9% 7% 5% 3% confidence interval Consistent with the forecast was a significant decline in market interest rates well below zero, followed by a rise in rates above the current levels only at the end of 214. But 2W repo rate lowered to.5% on November 1, 212! Given the zero lower bound (ZLB) on interest rates, this pointed to a significant need to ease monetary policy using other instruments. 7

8 Outline 1. Situation of the Czech economy in Passive monetary policy vs. (un)conventional tools 3. Easing the monetary conditions using FX 4. Reflection and mid-term evaluation 5. Summary and outlook 8

9 (Un)conventional monetary policy tools Central banks faced the limits of the standard monetary policy instrument due to long-lasting stagnation. Turned their attention to various unconventional MP measures negative interest rates, liquidity provision (QE), FX interventions. Most economies have been hit by liquidity crisis and subsequent credit crunch, but Czech financial system has abundance of liquidity. Ratio of deposits to loans above EU average, total deposits exceed total loans. Excess liquidity absorbed by the CNB using repo tenders. Liquidity ratios over time (%; QA = quick assets) Ratio of deposits to loans granted in selected EU countries (%; end of 211; deposits/loans to residents) QA / assets 23 Client deposits / loans (rhs) 11 QA / assets (trend) 15 Client deposits / loans (trend, rhs) 2 1 3/1 12/1 9/11 6/12 3/13 12/ CZSK PLROBGHU SI LT EE LV BEAT FR IT UKSEDK EAEU Source: CNB Inflation Reports; ECB

10 Monetary policy rates of selected central banks Euro area Switzerland Denmark Sweden ECB s deposit facility rate negative since June, M Euribor negative since April, 215. Negative interest rates have recently started to appear in economies comparable to the Czech Republic later. 1

11 ECB shadow policy rates Source: Benecká, Komárek, Novotný (215): Shadow policy rates alternative quantification of unconventional monetary policy Estimation methods of shadow rates could differ but generally show much lower values compared to the official policy rate. Changes in shadow rates are important for real interest rate differential assessment 11

12 3M Euribor Consensus Forecast (differences in p.p.) 3M EURIBOR (in %) I/13 II III IV I/14 II III IV I/15 II III IV I/16 II III IV -.5 3M Euribor expected to stay negative in the foreseeable future due to practically nonexistent inflationary pressures. Impact of positive interest rate differential vis-à-vis the euro on the koruna exchange rate. 12

13 Negative rate as (un)conventional monetary policy tool In 28, the CNB introduced liquidity-providing repo operations, but they were used very rarely. Common wisdom in 213: ZLB is almost binding Experience with negative deposit interest rates is still very limited, the consequences in general very unclear. Limited use in 213, fear of ZLB Negative rate does not solve what-next issue if limit low reached Also potential legal complications with negative rate (penalty interest). Therefore, FX interventions selected by the Board as the most appropriate MP tool when interest rates hit zero. 2W repo rate lowered to.5 % on November 1, 212. Monetary policy rates since the start of the financial turbulence (%) /7 3/8 3/9 3/1 3/11 3/12 3/13 3/14 Source: CNB Euro area US CZ 13

14 The Bank Board s decision of November 213 The Board decided to start using the exchange rate as an additional instrument for easing the monetary conditions, stating that: The CNB will intervene on the FX market to weaken the koruna so that the exchange rate is close to CZK 27/EUR. The exchange rate level was chosen to avoid deflation or long-term undershooting of the inflation target and to speed up the return to the situation in which the CNB will be able to use its standard instrument, i.e. interest rates. The exchange rate commitment is one-sided. This means that the CNB will prevent excessive appreciation of the koruna exchange rate below CZK 27/EUR. On the weaker side of the CZK 27/EUR level, the CNB is allowing the exchange rate to move according to supply and demand on the FX market. 14

15 Outline 1. Situation of the Czech economy in Passive monetary policy vs. (un)conventional tools 3. Easing the monetary conditions using FX 4. Reflection and mid-term evaluation 5. Summary and outlook 15

16 Interest rate and exchange rate Development of 2W REPO rate (in %) and CZK/EUR exchange rate CZK/EUR 2W Repo (right axis) Monetary policy easing & exchange rate depreciation go hand in hand. Impossible trinity: cannot have independent monetary policy, stable exchange rate, and free movement of capital at the same time! 16

17 CZK/EUR rate and the CNB commitment / / / Foreign exchange interventions (right axis, EUR bil.) CZK/EUR (left axis) Exchange rate commitment (left axis) After the CNB s policy announcement, koruna reached 27 CZK/EUR quickly, and has been moving at somewhat weaker levels until the middle of 215. The exchange rate volatility decreased significantly (both the actual one, and implied by futures prices), except for the beginning of

18 CNB s FX operations and the exchange rate /99 1/ 1/1 1/2 1/3 1/4 1/5 1/6 1/7 1/8 1/9 1/1 1/11 1/12 1/13 1/14 1/15 1/16 Foreign exchange interventions (right axis, EUR bil.) CZK/EUR (left axis) Client operations (right axis, EUR bil.) Exchange rate commitment (left axis) Actual interventions were quite massive, but took place only for a few days after the policy decision of the CNB. Client operations amounted to EUR 8.8 bn. since the beginning of 213 more than half of the total intervention amount. 18

19 Total reserves in USD mil. Ranking IT countries: Total Reserves [mil. USD] South Korea South Korea South Korea Brazil Brazil Mexico Brazil South Korea United Kingdom Brazil Thailand Mexico Canada Thailand Mexico Thailand Poland Norway Poland Indonesia Israel United Kingdom Turkey Turkey Australia Australia Indonesia Poland Sweden Poland Israel United Kingdom Chile Canada United Kingdom Israel Czech Republic Czech Republic Canada Canada Colombia 8 8 Israel Norway Philippines New Zealand Sweden Hungary Norway Chile Sweden Czech Rep Hungary Czech Republic Peru Colombia Romania Sweden South Africa Australia Czech Republic Philippines Philippines Australia Peru South Africa Colombia New Zealand Peru South Africa Iceland 1 46 Chile Hungary Colombia Chile New Zealand Romania Uruguay 8 29 Uruguay Guatemala New Zealand Iceland Guatemala 7 64 Albania Iceland 4 1 Armenia 2 4 Albania 2 64 Armenia In order to keep koruna above the CZK 27/EUR floor, the CNB had to start intervening again in July 215. Czech Republic still stays close to its peers both in absolute 19

20 Reserves to GDP Ranking IT countries: Reserves-to-GDP Czech Republic 19.8% Thailand 3.2% Thailand 51.4% Thailand 4.5% Israel 19.4% South Korea 26.% Hungary 34.1% Uruguay 31.8% Chile 19.4% Czech Republic 23.8% South Korea 29.9% Czech Rep % Poland 15.8% Israel 2.2% Iceland 29.7% Hungary 3.6% South Korea 15.2% Peru 18.3% Israel 29.4% Peru 3.2% Colombia 7.7% Norway 16.8% Uruguay 26.6% Israel 28.3% New Zealand 7.6% Chile 16.1% Peru 26.4% Czech Republic 26.3% Brazil 5.9% Hungary 15.4% Romania 24.3% Philippines 25.3% Sweden 5.5% Philippines 14.4% Armenia 23.2% South Korea 25.2% Australia 5.2% Poland 14.% Philippines 23.% Iceland 24.% Canada 4.2% Colombia 11.4% Czech Republic 2.% Romania 19.7% United Kingdom 2.1% Mexico 8.3% Albania 19.1% Albania 18.9% Brazil 7.8% Poland 17.7% Poland 17.6% Iceland 7.6% Chile 14.7% Chile 15.7% New Zealand 6.8% Brazil 14.2% Brazil 15.4% Sweden 5.8% Guatemala 13.2% Mexico 14.9% South Africa 5.7% New Zealand 12.9% Armenia 13.7% Australia 5.5% Norway 12.7% Turkey 13.4% Canada 3.4% South Africa 11.8% Norway 13.% United Kingdom 1.7% Turkey 11.5% South Africa 12.6% Mexico 11.1% Colombia 12.3% Indonesia 11.% Indonesia 12.2% Colombia 1.6% Guatemala 12.% Sweden 1.% Sweden 1.1% Australia 4.% New Zealand 8.% Canada 4.% Canada 4.2% United Kingdom 2.4% Australia 3.5% and relative-to-gdp terms. Common wisdom: United Kingdom 3.2% costs of having too much reserves are substantially lower than costs of not having these 2

21 Outline 1. Situation of the Czech economy in Passive monetary policy vs. (un)conventional tools 3. Easing the monetary conditions using FX 4. Reflection and mid-term evaluation 5. Summary and outlook 21

22 Development since November 213 Available on Annual percentage changes Q1 215 Available on Gross domestic product (s.a.) II/ I/15 4. I/16 3. Consumer price index 9/ /15.5 5/16.1 General unemployment rate (in %, s.a.) 9/ / / Average nominal wage II/ I/ I/ Number of vacancies 9/13 39,4 4/15 83,7 5/16 129,54 Gross operating surplus of nonfinancial corporations II/ I/ IV/ Insufficient demand as a limit of production (in %) IV/ / / Composite confidence indicator (index) 1/ / / Almost all key macroeconomic indicators visibly changed in positive direction i.e. in accordance with the CNB s predictions. Inflation is lower compared to November 213, but core inflation returned to positive values in 214 after five years of declining prices. 22

23 Inflation development Structure of inflation (annual percentage changes; contributions in percentage points) 2 1 Adjusted inflation excluding fuels (annual percentage changes) / / Adjusted inflation excluding fuels and food Administered prices Indirect taxes in non-administered prices Food prices (including alcoholic beverages and tobacco) Fuel prices Annual consumer price inflation (in per cent) -4 1/11 1/12 1/13 1/14 1/15 The decline in fuel prices and administered prices was outweighed by adjusted inflation excluding fuels and by tax changes; food prices had a neutral effect on average in 215. Core inflation returned to positive figures in 214 after many years of decline. Now growth in both components. Observed development consistent with predicted effects of exchange rate weakening. -3 Adjusted inflation (except fuels) Prices of non-tradables (except administered prices) Prices of other tradables (except food and fuels) 23

24 GDP growth change decomposition 2 1,1 Monetary policy + sentiment (+1 pp.) Fiscal impuls (+1.2 pp.) Foreign demand (+.5 pp.),2 Growth in 214 (+2.%) -,7 Growth in 213 (-.7%) The Czech Republic among the 1 worst-performing countries of the EU up to 213: GDP -1.3% in 2Q 213. In 214: GDP +2%, and the Czech Republic moved among the top 1 EU members. The change in dynamics of the Czech GDP reached 2.7 pp. in 214 (from -.7% in 213 to 2.% in 214). Foreign demand + fiscal impulse explain 1.7 pp., the remaining 1 pp. can be attributed to the monetary policy action combined with improved sentiment of businesses and households. 24

25 Euro area Consensus Forecast in October 213 and February 216 (differences in p.p.) Effective GDP in the euro area (annual % change) (differences in p.p.) Effective CPI in the euro area (y-o-y in %) Differences CF February 216 CF October 213 I/13 II III IV I/14 II III IV I/15 II III IV I/16 II III IV I/13 II III IV I/14 II III IV I/15 II III IV I/16 II III IV (differences in p.p.) Effective PPI in the euro area (y-o-y in %) (differences in p.p.) 3M EURIBOR (in %) I/13 II III IV I/14 II III IV I/15 II III IV I/16 II III IV I/13 II III IV I/14 II III IV I/15 II III IV I/16 II III IV -.5 (differences in %) EUR/USD exchange rate (USD/EUR) (differences in %) Price of Brent crude oil (USD/barrel) I/13 II III IV I/14 II III IV I/15 II III IV I/16 II III IV I/13 II III IV I/14 II III IV I/15 II III IV I/16 II III IV Strong disinflationary pressures imported from the euro area

26 Monetary conditions in the Czech Republic Source: CNB IR II/215 Basic RMCI version (positive values refer to easy monetary conditions and negative values to tight monetary conditions; source: CNB, CNB calculation) ,4 I/4 I/5 I/6 I/7 I/8 I/9 I/1 I/11 I/12 I/13 I/14 I/15 GDP decrease Interest rate component Basic RMCI Real monetary conditions index = 3M PRIBOR market rate adjusted for inflation expectations + exchange rate component. Describes the aggregate monetary policy stance. The monetary conditions have been very accommodative since the end of 213, albeit rather less so in 215 as a result of a fall in inflation expectations.,3,2,1, -,1 -,2 -,3 Exchange rate component CZK/EUR 26

27 Outline 1. Situation of the Czech economy in Passive monetary policy vs. (un)conventional tools 3. Easing the monetary conditions using FX 4. Reflection and mid-term evaluation 5. Summary and outlook BEGGAR THY NEIGHBOUR? 27

28 Real effective exchange rate (27 = 1%) Czech koruna Hungarian forint Swiss franc Polish zloty Swiss FX commitment 27 average = US liquidity crisis Fall of Lehman Brothers Czech FX commitment 5 1/99 1/ 1/1 1/2 1/3 1/4 1/5 1/6 1/7 1/8 1/9 1/1 1/11 1/12 1/13 1/14 1/15 1/16 Source: BIS SNB trying to tame the strong appreciation of Swiss franc after the 28 crisis. Real effective exchange rate of CZK appreciated by 1% during the crisis period, which is equivalent to permanent tightening of monetary policy. Counterbalanced by interest rate decreases, but ZLB reached. Verbal interventions only have limited effects and work only for limited time. Currencies of peers depreciated even more in REER and are 15% weaker than in 27 28

29 Monetary conditions: What influences investment return? Investment decision-making: Profitability of a project described by the net present value. NPV takes into account future cash flows and discounts them using opportunity interest rate, i.e. the expected yield of projects of the same riskiness. Expected real interest rate has the following components: 1. Expected nominal interest rate 2. Expected inflation rate (with the minus sign) 1. How to influence the (expected) interest? By cutting the (nominal) interest rates. Easy, if interest rates positive and non-zero. If already at the zero lower bound, it is possible to announce interest rate commitment and pledge that the rates will stay at a given low level for a given time period (e.g. forward guidance by Fed). 29

30 How to deliver monetary easing? 2. How to influence the expected inflation? Inflation targeting policy In standard times, nominal interest rates are able to influence expected inflation. Problems arise at the zero lower bound. Alternative tools: Un-conventional tools such as quantitative easing By changing the structure of financial assets in the economy, central banks are able to influence long-term interest rates and indirectly also expected inflation in the future (Fed, BoE, ECB). Direct weakening of currency The exchange rate component can be used at any time, central bank can intervene against its own currency without limits. Possible to announce FX commitment pledge to not allow the strengthening of the currency above a give level for a given time period (CNB). The CNB s FX commitment increases inflation expectations, decreases real interest rates, delivers easing of monetary conditions, and therefore encourages consumption of durable goods and increases investment activity. 3

31 Trade balance surplus and investment (CZK bn.) cross-border concept national concept investment (right axis; inverted) About 6-8% of investment is imported. Yearly nominal investments between 28 and 213 decreased by 14 bn. CZK. Net exports therefore had to improve by about bn. CZK (= 14*.6-14*.85) solely as a statistical consequence. Total trade balance surplus in 213 was 17 bn. CZK. Perceived good results of foreign trade caused appreciation pressures. Already in 1H 214, trade balance surplus +27 bn. CZK and investment +3 bn. CZK compared to 1H 213 -> pattern broken! 31

32 Exports and imports (y/y in %; pp; constant prices; seasonally adjusted data) I/11 I/12 I/13 I/14 I/15-6 Exports of goods and services Imports of goods and services Diff between export growth and import growth (in pp; rhs) As a consequence of increase in investments due to substantially lowered real interest rate weaker CZK led to larger increase in imports than exports opposite effect on net exports than beggar thy neighbour policy 32

33 Outline 1. Situation of the Czech economy in Passive monetary policy vs. (un)conventional tools 3. Easing the monetary conditions using FX 4. Reflection and mid-term evaluation 5. Summary and outlook 33

34 Forecasts of inflation, interest rates, and GDP: Then (IR IV/213) and now (IR II/216) Headline inflation forecast Headline inflation will increase, hitting the 2% target at the monetary policy horizon and then moving slightly above it (year on year in %) Inflation target 9% 7% 5% 3% confidence interval IR IV/213 Monetary policy horizon II/14 III IV I/15 II III IV I/16 II III IV I/17 II III IV Monetary policy-relevant inflation forecast Monetary policy-relevant inflation will break free from zero at the end of this year and reach the 2% target at the monetary policy horizon (year on year in %) Inflation target Monetary policy horizon II/14 III IV I/15 II III IV I/16 II III IV I/17 II III IV 9% 7% 5% 3% confidence interval Interest rate forecast The forecast expects market interest rates to be flat at their current very low level until mid-217; consistent with the forecast is an increase in rates thereafter (3M PRIBOR in %) 3 2 GDP growth forecast GDP will slow markedly this year due mainly to a drop in government investment financed from EU funds, and will pick up again in 217 (annual percentage changes; seasonally adjusted) % 7% 5% 3% confidence interval IR IV/ II/14 III IV I/15 II III IV I/16 II III IV I/17 II III IV 9% 7% 5% 3% confidence interval -2 II/14 III IV I/15 II III IV I/16 II III IV I/17 II III IV Does it mean that the exchange rate tool doesn t influence prices? 34

35 Real economy: Beveridge curve Improvement in the labor market situation indicated by a shift of the Beveridge curve in the north-western direction, which corresponds with the position in the cycle. As a consequence, core inflation should gradually increase, similarly to the situation in

36 ECB shadow policy rates once again Source: Benecká, Komárek, Novotný (215): Shadow policy rates alternative quantification of unconventional monetary policy, Global Economic Outlook 1/215, CNB Estimation methods of shadow rates differ but generally show much lower values compared to the official policy rate. Strongly negative shadow rates imply an even larger interest rate differential between the euro area and Czech Republic FX commitment acts also as a transmission channel (and guarantee the avoidance of the opposite of Cook&Devereux appreciation story) 36

37 Midterm evaluation and assessment New wisdom about ZLB: moderately negative deposit rates possible seem to be a useful MP instrument for a short time MP space is larger than previously assumed but likely country specific but all other questions and risks associated with (high) negative rates remain With the expected development of the euro area interest rates and the ECB s use of unconventional monetary policy tools, the interest rate differential vis-à-vis the euro can stay sizeable by the time the CNB returns to conventional monetary policy. FX commitment in case of ZLB has the power to increase inflation and is not the beggar thy neighbour policy and mitigates the effect of large interest rate differential while in effect Negative interest rates, on the other hand, decrease the differential Useful tool in current world Conventional monetary policy can utilize the additional space if needed Use depends on particular conditions and time, i.e., country and condition specific use 37

38 The latest CNB s monetary policy decision On May 5, the Bank Board decided to continue using the exchange rate as an additional instrument for easing the monetary conditions and confirmed the CNB s commitment to intervene on the foreign exchange market if needed to weaken the koruna so that the exchange rate of the koruna is kept close to CZK 27 to the euro. In line with this, the Czech National Bank still stands ready to intervene automatically, i.e. without the need for an additional decision of the Bank Board, and without any time or volume limits. The asymmetric nature of this exchange rate commitment, i.e. the willingness only to intervene against appreciation of the koruna below the announced level, is unchanged. According to the forecast, the return to conventional monetary policy will not result in the exchange rate appreciating sharply to the slightly overvalued level recorded before the CNB started intervening, among other things because the weaker exchange rate of the koruna is in the meantime passing through to the price level and other nominal variables. 38

39 The latest CNB s monetary policy decision The Bank Board - stated that any exchange rate appreciation following the discontinuation of the exchange rate commitment would be dampened, among other things, by hedging of exchange rate risk by exporters during the existence of the commitment, by the closing of koruna positions by financial investors and by possible CNB interventions to mitigate exchange rate volatility. - assessed the risks to the forecast at the monetary policy horizon as being slightly anti-inflationary. Producer price inflation in the euro area is a significant risk. - points out that the CNB stands ready to shift the exchange rate commitment to a weaker level if there were to be a systematic decrease in inflation expectations manifesting itself in nominal variables, especially wages. - considers it likely that the commitment will be discontinued in mid again also discussed the possibility of introducing negative interest rates. 39

40 Thank you for your attention Lubomír Lízal, Ph.D. member of the CNB Board 4