Monetary policy will remain loose in Central Europe

Subject

Factors keeping monetary policy loose, despite stronger growth.

Significance

The Hungarian National Bank (MNB), one of the most dovish emerging market (EM) central banks, has cut its benchmark interest rate to a record low and called an end to its three-year-long monetary easing cycle. Hungary's inflation rate has only just turned positive after a period of deflation. The Czech National Bank (CNB) has been forced to intervene in the currency markets for the first time since 2013 in order to stem appreciation of the koruna, which is being buoyed by a stronger-than-expected growth pick-up. However, the prospect of subdued inflation should allow central banks in Central Europe (CE) to keep interest rates at current levels for a considerable period of time.

Impacts

• The renewed decline in oil prices will exert downward pressure on inflation rates in many advanced and emerging economies.
• Exceptionally low CE local government bond yields could spark a sell-off if fallout from higher US interest rates is sharper than expected.
• The ECB's sovereign QE programme, to run at least until September 2016, should help mitigate any Fed-driven deterioration in CE sentiment.