Monetary policy outlook
Overview:
With inflation having picked up sharply monetary policy has been tightened across the CEE region through a mixture of currency strength and higher interest rates. Significant nominal currency appreciation in CEE-3 in July may stay central banks' hands for now, but further rate hikes may be required in some countries going forward. Regional growth is moderating but remains strong. However, there is considerable disparity in individual country rates of growth relative to trend. In the Czech Republic growth has moderated to a sustainable pace while in Hungary a modest economic recovery is underway. In Poland, however, domestic demand would seem to be too strong. Inflation is likely to be a medium-term problem for Slovakia as it loses control of its monetary policy levers ahead of EMU entry.
CEE-3 local currency recommendations:
We are neutral on the Czech Republic where interest rates are the lowest in the region and the central bank may cut rates to temper excessive currency strength. We are also neutral on Hungary where interest rates are high but the currency seems to be substantially above its equilibrium levels. We are overweight on Poland. The central bank has indicated that it may keep rates on hold for a few months but will ultimately have to hike further. A reasonable (and increasing) interest rate carry and medium-term currency appreciation prospects are attractive.