Monday, November 10, 2008
The central bank, which anticipated an October rate of 6.4 percent, expects inflation to drop to its mid-point target of 3 percent sometime next year. Czech monetary policy makers only a week ago reduced the key interest rate by three-quarters of a point to 2.75 percent, and this was the largest reduction since 2004, as evidence mounts that both inflation and economic growth are cooling rapidly. On the EU HICP methodology, Czech prices peaked in July, and have since been falling. This process now needs closely watching.
Thursday, November 06, 2008
Sharp Rate Reduction
The Prague-based Ceska Narodni Banka reduced the two-week repurchase rate by three-quarters of a percentage point to 2.75 percent, its lowest level since June 2007. The size of the cut is the largest since at least 2004.
The koruna fell to 24.953 per euro immediately after the decision, and this was its lowest level since Oct. 27. It was trading at 24.868 at 12:37 p.m. in Prague, compared with 24.550 late yesterday. The koruna has risen 11 percent against the euro over the last 12 months, and obviously Czech exporters have been feeling the pinch. This was the second time this year the bank has lowered rates (there was a quarter point reduction in August) as economic growth in both the CR and its key trading partners has fallen back rapidly.
Exports Weaken In September
Czech exports exceeded imports by 10.9 billion koruna ($581 million) in September, well short of the 14 billion-koruna surplus many economist had been expecting. On a working day adjusted (but not price corrected) basis exports were down 1.2% year on year in September (the third month of y-o-y decline, there were 3 working days more in September 2008 than there were in September 2007), while imports were up 6.5%.
Without the working day correction exports at current prices grew by 5.1% and imports by 6.8%, year-on-year. Month on month, seasonally adjusted exports were up by 1.8% over August and imports by 9.8%.
Year-on-year, exports and imports at current prices were up by 5.1% and 6.8% respectively. Imports grew faster than exports for the first time since February 2008. External trade turnover amounting to CZK 436.6 billion was the second highest (after April) in this year. September 2008 was by three working days longer than September 2007. Due to appreciation of the koruna external trade grew more rapidly in euros (exports +18.3%, imports +20.3%) and US dollars (exports +22.4%, imports +24.5%) than in korunas.
Flagging Retail Sales
And if we want additional evidence on the domestic slowdown in the Czech Reoublic then we need look no further than August retail sales, which fell the most in six years as inflation damped consumer spending and two fewer working days than a year ago cut shopping hours. Inflation adjusted sales (excluding automotive sales) were down 2.6 percent, compared with a 3.4 percent increase in July, according to data from the Czech Statistical Office earlier this week. Working day adjusted sales were down 0.3 percent.
Weak Czech Manufacturing Forms Part Of A Global Picture
The October manufacturing contraction in the Czech Republic really forms part of a much larger global picture, since recent events in the CEE financial sector have, above all, a global backdrop, one which the current dependence of the Czech economy on exports only serves to highlight.
Manufacturing output fell in October in one country after another, and indeed the latest JP Morgan Global PMI report really does makes for quite depressing reading.
The world manufacturing sector suffered its sharpest contraction in survey history during October, as the ongoing retrenchment of global demand and further deepening of the credit market crisis negatively impacted on the trends in output, new orders and employment. The JPMorgan Global Manufacturing PMI posted 41.0, its lowest reading since data were first compiled in January 1998 and a level below the no-change mark of 50.0 for the fifth month in a row.
Output, total new orders and new export orders all contracted at the fastest rates in the survey history in October. With the exception of India, which again bucked the global trend, all of the national manufacturing surveys posted declines in output and new orders. The impact of the downshift in global market conditions also had a far-reaching effect on international trade volumes. Although new export orders fell at a slower rate than total new business, all of the national manufacturing sectors covered by the survey (including India) saw a reduction in new export orders.
"October manufacturing PMI data reinforce the stark retrenchment that the sector is currently facing, with production, total new business and new export orders all falling at record rates. The latest Output Index reading is consistent with a fall in global IP of almost 8%. The only positive from the surveys was a decline in input prices for the first time since August 2003."
David Hensley, Director of Global Economics Coordination at JPMorgan
Economies across the Eurozone are being affected. In Italy manufacturing activity contracted at the fastest rate in at least 11 years in October according to the latest Markit/ADACI PMI survey out yesterday (Monday). The Markit Purchasing Managers Index fell to 39.7, its lowest since the series began in 1997, down from 44.4 in September. The Italian manufacturing PMI has now not been above the 50 mark separating growth from contraction since February and the latest data showed activity falling at an accelerating pace as demand shrank while jobs were shed at the fastest rate in the history of the survey.
Other recent indicators from Italy have also been far from encouraging, with October business confidence hit its lowest point since September 1993, when the economy seized up after Italy was rocketed out of the European Exchange Rate Mechanism a year earlier.
Germany's manufacturing sector contracted in October at the fastest pace in seven years as incoming orders and output experienced their sharpest declines in more than 12 years. The headline index in the Markit Purchasing Managers Index for what is Europe's biggest economy fell in October to 42.9 from 47.4 the previous month, well below the 50 mark that separates growth from contraction.
The French manufacturing purchasing managers index was revised down to a series low 40.6 in October, down from both the 'flash' estimate of 40.8 and September's 43.0 figure, Markit Economics said in a press release issued on Monday.
Disaggregating the figures, the output component fell to an all-time low of 37.8 from September's 41.7 level, while new orders slipped all the way to a series low of 34.9 for the month, down 2.6 points from September's 37.5 level. Purchase quantities and new export orders also saw some new record lows in October, falling to 33.7 and 38.5 respectively.
Spain's manufacturing sector continued to shrink at a record pace in October - possibly the fastest among all those included in the JPMorgan index - with both output and new orders contracting and employers shedding jobs at a near record pace, according to the latest Markit Economics Purchasing Managers Index published yesterday (Monday). The Markit PMI for Spain dropped to 34.6 in October, the lowest reading registered by any eurozone economy since the series began in February 1998 and down from the already rapid 38.3 point contraction in September. As we can see, according to this indicator Spanish manufacturing has now been weakening steadily since the start of 2006.
Central and Eastern Europe
Apart from the Czech decline, output also contracted elsewhere in the CEE. In Poland the ABN Amro Purchasing Managers Index fell for the sixth month running to 43.7 (down from September's 44.9) a record low and well below the neutral reading of 50, according to Markit Economics. Hungary's manufacturing industry contracted sharply in October, according to the latest PMI reading, which fell 5.2 points to hit 44.7 in October - a historic low, and 0.8 points below the previous worst reading registered in October 1998, according to the latest data from the Hungarian Association of Logistics, Purchasing and Inventory Management (HALPIM).
As the Eurozone itself contracts, these economies which are heavily dependent for exports to the zone will be buffeted, especially now that forex loans for their domestic housing markets have all but dried up.
The US manufacturing PMI dropped back to 38.9 in October from 43.5 in September, indicating a significantly faster rate of decline in manufacturing when comparing October to September. It appears that US manufacturing is experiencing significant demand destruction as a result of recent events. October's reading is the lowest level for the US PMI since September 1982 when it registered 38.8 percent. On the other hand inflationary pressures are evaporating rapidly, and the Prices Index fell to 37, the lowest level since December 2001 when it registered 33.2 percent. Export orders also contracted for the first time in 70 months.
China's PMI dropped to lows not previously seen in October, confirming that the economy of the so-called factory of the world is now decelerating along with everyone else. Two international surveys measuring the PMI independently corroborated the evidence of a cooling Chinese industrial economy.
According to a survey complied by securities firm CLSA, China's PMI fell to 45.2 in October, its third consecutive drop, from 47.7 in September, as new orders and exports, as well as pricing power, were squeezed by the global financial crisis.
"The very sharp fall in the October PMI confirms that China is more integrated into the global economy than ever. Chinese manufacturers are seeing their order books cut, both at home and abroad, as the world economy falls into recession," said Eric Fishwick, CLSA's head of economic research, in a report released Monday. "Costs are falling but so are output prices. The coming 12 months will be difficult ones for manufacturers, China included."
The government-backed China Federation of Logistics purchasing managers' index - published on 1 November - also showed a strong contraction, falling to 44.6 in October, the lowest level since the data began in 2005, from 51.2 in September
Russian manufacturing contracted in October at the slowest pace in over two and a half years as the global financial crisis cut demand, according to the latest reading on VTB Bank Europe's Purchasing Managers' Index, which fell to 46.4 from 49.8 in September. This was the third consecutive month in which Russian industry has been contracting.
Business conditions in the Brazilian manufacturing worsened in October for the first time since June 2006. The headline seasonally adjusted Banco Real Purchasing Managers’ Index (PMI) posted 45.7, down from 50.4 in September, pointing to a sharp contraction -the fastest in the survey history in fact. The PMI was driven down by accelerated declines in output and new orders, as well as falls in employment and stocks of purchases.
Even in India the seasonally adjusted ABN Amro India Manufacturing Purchasing Managers’ Index dropped steeply in October, falling to a record low of 52.2, down from a reading of 57.3 in September suggesting another sharp deceleration in growth, even if Indian industry managed to keep expanding. The biggest fall was in the new orders sub-index, which dropped to 54.4 in October from 62.6 in September. Perhaps the saving grace in the Indian survey is that most firms said demand remained strong in domestic markets, while it had been international orders which had waned. This can also be seen from the new export orders sub-index, which contracted to 49.7 for the first time in the history of the series. That fits in with the latest data showing that Indian year on year export growth slowed to 10.4% in September. Thus the Indian expansion is still hanging on in there, by its fingernails, but it is hanging on in.
Saturday, October 18, 2008
An index of investors' and analysts' expectations for the CEE region over the next six months plunged to minus 51.1 points in October from minus 30.6 in September according to latest the survey from the ZEW Center for European Economic Research and Erste Bank AG.
Goldman reduced the Czech Republic's 2008 growth forecast to 4.3 percent this year from 4.4 percent, while the 2009 outlook was changed to 2.5 percent from 3.8 percent.
Komercni Banka AS, the third-largest Czech bank, fell the most since 1999. OTP Nyrt. slid to its lowest level in almost five years after HSBC Holdings Plc downgraded Hungary's largest bank on concern its loan expansion may slow and credit quality worsen, while Bank Pekao SA, Poland's biggest bank, posted its steepest drop on record.
Komercni lost 530 koruna, or 17 percent, to 2,510 in Prague trading. Erste Bank AG, Austria's biggest publicly traded bank, slid 2.39 euros, or 10 percent, to 21.6 euros in Vienna.
New World Resources NV, the Czech Republic's biggest maker of coking coal for steel producers, plunged 22 percent to 111 koruna, its lowest since debuting on the bourse in May, after U.K. Coal Plc, the nation's biggest miner of the fuel, fell the most ever in London trading after saying full-year output will ``significantly'' miss a previous target because wet weather curbed third-quarter production.
The NTX Index of 30 companies in the region retreated 4.4 percent to 951.42, the lowest in almost four years, even as stocks in western Europe rose after a two-day selloff. The PX Index's drop was the biggest fluctuation among equity markets included in global benchmarks. Hungary's BUX Index fell 2.4 percent, Poland's WIG20 Index lost 6.4 percent and Austria's ATX Index declined 3.3 percent.
Clearly the financial turmoil has now crossed over the CR's doorstep, and is increasingly making its presence felt. In the meantime, and as Goldman note, the real economy is slowing.
Retail Sales Contract In August
The latest piece of evidence we have for this is the fact that Czech August retail sales fell the most in six years as inflation damped consumer spending and two fewer working days than a year ago cut shopping hours. Inflation adjusted sales (excluding automotive sales) were down 2.6 percent, compared with a 3.4 percent increase in July, according to data from the Czech Statistical Office earlier this week. Working day adjusted sales were down 0.3 percent.
If we look at the evolution of retail sales in the above chart the slowdown is evident, now we need to factor in the impact of all the financial turmoil, which is still very much a "work in progress" as far as Eastern Europe is concerned.
Sunday, October 12, 2008
Obviously all of this is significant and important, and I will try and write something more substantial as and when time permits.
Thursday, October 09, 2008
And it looks very much like there is worse to come with the Markit Economics/ABN Amro Purchasing Manager's Index (PMI) for the Czech manufacturing sector fallinf for the third consecutive month in September, and remaining below the critical 50-point expansion/contraction level for the second consecutive month. The index fell to 46.5 in September, down from a reading of 47.3 in August - marking the lowest level in the survey's 87-month history and a 55.8 reading in July.
The Construction Slump Continues
The constant-price seasonally-adjusted construction output index was down by 0.1% in August, when compared with July. In comparison to August 2007, constant price output dropped by 1.2%. The planning and building control authorities granted 11 762 building permits, up 4.2% more year-on-year. Approximate value of permitted constructions was also up by 2.8% year-on-year and reached CZK 36.2 billion.
Inflation Holds Steady
Consumer price dropped in September when compared with August by 0.2 %. The downward effect on the consumer price level, month-on-month, came from the seasonal price fall in domestic recreational stays and recreational stays abroad (as in previous years at this time) and a further drop in the price of automotive fuel. The year-on-year consumer price growth accelerated to 6.6 % in September (from 6.5 % in August).
The month-on-month consumer price level decrease by 0.2 % owed mainly due to a price reduction in 'recreation and culture', in which prices of package holidays went down by 14.6 %. In the 'transport' section the drop in the price of automotive fuel continued for the third month and was 1.7 % in September. The price of petrol and diesel oil was the lowest in the last five months. In 'food and non-alcoholic beverages' prices of fruit, potatoes and other vegetables were all down (by 7.8 %, 8.8 % and 9.2 %, respectively). Prices of rolls and baguettes dropped by 3.3 %, flour by 5.6 %, eggs by 2.3 % and cheese by 1.4 %. In the 'communications' section, prices decreased by 1.1 % due especially to due to lower prices for mobile roaming services.
In terms of the year-on-year comparison, in September, the increase in consumer prices was 6.6 %, i.e. 0.1 percentage point up on August. An price increases accelerated primarily in 'alcoholic beverages and tobacco', 'recreation and culture' and 'education'. Prices of tobacco products rose by 13.1 % (from 8.9 % in August). In spite of a marked month-on-month drop in prices of package holidays, their prices were 1.5 % up, year-on-year. In the 'education' section the y-o-y growth accelerated almost in all levels of educational services. On the other hand, in 'food and non-alcoholic beverages', the y-o-y growth of prices slowed down mainly due to changes in prices of fruit, which were lower by 2.2 % in September (a 3.7% growth in August). Similarly, prices of unsalted butter dropped to 7.6 % in September, while in August they were 1.4 % up. A slowdown in the growth of prices was recorded primarily for rolls and baguettes to 25.6 % (from 30.1 % in September), flour to 40.5 % (from 61.6 % in August) and cheese to 4.9 % (from 10.5 % in August).
The biggest effect on the price level still came from 'housing, water, electricity, gas and other fuels', where prices of natural gas rose by 27.5 %, electricity by 9.5 %, heat and hot water by 11.1 % and solid fuels by 19.9 %. Net actual rentals rose by 14.7 %, of which for dwellings with regulated rentals by 22.3 %, while for dwellings with market rentals by 3.0 %. In 'transport', prices of automotive fuel were higher by 4.3 % (by 5.2 % in August), which is the lowest y-o-y increase over the last eleven months. The growth of petrol prices ranged from 1.7 % to 3.2 %, while the growth of diesel oil prices was 13.3 %.
The average number of persons employed in industry decreased in August 2008 by 5.7 thousand persons, y-o-y (i.e. -0.5%). Employment decreased most in 'manufacture of textiles and textile products' (-12.5%), 'manufacture of leather and leather products' (-6.9%) and in 'electricity, gas and water supply' (-6.8%). Increases in average number of persons employed were registered in 'manufacture of transport equipment' (+4.8%), 'manufacture of electrical and optical equipment' (+3.2%) and 'manufacture of rubber and plastic products' (+1.9%).
The average hourly wage increased by 13.4% and stood at CZK 172.4.
Thursday, September 25, 2008
And thus it was today with the Ceska Narodni Banka whose board voted 4-2 to leave the two-week repurchase rate at 3.5 percent, following in the footsteps of the Polish and Romanian national banks who have also this week left their benchmark interest rates on hold.
Indeed far from raising, the main consideration was whether or not to lower rates again (following last months quarter point reduction), and during the meeting, two board members argued in favour of cutting to 3.25 percent immediately. Following the meeting Governor Zdenek Tuma reiterated that the bank's August forecast assumes further rate cuts:
``In the end, the opinion to hold won out not so much because the fundamental arguments for lowering were doubted, but mostly, precisely because of the respect for the large uncertainties and volatility in a number of factors in recent weeks,''
In part the justification for holding (and even cutting) rates is that inflation is clearly on the wane. The Czech inflation rate fell in August to the lowest so far this year as costs of food and fuel declined, raising the chances that price growth will slow to the central bank's target in early 2009. The annual rate dropped to 6.5 percent from July's 6.9 percent, according to data from the national statistics office earlier this month.
The koruna has now fallen back 3 percent against the euro since the central bank lowered its benchmark rate a quarter of a point on Aug. 7, turning the currency from one of the best performing to the third-worst performer among the 26 emerging market economies in the MSCI index.
Slowing Industrial Output
Czech indutrial output fell in July, by 0.7% on a seasonally and working day adjusted basis when compared with output in May. On an annual basis production was up by 2.2%, but when allowance is made for the 3 extra working days in July 2008 output was only up by 0.6%.
Looking at the above chart we should remember that due to the early timing of easter this year (in March) data everywhere have been a complete hodge podge. If we assume that the March/April reading need averaging out, what we find is that the rate of increase in Czech industrial output has been slowing steadily since last February. This picture is further confirmed by the seasonally adjusted output index, which clearly peaked in February, lurched down in March, rebounded in April and has since steadily headed south. In part this is due to slowing export activity and consumption in Germany, and in part it is due to the high krona, but whichever way you look at it things are slowing significantly.
Saturday, September 20, 2008
However when adujsted for working days total output rose by 1.8% (July 2008 had three working days more). The fastest growth was recorded in civil engineering, in the areas of new construction, reconstruction and modernisation as well as repair and maintenance. Civil engineering is of course recepient of most of the resources from EU structural funds going to the construction industry.
What we can see from the above monthly chart is that construction activity has gone in waves. We can also see that the latest wave ground to a halt during the spring of 2007. As we can see from the annual index below, construction activity has been rising steadily since 2000. It now remains to be seen for how much longer this sort of pace can be sustained.
Seasonally adjusted retail sales (excepting the automotive segment) were down by 0.6%month-on-month at constant prices in July. The year-on-year increase was 1.0% (without seasonal and wd adjustment they increased by 3.4%). The biggest contribution to the growth of sales came from the sale of books, newspapers and stationery, other retail sale in specialised stores and sales of furniture, lighting equipment and household articles, electrical appliances, radio and television goods, hardware, paints and glass in specialized stores.
In the automotive segment, seasonally adjusted sales at constant prices were down by 3.9% m-o-m and down by 2.2% y-o-y. Not seasonally adjusted sales grew by 4.0% year on year. Seasonally adjusted sales in hotels and restaurants dropped by 0.6% m-o-m and not seasonally adjusted sales decreased by 3.0% y-o-y. That is, tourism and services generally have been having a hard time of it.
Thursday, September 04, 2008
The export performance was all the weaker taking into account the fact that there were three more working days in July compared with the same month last year. The position hasn't been helped by a dramatic decline in European car sales.German car registrations fell an unadjusted 10.4 percent in August, (there were two fewer working days), and this was the third monthly decline this year.
Wednesday, August 27, 2008
The central bank, which on Aug. 7 cut its key interest rate for the first time in three years, mentioned strong wage growth one of the factors that could frustrate its aim of reducing the inflation rate to its 3 percent target range next year.
The central bank is watching closely to see whether the current inflation spike, which they expect to wane during 2009, will lead to faster pay increases than justified by productivity gains, providing a second-round impulse to price growth.
The lowest jobless rate in 11 years, a record number of vacancies and tax optimization pushed first-quarter wages up the most in more than 9 years. The government introduced a flat income tax rate on Jan. 1, replacing four progressive rates, leaving most workers with more net pay in their pockets.
Among private businesses, the monthly paycheck was 9.3 percent higher, at 23,692 koruna. When adjusted for inflation, wages grew 2.3 percent, while the salaries of state employees jumped on average 3 percent to 21,344 koruna, translating into a 3.6 percent drop in real terms after the government capped public wage gains to restrain spending.
Thursday, August 14, 2008
Ostensibly the economy continued to maintain the same 0.9% quarter on quarter expansion pace as in the first quarter, but that may be slightly deceptive, since the early calendar position of Easter this year has meant that in most European economies activities from March have been passed through to April without the statistics offices seasonal adjustments being adequately able to capture the effect. So my feeling is that with a better seasonal correction we would find that the economy expanded rather faster in Q1 and rather slower in Q2, but in any even hardly by an earth shattering value.
The only clue we really have while we wait for the detailed breakdown from the statistics office on 10 September is that the trade surplus may well have played a significant part. Exports of goods in current prices rose 4.6 percent in the three-month period ending June 30, down from 5.7 percent in the first quarter, but slowing domestic demand has meant that imports slowed even more rising by only 2.7% year on year in the second quarter. The three-month goods trade surplus shrank to 31.4 billion koruna, compared with 33.025 billion koruna in the first quarter, according to the statistics bureau's Aug. 4 report so really at the end of the day we are all just guessing here.
In June 2008, export prices decreased by 1.8%, import prices by 1.2%, month-on-month. Year-on-year, export prices fell by 8.1% and import prices by 5.7%.
In June, seasonally adjusted retail sales (except automotive) grew by 0.4% month-on-month at constant prices and by 2.7% year-on-year (not seasonally adjusted by 1.4%). The biggest contribution to the growth of sales came from the sale of furniture, lighting equipment and household articles, electrical appliances, radio and television goods, hardware, paints and glass in specialized stores. In the automotive segment, seasonally adjusted sales increased by 1.7%, m-o-m, at constant prices, by 2.9% year-on-year and not seasonally adjusted by 2.6%. SA sales in hotels and restaurants dropped by 0.6%, m-o-m, and NSA sales were 2.7% down, year-on-year.
Friday, August 08, 2008
Thursday, August 07, 2008
Rate setters seem to have decisively switched their focus from the current high levels of inflation to countering the koruna's 13-month rally on concern a high Koruna will continue to have a negative impact on exports, investments and employment. Central Bank Chief Zdenek Tuma warned last month that the koruna's recent advance could cause inflation to undershoot the central bank's 3 percent target next year, justifying the then hypothetical possibility of rate cuts. Since then, the koruna has lost 4.1 percent against the euro.
The central bank lowered its forecast for economic growth for this year to 4.1 percent from the previous 4.7 percent outlook. In 2009, economic growth the bank expect growth to decelerate further - to 3.6 percent - which compares with the 6.6 percent rate achieved in 2007. So the bank is worried that the economy is slowing excessively quickly.
In fact the Czech economy expanded at the slowest pace in more than three years in the first quarter as consumer spending weakened. Gross domestic product rose 5.3 percent, compared with a revised 6.3 percent in the previous quarter. The economy's rate of expansion slowed for a third consecutive quarter after peaking at a record 6.8 percent in Q2 2006.
If we look at the q-o-q chart we can see the slowdown even more closely. Basically the economy hit a quarterly 1.8% in Q1 2007, and since that time it has been slowing to Q1s 0.9% (or an annual rate of 3.6%). Clearly Q2 will be weaker and we could see q-o-q of 0.5%, which mean if the rate of de-celleration continued we might get negative growth in Q4. This would clearly be a soft landing, but it is preoccupying for an emerging economy nonetheless.
The inflation rate increased to 6.9 percent in July from June's 6.7 percent, surpassing the central bank's goal for the 10th consecutive month. The CR now has negative interest rates of some 3.4 percent. That is, monetary conditions in the CR are extremely accommodative.
And wages have been rising much more rapidly than prices in recent months, that is real wages have been rising.
Which is not really surprising, since the labour market has been steadily tightening as the number of unemployed has dropped steadily. Which makes the issue of why consumption has been falling back much more of a mystery. This situation is very different from what we are seeing at present in Bulgaria or Romania, or even Slovakia.
Now it is not hard given the sharp rise in the Koruna to understand why Czech exports slowed significantly on a year on year basis in June. They were up a touch on May, but down on April and February, and were only very slightly up y-o-y. Exports rose an annual 1.7 percent, to 215.8 billion koruna and imports totaled 201.9 billion koruna, a 1.1 percent decline in the year.
But why is consumer demand slowing at this point? This is much harder to understand, yet it is. Why are people not simply borrowing cheap money and building houses and buying cars? Seasonally adjusted retail sales, however, only grew at a very moderate rate in May (up by 0.6% month-on-month and by 2.5% year-on-year).
And the construction boom is long since over, with output actually contracting year on year in May. Indeed the last construction boom seems to have blown out in Q1 2007.
Now this is all frankly rather worrying, and it is doubly worrying for me, because I think I have seen this before in Portugal and in Hungary. The rising Koruna may well choke exports but there is no reason whatsoever why it should be choking domestic demand, indeed quite the contrary. So why is domestic demand so weak, that is the question?
If we look at a longer term chart for year on year household consumption growth, we will see that the last "long wave" of this peaked in Q1 2007. We can expect the performance in Q2 2008 to be even worse, and the question, the quite deep theoretical question really, is why this should be happening?
Now here's a rather similar chart for Hungary. As we can see, Hungary had it last local peak in Q1 2006.
And as we can see, Portugal's last big "wave" ended in Q1 1999. So my question is really, is it possible that the CR is now where Portugal was in Q1 1999 and where Hungary was in Q1 2006? My feeling is that it is possible, and indeed this is where we may well now be. The thing is we need to understand the theory which explains the dynamics behind all this much better. But if it isn't like this, then I don't understand why consumption is now simply fading out.
Basically one thing that these three countries have in common is declining population (or at least in the Portuguese case declining population at the time when consumption blew, as a result of prior EU freedom of movement related out-migration). Declining and ageing population. As we can see in the first chart, the population of the CR has declined in a variety of ways since the late 1980s. It has started to increase again since 2004, but it seems to me the consumption bust was already in the pipeline by that point. What is really, really surprising to me is just how sensitive the whole system is to what appear to be really quite small movements in population size.
Of course it isn't simply the size that matters, it is more the structure, and as we can see from the median age chart below the CR has been ageing quite rapidly for some time now, and will continue to age as we move forward. Having more children and accepting more immigrants (both of which are very advisable) are the only things which will slow all this down.
Of course you won't read about any of this in the economics text books (yet), but the picture is reasonably clear, and it is also perfectly compatible with life cycle savings and consumption model as presented by Franco Modigliani. You simply need to apply it to population rather than simply to individuals.
Wednesday, August 06, 2008
By Claus Vistesen: Copenhagen
Ever since the illusive credit turmoil began sentiment in the market place has been fickle and essentially, like the assets of which it consists, volatile. We started off with an adamant focus on downside risks to growth which then turned into a focus and fear of inflation. Now, as the cyclical data has turned for the worse in Europe and many places in Asia the focus seems to be reverting to growth. Now, I won't go into the whole decoupling v recoupling discussion at this point since I think that this dichotomy is a false one. It never was about de-coupling à la traditionelle but moreso about two interrelated points. The first would be the extent to which the world already has decoupled from the US in the sense that a key group of emerging economies are now set to ascend in economic prowess. The second would be the extent to which the de-coupling thesis always built on a fallacy. The main point would be that the main fault line of slowdown was observed across economies with external deficits; something which, I am sure most will agree, is sure to impact surplus economies too.
Now, that does not completely let the ECB off the hook since by maintaining a focus on inflation it also assumed the role, if only temporary, of the new anchor in a re-wamped version of Bretton Woods II as the Euro ascended to new highs. This bet on global re-balancing was always going to end in tears and in this light the Eurozone could not decouple from the US; that much, I think, is true.
The key issue here however, as I have argued time and time again is represented in two crucial interlocked questions which together form a key structural trend in the global economy. One is what happens when the surplus economies slow down and there is not sufficient demand to pull the economy back up? Demographics and a high median age are key variables to watch in this regard. The second question is the extent to which hitherto deficit nations can turn the boat around and increase savings (i.e. rely more on exports) and what it will mean for global capital flows when they begin this process?
In the context of the CEE economies the themes above are also present. In a recent note I detailed the change in sentiment from growth to inflation and what it might mean for Eastern Europe's economies and their respective currencies. The key situation as I sketched it was one of a dilemma.
On the one hand, the rampant inflation levels suggest that the exchange rate be loosened to allow appreciation and thus pour water on the roaring inflation bonfire. On the other hand however the Baltics, as well as many other CEE countries, are saddled with extensive external deficits financed by consumer and business credit denominated in Euros. It is not difficult to see that this represents a regular vice from which it will be very difficult to escape since as long as the peg remains deflation seems the only painful alternative as a mean of correcting.
Another point which is specifically tied to Eastern Europe is that if domestic nominal interest rate increase to keep up with inflation rates it will have a strong substitution effects towards Euro denominated loans. This can become a dangerous cocktail should the tide turn against the currencies.
Now that the focus seems to be changing back again it appears to be a good time to revisit the situation
Within this global nexus of what exactly to do with inflation relative to growth, many Eastern European economies has so far opted to go for inflation by raising interest rates. At an initial glance this seems quite reasonable and in many ways the CEE central banks merely latched on to market sentiment and expectations that many emerging economies would seek to use nominal appreciation as a tool to flush out inflation.
Consequently we have seen how both Ukraine and Hungary have chosen to loosen the peg to the Euro as well as other floating currencies in Eastern Europe have seen their yield advantage increase in an attempt to flush out inflation. This has not been without problems though or more specifically it is not clear that an appreciation of the currency is all for the good. Two points here would seem particularly important. One is the simple question of whether in fact an appreciation is deflationary in a world where capital flows, and in particular the hot kind, act strongly on yield. However, another point would be specifically tied to the situation in Eastern Europe. As such, nominal appreciation of the currency also increases the purchasing power which is not what many CEE economies need at the present time as they stand before the task of correcting a rather large external balance. Moreover, rising domestic interest rates will increase and exacerbate the credit channel by which loans denominated in Euros and Swiss francs become more attractive. I have shown this to be true, for example, in the context of Lithuania. The important thing to do note here would what would happen to the servicing of these liabilities should the domestic currencies depreciate.
What happens next then? Or more concretely, even though CEE currencies, in general, have enjoyed a rally on the back of market expectations of nominal appreciation fed by hawkish central banks what happens if and when central banks reverese course?
An initial warning shot across the bow was handed to us as the governor of the Czech central bank mused that he might lower rates come next meeting due to the strenght of the Koruna and the subsequent effect on exports. Also Poland recently opted to abandon the hawkish stance as rates were kept steady. In light of this event Macro Man managed, as ever, to hit the proverbial nail on the head.
There is little more bearish for a currency these days than abandoning the inflation fight in a pursuit of growth; this is particularly the case when the market is heavily positioned the other way.
This is exactly the issue which now confronts many Eastern European economies. What to do as growth visibly tanks at one at the same time as inflation stays high. One thing here would be for the central banks to hold their raising cycle which in itself should ease the pace of appreciation but what if they need to lower rates.
Now the numbers above do not, in themselves tell anything remotely interesting. For one, the difference between the economies are quite big. For example the Czech Republic has been able to gain, with a comparatively low interest rate, currency appreciation which has actually helped the external balance in so far as it has made imports cheaper. Obviously, at this point the benign effect on the trade balance is just as much down to decreasing domestic demand as the value shield of a dear currency. On the other hand, if we consider especially Ukraine, Romania, and Hungary the price has been dearer and the subsequent effect on inflation less pronounced. One could always argue that the situation would have been much worse, but one thing is certain; the ensuing loss of competitiveness has not been compensated for with a decrease in inflation. And one has to wonder whether pushing nominal interest rates ever higher would be a sound solution.
The key here is that these high interest rates carry with them a high lock-in premium which makes it difficult to reduce them without causing substantial pain to the currency. Add to this that as long as interest rates stay in this territory the incentive to borrow in foreign currency remains very appealing. In fact, the incentive structure here is quite disruptive as many of these economies have higher rates on domestic currency deposits and lower rates on foreign credit. This incites consumers and companies to place their deposits in local currency while funding themselves in foreign currency. Finally, there is of course the more standard economics 1-0-1 point that whatever nominal rate is ascribed to a currency and an economy the latter needs to be able to provide the structural demand for which to satisfy the yield. Otherwise you just pour more gasoline on an already raging bonfire.
Obviously, as long as the local currency remains strong and on an upwards march or the trading band is kept in place the show goes on. But the longer this structure lingers the more difficult it will be to break free; and break free they must since I am quite sure that Eurozone membership is off, for the immediate future at least.
Another more hard hitting point would simply be that whatever growth momentum these economies had going into 2008 it is now steadily levelling off. Now, these economies need to rebalance their external accounts at the same time as they labour under the yoke of slowing growth, high interest rates which are difficult to reduce and/or a quasi fixed exchange rate to the Euro. Can you feel the chilling cold of deflation blowing across the Urals? I can.
Basically, the past years' rapid process of nominal convergence will now need to be kicked into reverse, since it is quite obvious that many CEE economies have been riding a blade too tough.
Be Careful Indeed
Last time I massaged this specific topic I summarised by ominously stating that the CEE economies and their central banks should be careful what they wished for in terms of using higher interest rates and subsequent nominal appreciation of their currencies to flush out inflation. The key point was that the effect would likely be limited and only further worsen the imbalances in the economies. And thus, here we are.
Another more subtle point in the context of market reactions would be the boomerang effect which comes from the currency appreciation as interest rates are increased (and the peg/band abandoned) to the subsequent plunge when the economic tide turns. In line with the change in global sentiment towards growth and deflation (see e.g. here) and the fact that other hitherto strong yielders (e.g. the Kiwi and Aussie) are beginning to falter we may be at an inflection point in the whole discourse of upwards movement in CEE currencies. Stephen Jen's recent tour of global FX markets is a fine addition to this argument.
As ever, this is obviously still a dilemma for most of these economies since inflation continues to rage ahead. In Romania for example the PPI rose at its highest pace since 2004. However, as long as the credit tap stays open and as long as the purchasing power is increasing so will the the demands for higher wages stay strong. This is particularly true in the context of the CEE economies as these are in possession of structurally broken population pyramids after two decades worth of lowest low fertility and, in the cast of the latter decade, net outward migration.
The main point I would like to emphasise here is that correction is coming and that it will only become harder the higher the currencies move upwards. In a more general light this correction will not be a small one and it most certainly will not be felt exclusively in Eastern Europe. Basically, the big hidden data point in all of this is the dependence of Germany on CEE imports. So far, this has moved along just nicely but Germany is in for a rude awakening once the link breaks ... and break, I am afraid, it will.
Monday, August 04, 2008
Exports rose an annual 1.7 percent, to 215.8 billion koruna and imports totaled 201.9 billion koruna, a 1.1 percent decline in the year.
The Czech Republic's trade surplus increased in June as weaking internal demand kept a lid on imports. Exports exceeded imports by 13.9 billion koruna ($905 million), compared with a surplus of 9.2 billion koruna in May and 8.1 billion koruna a year ago, according to the Prague-based statistics office earlier today
The koruna has been the world's best-performing currency so far this this year - advancing 17 percent against the euro and was 33 percent stronger against the dollar. The currency's sustained appreciation lowers the chances that the CR will see a rapid rebound in exports as the high value of the currency is now beginning to seriously weigh on exporters.
Wednesday, July 23, 2008
The evidence for a slowdown in the Czech Republic is now really quite extensive.
The biggest contributors to the total sales increase were retail sale of furniture, lighting equipment, household articles, electrical appliances, radio and television goods, hardware, paints and glass in specialised stores and sale of food, beverages and tobacco predominating in non specialized stores. The most rapid growth was recorded for sales from the sale of textiles, clothing, footwear and leather goods and the sale of furniture, lighting equipment and household articles, electrical appliances, radio and television goods, hardware, paints and glass. The biggest drop of sales was recorded for retail sale of food, beverages and tobacco in specialized stores (-5.4%), retail sale of second-hand goods in stores (-3.3%), sale via stalls and markets and other non-store retail sale (-2.7%) and the sale in stores with pharmaceutical and medical goods, cosmetic and toilet articles (-1.3%)