OUTLOOK 2020 Czech Republic

OUTLOOK 2020 Czech Republic
By bne IntelliNews January 9, 2020

GDP growth is expected to slow in 2020, with labour shortages remaining the main bottleneck to Czech economic growth that will also contribute to persistent high growth of wages. 

The Organisation for Economic Co-operation and Development (OECD) expects Czech economic growth to slow down to 2.1% in 2020, driven mainly by household consumption and government spending. In 2021, economic growth is expected to ease to 2-2.25%.  

According to the Czech National Bank, GDP growth will reach 2.4% in 2020, mainly due to weaker external demand. It should accelerate back to 2.8% in 2021. The European Commission predicts GDP growth to slow down in 2020 and 2021 to 2.2% and 2.1%, respectively, which is broadly in line with the economy’s estimated potential growth rate. 

The Ministry of Finance published the most pessimistic outlook, expecting the economy to grow by 2.0% in 2020, also driven by household consumption, reflecting the ongoing strength of wage momentum in combination with the extremely low unemployment rate. 

The ministry predicts growth in labour demand to weaken as the economy slows down. By contrast, labour supply, driven mainly by demographic and structural factors, is likely to rise faster than demand. Still, the situation in the labour market is expected to remain tight and companies are likely to struggle to fill job vacancies. There is no room for the unemployment rate to decline further. It is expected to amount to 2.2% in 2020 and to 2.3% in 2021. 

A slightly higher increase in wage growth in 2020 will be fostered by a further growth in the minimum wage from January 2020. 

The average inflation rate is expected to amount to 2.6% in 2020, according to the ministry. The central bank expects inflation to remain above its 2% target in 2020 and 2021, driven by food, energy and services prices. In 1Q20 it should reach 2.1%. In long-term forecasts, inflation is expected to reach 2.2% in 4Q20 and 1Q21. 

The central bank forecasts a slight appreciation of the Czech crown, hampered by deteriorating economic and price developments abroad. This slight appreciation will reflect continued real convergence of the Czech economy linked with labour efficiency growth and a temporary further widening of the interest rate differential within the eurozone amid a balanced effect of worsening developments abroad. 

The Ministry of Finance forecasts the inflation rate will reach 2.6% in 2020, with a moderate anti-inflationary effect on the exchange rate. Domestic demand pressures will push inflation up.

In 2020 and 2021, the growth rates of exports and imports will converge. Accelerated export and investment growth will be reflected in a recovery in import growth to more than 4% in 2020. In 2021, the pace of imports will increase further. 

Currently, the central bank’s two-week repo rate stands at 2%, the discount rate at 1% and the Lombard rate at 3%.

Babis under scrutiny

In 2020, the Czech political environment will be challenged by the reopened fraud investigation into Prime Minister Andrej Babis in the Stork's Nest case as well as the European Commission audit into conflicts of interest related to Babis’ conglomerate Agrofert. The Czech Republic will have to submit its comments and response to the draft audit report of the Commission in cooperation with all ministries concerned in the first two months of 2020. 

Justice reform remains a contentious issue in the Czech Republic. In 2019 Marie Benesova’s appointment to the minister of justice post sparked the largest protests in the Czech Republic since 1989. There are claims Benesova is biased in Babis’ favour and will obstruct an independent investigation into the Stork’s Nest case. Also her attempts to reform the justice system are likely to be perceived as politically biased.  

Within the reform of the justice system, the Ministry of Justice has submitted a draft law on disciplinary proceedings concerning judges, prosecutors and executors. Benesova plans changes to the procedure and advocates a different composition of the Disciplinary Chambers.

Also in 2020, the Czech parliament will discuss the 7% digital tax for international companies, such as Google, Facebook, Apple and Amazon, approved by the Czech government in November 2019. If approved by the parliament, the tax is likely to threaten Czech-US relations. 

The tax is expected to be applied to IT companies with annual global revenue of at least €750mn and Czech revenue of at least CZK100mn (€3.93mn). The digital tax will apply to revenue from select services, such as targeted advertising on the web, paid services on social networks, provision of user data or a shared economy. 

Budget surpluses planned

Both the Ministry of Finance and the Czech National Bank forecast the public budgets to remain in surplus over the forecast horizon, though the surpluses are likely to decline gradually. One of the reasons for this development is, according to the authorities, the gradual cooling of the economy, associated with international influences. 

The general government surplus will amount to under 1% of GDP in 2020, reflecting the fulfilment of the government’s programme priorities both in the social area and in investment expenditures in physical and human capital, and a slowdown in the growth dynamics of the Czech economy.

General government revenues will be boosted by tax measures, as a result of the planned increase in excise duty on cigarettes and alcohol, in tax rates on lotteries and gaming and the launch of the third and fourth phases of electronic sales registration (EET).  

In 2021 the government surplus is expected to decline to 0.5% of GDP.

Government sector finances in structural terms are also expected to remain in surplus, and the government debt-to-GDP ratio to gradually fall under 30% of GDP in the next three years, due to both nominal GDP growth and a drop in nominal government debt, in line with expected developments in the balance and nominal gross domestic product. 

The structural surpluses are projected to amount to around 0.3% of GDP, implying a neutral fiscal stance. The structural deficit is to reach 0.75% of GDP from 2020. 

According to the Ministry of Finance, the Czech Republic should continue to meet its medium-term budgetary objective under the preventive arm of the Stability and Growth Pact. 

The approved bill on the state budget for 2020 foresees total revenues of CZK1.58 trillion (€61.9bn) and total expenditures of CZK1.62 trillion. The state budget deficit is expected to amount to CZK40bn in 2020. 

One-off revenues from the sale of assets abroad are expected to renew the net inflow of capital in 2020, though this might stop in 2021 as one-off asset sales fade out. According to the Organisation for Economic Co-operation and Development (OECD), income from the sale of state-owned power utility CEZ’s assets in Romania is expected to contribute to the net inflow of direct investment exceeding reinvested earnings for the first time in three years. 

In 2020 final consumption expenditures of households is forecast to accelerate by 2.4%. Consumption of the general government sector should slow down to 2.1%. The growth in gross fixed capital formation is likely to amount to 1.4%.

According to the Ministry of Finance, the government bonds saw an increase in yields in the last few months of 2019. In 3Q19 the ministry issued and sold medium-term and long-term government bonds with a total nominal value of CZK35.5bn (€1.4bn), down compared to 1H19. In 9M19, sold medium-term and long-term government bonds denominated in Czech crown amounted to a total nominal value of CZK217.3bn with an average residual time to maturity of 11.2 years and average yield to maturity of 1.89% p.a, accounting for almost 87% of CZK-denominated redemptions of state debt to be covered in 2019. 

In 2019, the international ratings agency Moody upgraded its rating for the Czech Republic from A1 with a positive outlook to Aa3 with a stable outlook for long-term liabilities, for the first time in 17 years, which was supported by a low and declining debt burden as well as prudent fiscal policies. Moody’s expects the government debt-to-GDP ratio will continue to fall in the coming years, reaching 30.8% by the end of 2020 and falling below 30% by 2023.

According to the ministry, for 2020 the planned financing needs stand at CZK271.1bn, about 4.6% of GDP, however, the actual value will depend mainly on the state budget performance and on the exchange operations of government bonds in 2019. In the following years, the planned financing needs will fall by CZK8bn in 2021 and by CZK23bn in 2022 due to lower redemptions of medium-term and long-term government bonds denominated in local currency. 

In 2022, state debt redemptions denominated in Czech crowns are expected to reach the lowest level in the last ten years. The Czech Republic Debt Management Annual Report for 2019 will be published on February 14, 2020. 

The ministry has lately focused on reducing the share of state debt in GDP. At the end of 2019 it forecast the debt to decline by 11.6pp compared to the end of 2013. The final number will depend on the actual state budget performance, financial market operations at the end of 2019 and the size of Czechia’s GDP. 

Looking to 2020, the ministry plans to continue reducing the state debt-to-GDP ratio, even though the State Budget Act for 2020 sets out a growth in the absolute value of state debt. However, this will depend on issuance activity that the ministry will adapt to the state budget performance.

In 2020, the ministry plans to issue a number of CZK-denominated medium-term and long-term government bonds on the domestic market with a total minimum nominal value of CZK120.0bn. 

The external debt of the Czech Republic corresponded to 79.3% of GDP in 3Q19, according to the central bank’s latest figures. 

Banking sector resilient but slower growth ahead 

The results of the central bank’s supervisory stress tests on banks showed the Czech banking sector is resilient to hypothetical adverse economic developments. Its capital ratio would decrease to 14.8% in case of such developments, well above the regulatory minimum of 8%. 

In 2019, rating agency Moody’s downgraded outlook of the Czech banking sector from positive to stable, mostly due to a slowdown in economic growth. The agency said that after years of rapid credit growth when the Czech Republic was one of the fastest growing countries in CEE it expects a slight deterioration in the quality of the Czech loan portfolio. The performance of Czech banks in the next 12 to 18 months will remain healthy, but stable, as economic growth gradually slows down.

According to Raiffeisen Research’s Central and Eastern Europe (CEE) outlook, the Czech central bank will remain in stand-by mode for most of 2020. It is expected to start cutting rates in 4Q20, due to declining inflation amid the anticipated economic slowdown. Czech interest rates are expected to drop slowly.