October's inflation was distorted by last year's energy price offset called the Savings Tariff

Today brought juicy statistics on household prices. Consumer prices rose by 0.1 % month-on-month in October. More interestingly, consumer prices rose 8.5 % year-on-year in October. Yet by September, consumer inflation had already managed to slow to 6.9 %. With the pace of inflation accelerating to 8.5 %, we are back to August's level. Today, the market was pricing in an increase in the inflation rate, but only to 8.4 %. Some investors might start to worry that the period in which inflation has gradually slowed down is coming to an end. However, we must remember that the spike in the inflation rate is due to last year's one-off measure to offset high electricity prices, which was disguised under the name of "Savings Tariff". It was simply that households received a payment of state aid on their bills last year which they have not received this year. If we had not included this Savings Tariff in the calculation, then the rate of inflation would have slowed further - specifically, it would have reached the 5.8 % level. Although the headline number reports otherwise, the elevated inflation continues to gradually leave the Czech economy.

The year-on-year acceleration in inflation was mainly driven by the housing sector. Electricity prices accelerated sharply to 148.6 % yoy in October (16.5 % in September), mainly due to the aforementioned pass-through of the Savings Tariff into electricity prices last year. A year ago in October, electricity prices visibly fell due to the government's high price compensation. The overall inflation rate was pushed down by food prices. Bread prices rose by only 5.1 % in October (up from 10.3 % in September) and vegetable prices by 12.4 % (up from 20.4 % in September). Egg prices even fell by 6.2 % and sugar prices by 11.1 1 %. The pace of inflation was then visibly hampered by the fall in prices from the transport sector. Specifically, car prices fell by 4.3 % and fuel and oil prices by 7.3 %.

October's inflation was distorted by last year's energy price offset called the Savings Tariff. (This will continue to be partly reflected in the rest of this year.) But after adjusting the data, it is clear that the pace of inflation continues to slow. Indeed, the high comparative base of last year will continue to be a significant help to allow elevated price pressures to gradually recede. Although we are still not out of the woods, there will be more and more items for which year-on-year price growth will weaken. There will also be more items that are even cheaper year-on-year - that is, where inflation will be negative. But because of the high rate of inflation at the start of this year, we have to be content with consumer inflation averaging double digits for the whole of 2023 - just below 11 %.

We will enter 2024 with uncertainty about what inflation will be just after January. After all, the price caps will end in the energy sector and, moreover, the state will no longer compensate for the additional energy payments it has been taking on in recent quarters. This may bring rising energy costs for households and businesses. There is also the risk of how much merchants' price lists will change after the new year. Together, this may ultimately affect whether the inflation rate returns to the Czech National Bank's 2% target or gets stuck a little higher. We are pricing in an average inflation rate of just below 3 % for next year.

The koruna reacted to the jump in the inflation rate by strengthening to CZK 24.44/EUR today. The halt in the decline in the inflation rate reduced bets on the Czech National Bank's December rate cut in the eyes of investors. But then investors read that the increase in inflation was only a one-off measure and that nothing was likely to change the Czech central bankers' stance. The koruna therefore gradually lost its morning gains and the exchange rate returned to CZK 24.50/EUR. We believe that inflationary pressures in the Czech economy will continue to gradually weaken. Last week, the Czech National Bank decided to leave rates unchanged by a 5:2 vote, with two board members voting for a 25 bps rate cut. In December, the scales are very likely to tip in favour of an interest rate cut. Even so, it is clear that elevated inflation will remain a big bogeyman for central bankers. This will lead them to cut interest rates only symbolically (by 25 basis points in our view) at first. In our main scenario, the interest rate attractiveness of the koruna will decline slightly before the end of this year. We therefore continue to bet on a slight depreciation of the koruna.

The dollar remained just below 1.07 USD/EUR today.

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Yours sincerely

Markéta Šichtařová
company director
Next Finance s.r.o.