Czech Central Bank May Cut Rates on Koruna Strength, Tuma Says

Source:www.bloomberg.com

July 22 (Bloomberg) -- The Czech central bank may cut interest rates as soon as next month because the koruna's record strength threatens to ``damage'' the economy, central bank Governor Zdenek Tuma said.

The koruna, the world's best-performing currency, has gained 23 percent against the euro and 41 percent against the dollar in the past year. The strength, which caps inflation by curbing import costs, is ``steamrollering'' over inflationary influences, including fuel and wages, Tuma said in a Prague interview today.

Policy makers are concerned the koruna is rising beyond what the economy can sustain as exporters are complaining the currency's advances eat into revenue and may lead to job cuts and plant shutdowns. The seven-member central bank board is turning its focus from keeping borrowing costs unchanged or raising them to mulling a rate cut to compensate for the koruna gains.

``The debate we had at the last monetary session, whether to keep or raise interest rates, is over at this point -- now there will be a debate whether to leave or lower rates,'' Tuma said. ``Should the koruna remain at the current levels or further appreciate, I can't rule out that there would be a debate on the table over how much to cut.''

The koruna was trading at 23.024 per euro as of 1:33 p.m. in Prague, compared with a record 22.877 yesterday.

Central bankers will next meet on Aug. 7 to set interest rates, based on a new quarterly forecast that still is being prepared.

EU's Lowest Rate

Even after eight increases in the past three years, the Czech Republic's two-week repurchase rate of 3.75 percent is lower than the 4.25 percent benchmark rate in the euro region.

The inflation rate in June fell to 6.7 percent from May's 6.8 percent, exceeding the central bank's 3 percent target for a ninth month.

Discounting the koruna effect, monetary policy makers continue to be ``convinced'' that inflation will decelerate toward the target at the end of this year and at the beginning of 2009 after this year's changes to indirect taxes and regulated prices drop out of the annual index, Tuma said.

Now there is a threat the koruna will squeeze inflation to below the bank's goal of 3 percent plus or minus a percentage point, the governor said.

``With what the koruna has performed in the recent months, I dare say that it can't be excluded that we would be undershooting our inflation target in the crucial horizon of four to six quarters,'' he said. ``It's obvious that no economy can withstand such a marked currency strengthening without being damaged.''

Slowdown Ahead

The gains will probably cause a more significant slowdown in economic growth than the central bank's current 4.7 percent forecast for this year, Tuma said. Gross domestic product grew 6.6 percent in 2007.

The central bank, which last sold the koruna on the market in an effort to weaken it in 2002, is still wary to use that ``tricky'' tool again, Tuma said.

``I cannot rule out completely and forever'' that the central bank would be selling the koruna, ``but from the policy we have followed in the last five to six years, it's clear that we don't rush to a policy of intervention and that it is a last resort to us,'' he said.

He declined to elaborate on what a ``last-resort'' situation would be.