Czech national bank keeps alive possibility of another FX cap

The Czech central bank (CNB) ditched its cap on the crown's exchange rate at a non-rate setting meeting on 6th April, letting the currency free after three years. The currency cap which was in place since 2013 was the cornerstone of the central bank's ultra-loose policy program designed to revive inflation.

CNB has published minutes from its 6 April extraordinary board meeting where it ended its koruna cap which showed that some board members expressed preference for later exit, so that a return to the inflation target would be more robust.

CNB had asserted that the  Koruna cap would not be removed prematurely only to be re-imposed later and it was rather surprising the minutes showed that CNB does not rule out imposing an FX cap again (or use other unconventional tools) if disinflationary dynamics re-emerged.

Minutes suggested that the koruna's overbought condition had become a consideration for the timing of the exit. CNB had to buy almost EUR 80bn to defend the floor since its inception – as a result, the CB's FX reserves rose from 30 percent of GDP to 70 percent.

"Speculative pressure may have played a role in CNB ending the cap prematurely, even while the medium-term outlook for inflation was open to question. We do not expect disinflationary trends to re-emerge within months. But, following these comments, we have to at least be prepared that another FX cap could be imposed sometime in coming years, which would mean an abruptly weaker CZK," said Commerzbank in a report.