Nicholas Watson in Prague -
Deciding that too much austerity can be a bad thing, Czech Finance Minister Miroslav Kalousek said on July 20 that the government would loosen the purse strings and take advantage of the country's record low borrowing costs in order to give the floundering economy a boost.
Kalousek, the architect of the centre-right coalition's austerity programme of deep spending cuts and tax hikes for the past two years, has won praise from many quarters for righting the country's finances and bringing down the budget deficit. But he has been criticised - even by some of his own supporters - for cutting too far too fast, which helped tip the economy back into recession in the first quarter, when GDP shrank by 0.7%.
The finance ministry now expects the economy to shrink by 0.5% this year, rather than grow 0.2% as it had been forecasting in April, Kalousek said, leaving him to conclude that any further fiscal consolidation measures would prove "counterproductive". In 2013, the government expects growth of 1.0%, down from 1.3% previously predicted.
"Frankly, I wasn't that surprised [by Kalousek's announcement]," says Martin Lobotka, economist at Ceska Sporitelna, echoing the view of many analysts. "I spoke with several rating agencies over the last three months and consistently they brought up the question of whether the pace of consolidation had been too fast and the government too overzealous in its austerity drive - and in light of data from the real economy I had to agree."
One of those rating agencies, Moody's Investors Service, on July 17 affirmed the country's sovereign 'A1' rating, citing the Czech government's "commitment to enacting forceful measures with the aim of continuing to reduce the fiscal imbalance", which came in at a lower-than-targeted 3.1% of GDP in 2011 - within touching distance of the European Commission's requirement that the fiscal shortfall be below 3% of GDP by 2013. The government now sees its fiscal deficit at 3.2% of GDP this year, above the target by 0.2 percentage point.
This has reaped dividends in the form of record low borrowing costs. On 18 July, an auction of 10-year notes resulted in an average accepted yield of just 2.316%, down from 3.109% in June.
At the same time, though, the mix of cuts in public spending on things like pensions and hikes in sales and income taxes, the latest package of which for 2013 cleared parliament only a week ago, is having deleterious effect on an economy already reeling from the slowdown in Europe.
The Czech has a very export-dependent economy and manufacturing data for May reflected the crisis in Eurozone, with the Purchasing Managers Index (PMI) showing that new orders for Czech manufacturing fell to 47.6 from 49.7 in April, their lowest level since August 2009.
At the same time, consumer confidence is languishing at levels not seen since the late 1990s; retail sales fell for the third straight month in May, declining 2.1% on year. "Household consumption is now very weak and the fiscal consolidation is one reason behind that," says Miroslav Frayer, an economist at Komercni Banka.
The country's general low level of indebtedness certainly gives the government room to manoeuvre. Public debt in the Czech Republic is just 44% of GDP, way below the Eurozone average of 92%. "Given the debt and deficit, it was quite logical that if we have worse economic growth, we can have slower consolidation of public finances," says Frayer.
Given that the government can do little about what is happening in the eurozone, analysts say putting off mooted spending cuts that have not yet been approved for 2014 and 2015 was the only sensible move.
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