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Cablegate: Czech National Bank Predicts Shallower Slowdown

VZCZCXRO6583
RR RUEHAG RUEHAST RUEHBW RUEHDA RUEHDF RUEHFL RUEHIK RUEHKW RUEHLA
RUEHLN RUEHLZ RUEHPOD RUEHROV RUEHSR RUEHVK RUEHYG
DE RUEHPG #0326 1510734
ZNR UUUUU ZZH
R 300734Z MAY 08
FM AMEMBASSY PRAGUE
TO RUEHC/SECSTATE WASHDC 0347
INFO RUEHZL/EUROPEAN POLITICAL COLLECTIVE
RUEHRC/DEPT OF AGRICULTURE WASHDC
RUCPDOC/DEPT OF COMMERCE WASHDC
RUEATRS/DEPT OF TREASURY WASHDC

UNCLAS PRAGUE 000326

SIPDIS

E.O. 12958: N/A
TAGS: ECON EFIN ETRD EINV EAGR EZ
SUBJECT: CZECH NATIONAL BANK PREDICTS SHALLOWER SLOWDOWN
AND FASTER INFLATION CORRECTION

REF: A. PRAGUE 258
B. 07 PRAGUE 1201
C. 07 PRAGUE 758

1. SUMMARY: The Czech National Bank has revised its 2008 GDP
growth forecast upward from 4.1% to 4.7% and confirmed its
expectation that inflation will return to below 3% by 2009.
At the same time, the CNB revised its 2009 GDP forecast
downward from 4.6% to 4% based on lower export and investment
projections. External assumptions behind CNB's forecast for
the remainder of 2008 and 2009 include a slowdown in Eurozone
growth, a spike in Eurozone inflation followed by a period of
rapid decline, a gradual fall in Eurozone interest rates
through 2008, higher oil prices, and continued appreciation
of the Czech crown against the Euro. Market analysts agree
that the Czech economy will continue on its path of strong
growth with a shallower slowdown than previously expected,
but there is healthy skepticism about the CNB's inflation
prognosis. END SUMMARY.

2. Econoff attended the Czech National Bank's (CNB) quarterly
meeting with analysts on May 16. The session focused on the
inflation outlook, given last quarter's (Q1/2008) record
inflation that caught both the CNB and the market by
surprise. January 2008 inflation data from the Czech
Statistical Office revealed that CPI inflation hit 7.5%
year-on-year -- the highest inflation rate since November
1998 and the fifth highest among EU member states. This
figure was more than a full percentage point above market
expectations and .8 pp above CNB forecast. The CNB
reiterated that the inflation spike was "a temporary swing
sparked by tax changes, increase in regulated prices
(electricity, gas, housing services), and extraordinary high
growth to food prices," and predicts inflation will ease back
to 5.3% in Q4 2008 and 2.4% in Q2 2009. Having said that,
the CNB acknowledged a pro-inflationary risk to its
prognosis, noting that April 2008 headline inflation of 6.8%
(released only days before the meeting so not included in the
CNB' forecast model) is slightly above its new forecast.

3. In April, the Czech Ministry of Finance (MinFin) also
released its revised macroeconomic forecast for 2008 and
2009. Following a record growth of 6.6% in 2007, MinFin
predicts GDP growth will slow to 4.9% in 2008 based on weaker
foreign demand and somewhat weaker domestic consumption, then
rise slightly to 5.1% in 2009. The most recent IMF forecast
predicts 4.2% GDP growth for the Czech Republic in 2008,
while CPI inflation is expected to decrease to 3.9% in 2008
and 2.9% in 2009. IMF projects unemployment levels to fall
from 6.6% in 2007 to 5.2% in 2008 and to 4.3% in 2009.

4. The CNB's optimism for accelerated decrease in inflation
is based on a combination of restrictive fiscal policy, weak
foreign demand, and continued strength of the Czech currency
against the Euro and the Dollar. On fiscal policy, despite
fears that the Czech Republic would significantly overshoot
its 3%/GDP budget deficit Maastricht criteria in 2007,
revised data revealed a deficit of only 1.6%/GDP due to
higher than expected GDP growth of 6.6%. Deficit forecast
for 2008 is 1%/GDP compared to the 3%/GDP parameter approved
in the 2008 budget bill, again due robust growth. 2009
budget forecast is slightly expansionary with fiscal deficit
expected at 1.4%/GDP. One reason for skepticism about CNB's
optimism for fast inflation correction is that while the CNB
forecast assumes continued strengthening of the Czech crown,
some market analysts predict the Czech crown will see an
exchange rate correction by the end of 2008.
Graber

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