Deferred interest rate cuts

This year, many households will have to refix the interest rates on their mortgages, so the logical question is which direction interest rates will take. The Czech National Bank plays a key role in this regard. Will rates remain stable or will they fall slightly?

After the inflationary wave subsided, the CNB lowered interest rates from December 2023 to May 2025. Although there was room for further cautious monetary policy easing, the central bank decided to place greater emphasis on persistent inflationary risks – in particular, rapid wage growth, rising real estate prices, increased inflation in service prices, and uncertainty surrounding the state of public finances. Interest rates have thus remained unchanged for the last nine months, and it seemed that this situation could persist for some time.

However, there are signs that the question of further rate cuts could be reopened. Although GDP growth has accelerated, the economy is still far from overheating. Investment activity is recovering only slowly, and macroprudential instruments are more effective than interest rates alone in countering rapid growth in real estate prices and rents – ideally in combination with the removal of supply-side constraints.

However, two key arguments for caution remain valid. Inflation in services prices remains relatively high, and uncertainty about the state budget has meanwhile turned into a fairly certain fiscal impulse.

The standard model approach suggests that, given the current developments in the Czech economy and the inflation outlook, the CNB’s repo rate should be in the range of 2.75% to 3.25%. Taking the aforementioned risks into account, it should be closer to the upper half of this range. The central bank thus has theoretical room for one or two rate cuts of a standard quarter of a percentage point, which market interest rates are already partially anticipating.

The timing remains an open question. Given that the economy is approaching its potential, any rate cuts would make more sense sooner rather than later.