Polish central bank pledges to go deeper as it makes the first cut

By bne IntelliNews November 8, 2012

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To the surprise of few, the National Bank of Poland (NBP) finally moved to ease monetary policy at its monthly meeting on November 7, joining the government's recent refocus on reviving the flagging economy. It also said the action is likely to be the start of an easing cycle; bets are now being placed on how low it will go.

The Polish monetary policy council (MPC) announced a 25-basis-point (bp) cut in its benchmark rate to 4.50%. Although the move can be seen as a fairly remarkable turnaround, given that in May the NBP became the only central bank in the EU to raise rates in 2012, government officials have been calling for it to offer the economy some stimulus for months, while many analysts joined the cause this autumn as it became clearer that the crisis in the Eurozone really has caught up with the country.

In its accompanying statement and press conference, the MPC said it expects inflation to continue its steady decrease - although it warned that commodity prices could put that forecast at risk - adding that should data confirm the deepening slowdown in both economic growth and inflation, it will implement further cuts.

Queried if the market could expect another cut at the December meeting, Governor Marek Belka called the chances "considerable," reports Dow Jones, but declined to comment on the pace or length of that series. The MPC could prove reluctant to cut rates too quickly because most in the council are concerned real interest rates may fall to a level they would consider too low, he warned, adding that inflation, at an annual 3.8% in September, remains "very high".


At the start of the year, Poland was confident it could barrel through the Eurozone crisis in much the same manner that it did the 2008 meltdown - it was the only country in the EU to avoid a recession - powered by domestic demand. However, the "star" of Europe started to show signs of waning in the second quarter as consumer confidence dipped amidst high unemployment.

Still, the hawkish NBP remained almost entirely focused on sticky inflation, with half an eye on the zloty and the level of foreign currency mortgages in the country. Full-year consumer price inflation (CPI) growth remains above the central bank's 2.5% target for 2012, but has been slowing rapidly in the second half. Belka admitted just ahead of the October meeting of the MPC that the focus had switched from price rises to growth, but still the NBP stayed its hand, wrong-footing many.

Analysts fully expect that deceleration of inflation to continue. "We expect it to fall back to the NBP's 2.5% target by early next year," says Capital Economics. "Admittedly, the recent global agricultural price shock poses an upside risk to our view, but any increase in food inflation is likely to be limited and reverse quickly. In addition, domestic price pressures are weakening. The National Bank's own core inflation measure came in at 1.9% in September, its slowest pace in 18 months."

Dropping industrial production and meager retail sales through the last few months supports that trend. Meanwhile, a deal with Russia on November 6 that will cut the price of gas imports, in tandem with the recent announcement of an expected decrease in electricity prices, will only help.

That allows the NBP to finally join Warsaw's recent turn from austerity to help stimulate growth. That move that has found favour with the markets, with Polish yields dropping below those of the neighbouring Czech Republic for the first time ever late in October. Prague continues to tighten the fiscal screws despite a recession, which has left the Czech National Bank backed into a corner. It played its final conventional card last week as it eased to virtual zero rates.

Warsaw still faces similar fiscal restrictions, meaning it needs the NBP to do much of the running. Back in May, the Polish economics minister surprised observers with the passion of his reaction to the NBP's hike, as he accused Belka of "stabbing the economy in the back." With hindsight, the minister looks to have had a point, and most expect the slowdown to get much worse. However, the central bank continues to push against the bears somewhat.

In its latest set of economic forecasts released the same day as the rate decision, the European Commission predicted growth will stand at just 2.4% for the full year 2012, and that it will slow further next year, dropping to 1.8%. That's 0.3 percentage points below the NBP's current prediction for 2013, and extremely meager compared with the 4.3% expansion recorded in 2011.

Capital Economics is another that forecasts greater pain for Poland. "Weaker economic growth will be driven by several factors," it writes. "Most obviously, Polish exports (and industry) cannot escape the downturn in the Eurozone. But on top of external headwinds, there are local problems too. First, the completion of a number of large infrastructure projects in the summer, coupled with financial troubles in the construction sector, suggests that investment is likely to weaken (indeed, it may already be contracting). And second, consumer spending is likely to slow further. The labour market is weakening, with employment stagnating and real wages falling. Meanwhile, the household savings rate is already at a record low, and cannot fall much further. Indeed, it will have to rise over the next few years."

Should the bears prove right once more, given Belka's comments it seems very likely that the November rate cut will be followed up with similar action in December, and may signal the start of a long and gradual cycle of monetary easing. On the other hand, as in October, the NBP has proved itself slow to act on the governor's words at points this year.

Capital Economics assumes the cycle is now firmly in motion, expecting "at least another 75bp of rate cuts by early next year, bringing the benchmark rate to 3.75%. This is lower than the consensus currently expects (4.00%) but broadly in line with the profile now priced into the forward curve. If anything, the risks are skewed towards even deeper rate cuts."

Erste is more circumspect however. "Although market has already priced [in a] 100bp cut, we stay cautious about the magnitude of the easing, keeping in mind that the council has rather hawkish approach. We evaluate the cycle to be 75bp overall and policy rate to be 4.00% at the end of 1Q13."

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