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(Bloomberg) -- The Czech central bank’s resolve to hold back the country’s currency with a Swiss-style cap on gains is facing the biggest test to date as inflation flirts with the regulator’s target.
After an unprecedented stretch of undershooting the 2 percent goal, annual consumer-price growth quickened to 1.9 percent in December following an unexpected jump to 1.5 percent in November, according to a Bloomberg survey. Volatile food costs and government measures combined with expensive oil to more than double the inflation rate since October. The spike, resembling a trend seen across the globe, poses a dilemma for policy makers mulling when and how to end their unconventional policy.
Rate setters have repeatedly said they see themselves unshackling the koruna from its one-sided peg around mid-year but not before April. While they’ve said sustainable fulfillment of the inflation target is their main requirement, price growth data that has exceeded their forecasts has put the forecast under scrutiny. With investors clamoring to capitalize on koruna bets once the cap is lifted, the Czech National Bank will probably have to step up interventions under which it has printed koruna to buy foreign currencies worth about 30 billion euros ($31.6 billion) since 2013.
Following a November drop in koruna sales, the central bank “will likely have to intervene in greater sizes from January onward,” JPMorgan Chase & Co. analyst Jose Cerveira said. “As pressure mounts on the peg, we think it’s likely that CNB board members will avoid adding fuel to the fire, so the language is set to become more polished and vague.”
Derivatives used to speculate on future currency moves are already showing increasing bets on koruna gains once the limit is removed, despite central bankers’ warning that they won’t allow sharp appreciation in the aftermath. Twelve-month euro-koruna forwards dropped 0.4 percent last week to 26.62, the lowest level since the regime began.
The deliberation over the return to standard policy is accompanied by an economic recovery that has pushed unemployment to record lows and fueled the fastest wage increases in a decade. The resurfacing price pressure echoes that occurring in major economies, with German inflation jumping a full percentage point in December, Chinese factory-gate prices growing at the fastest pace since 2011 and the U.S. Federal Reserve’s preferred gauge of inflation showing the quickest gains since 2014.
Read more: The Koruna as Europe’s next big currency play
Given the positive economic outlook, monetary policy “may start to be less relaxed” from the middle of the year, as outlined in the central bank’s forecast, Vice Governor Vladimir Tomsik said last week. He added that merely reaching the inflation goal isn’t enough to cause an exit from the intervention regime. Governor Jiri Rusnok sent a similar message, saying the bank will seek to avoid reversing its policy prematurely.
“Since we have undershot our target for a relatively long time, it’d be justified if we could overshoot this target for some time now,” Rusnok said in an interview with news portal Hlidaci Pes last week. “The fact that inflation is at 2 percent in April or May, or slightly above, isn’t a fatal trigger for our decision.”
--With assistance from Zoya Shilova and Krystof Chamonikolas To contact the reporter on this story: Peter Laca in Prague at email@example.com. To contact the editors responsible for this story: James M. Gomez at firstname.lastname@example.org, Michael Winfrey, Paul Abelsky
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