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UPDATE 2-Czech cbank holds fire, rate hike seen in Q4

Published 05/05/2011, 12:29 PM
Updated 05/05/2011, 04:32 PM

* Interest rates stay at record low

* Crown little moved after decision

* Sees slightly weaker growth, rates up from Q4

(Adds forecasts, governor comment, mkt reaction)

By Jana Mlcochova and Robert Mueller

PRAGUE, May 5 (Reuters) - The Czech central bank left interest rates on hold on Thursday as expected but signalled it would start raising rates earlier in the fourth quarter than previously suggested, citing rising price pressure from abroad.

The pace of further rate rises, however, would be more gradual than previously expected, it said.

The bank maintained its key two-week repo rate , used to drain excess liquidity, at 0.75 percent.

That extended the period of record low rates to a full year despite the European Central Bank's move last month to raise its benchmark interest rate to 1.25 percent.

Governor Miroslav Singer said the bank's new staff forecast saw market rates, a proxy for official rates, rising sooner in the fourth quarter, but the action would be moderate and not followed by any further sharp increases.

The bank had previously said it would not raise rates until the end of this year.

"The way (the forecast) reacts to changes in the development abroad, and the expected changes of the development abroad, have shifted the expectations somewhat forward," Singer said.

"At the same time, expectations of the development abroad next year have been reassessed downwards, which means that it (the increases) are not that marked."

Markets are pricing in a full quarter-point Czech rate rise in August.

The crown mostly shrugged off Thursday's decision and was trading a tad firmer at 24.169 to the euro by late afternoon. But interest rate swaps slipped after the central bank's comments and after the European Central Bank (ECB) did not signal an imminent rate hike following its rate meeting on Thursday.

The ECB left its key rate unchanged on Thursday, as expected, at 1.25 percent. [ID:nLDE7440GG]

The Czech central bank has been saying that it does not follow the ECB but historically there has been a correlation in interest rates, although often with time differentials.

The Czech vote on Thursday was 5-2, with the two dissenters voting for a 25 basis point hike. The full voting record will be released next Friday.

In a Reuters poll, 19 out of 22 analysts had expected no rate change in May and three saw a quarter-point hike.

MIXED SIGNALS

The central bank is having to balance mixed signals on inflation, with downside risk to domestic inflation but external inflation pressure from rising commodity prices.

Czech industrial output has been robust, driven by foreign demand, which has led to a rise in wages and employment in the sector, but fiscal restraint at home has kept demand low.

The bank's staff forecast slightly raised the inflation outlook for the second quarter of 2012 to 2.2 percent, from 2.1 percent in a previous forecast, but sees it dipping to 2.1 percent in the third quarter of 2012.

It also cut its 2011 growth forecast to 1.5 percent, from 1.6 percent, and cut the 2012 growth estimate to 2.8 percent from 3.0, citing low investment and fiscal restraint.

Appreciation of the Czech crown, which has gained 1.3 percent since the last rate-setting meeting in March, is helping curb imported inflation pressure.

A government plan to raise value-added tax as of January is raising inflation expectations next year, although the bank disregards primary effects of indirect tax changes on prices. (Editing by Susan Fenton)

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