CZ: CNB in line with expectations

At its meeting today, the CNB left interest rates unchanged. This marks the first such decision since the end of last year, following rate cuts at the previous eight meetings. The decision aligns with both our expectations and those of the market.

We see two reasons for today's decision. First, rates are already relatively close to both actual and expected inflation, reducing the need for further trend reductions. Second, inflationary pressures have intensified in recent months. In November, inflation reached 2.8%, a heightened level close to the upper limit of the target tolerance band. Moreover, inflation could exceed the 3% threshold in December. Although it will be also influenced by the base effect, this raises the risk of elevated inflationary pressures spilling over into next year, making the CNB's caution in this regard sensible.

Overall, we anticipate only very gradual rate reductions towards the 3% level over the next two years. In our forecast, we expect the next rate cut at the May meeting, though an earlier reduction (in February or March) cannot be ruled out if some anti-inflationary risks materialize, such as the continued weakness of the German economy. The market currently expects the next rate cut in February.

The main reason behind our rate forecast is the presence of several pro-inflationary factorsongoing recovery in household demand, relatively strong wage growth, low unemployment, and expansionary fiscal policythat will carry into early next year, prompting the CNB to remain cautious. Overall, we expect three rate cuts next year, with the key rate projected at 3.25% by the end of 2025. We see risks as both sided.