FT: Czech economy is a 'forgotten success story' but inflation is a threat

The Czech economy has for years been one of the fastest-growing in the region and in Europe. Together with other countries in Central and Eastern Europe, international analysts describe the increased prosperity of the Czech Republic since the fall of Communism as a “forgotten success” in the recent history of Europe.

Yet with the hardships of the pandemic continuing to bite, warnings of coming measures to combat inflation from the Czech National Bank suggest the steady economic growth of the Czech Republic is under threat.

An analysis of the long-term economic success stories of Eastern European countries was published by the Financial Times, with the Czech Republic noted as the most successful country in the region. The Czech economy has caught up with Italy and overtaken countries such as Portugal, Spain, and Greece.

For Ruchir Sharma, Head of Emerging Markets and Chief Global Strategist at Morgan Stanley investment bank, “the secret of success is consistently strong growth.” The Czech economy has been growing steadily for years and in the first quarter of 2020 prior to the pandemic it reached record growth of 7.1 percent. Sharma sees the economic strategy of Prime Minister Andrej Babiš as successful, although not unique in the region.

The Financial Times analysis paints a positive picture, but also warns about the potential for fast-growing economies to fall into the economic pitfalls experienced by southern European states such as Greece, which racked up huge public debt following the financial crash of 2008. Despite predictions that the Czech Republic will see a return to economic health when the pandemic recedes fully, there are fears that the current economic crisis could impact growth in the long-term.

Such concerns have now been exacerbated by suggestions from Tomáš Holub, a member of the board of the Czech National Bank, that the bank will introduce a base rate hike of 50 points, the biggest increase seen since 1997, in the coming days. The measure would limit borrowing following last month’s sharp spike in inflation and signs of further inflationary pressures ahead.

Inflation is a particular danger for the Czech economy due to a severely under-supplied labor market, solid post-pandemic demand, and global increases in materials and logistics costs. Inflation is currently a whole percentage point above the CNB’s forecast and doubles its official 2 percent target.

“For me, it has quite visibly tilted towards not only the need to continue with rate hikes at each following meeting, but also to introduce some stronger step. It is quite likely that I will lean towards that now, in September,” warned Holub.

With producer and consumer prices also rising significantly, analysts warn the only solution in the absence of a return to growth for the Czech economy may be to reduce debt and cut wages by taking the drastic step of devaluing the crown.

The Czech economy has been among Europe’s most successful for years, but uncertainty lies ahead as the country enters the post-pandemic era.