I am sitting in Copenhagen airport waiting for a flight to Dublin, but to be frank I am thinking a bit more about the Czech economy today than about the Irish economy. The reason is that the Czech central bank (CNB) today will have it’s monthly board meeting and the CNB board might (fingers crossed) finally act to steer away the Czech economy from the present deflationary path by finally starting to use the exchange rate channel to ease monetary policy.

With the key policy rate at 0.05% the CNB effectively has hit the Zero Lower Bound. Therefore, if the CNB wants to ease monetary policy it will have to utilise other monetary policy instruments and the most obvious instrument is to use the exchange rate.

I don’t have time for much blogging so here is just some reading recommondations that I think would be benefitial for the CNB board members to read ahead of today’s meeting:

The Czech interest rate fallacy and exchange rates

Monetary disorder in Central Europe (and some supply side problems)

The dangers of targeting CPI rather than the GDP deflator – the case of the Czech Republic

Sweden, Poland and Australia should have a look at McCallum’s MC rule

The short version of this is: The Czech economy is in a deflationary trap so the CNB needs to ease monetary policy, but with interest rates basically at zero the CNB needs to use the exchange rate to do this. This basically leaves the CNB with two options. Either to follow the lead from the Swiss Czech bank and put a floor under EUR/CZK or to implement a Singaporean style monetary regime, where the central bank starts using the exchange rate (and communication about future depreciation/appreciation) as the primary monetary policy instrument rather than interest rates.

See you in Dublin…

Update: The CNB delivered NOTHING – major disappointment.