MPC chooses a radical approach towards the monetary policy

Strong interest rate cut

Today, the Monetary Policy Council has taken a surprising decision to cut interest rates by as much as 75bps (with the NBP reference rate standing at 6.00%). We were expecting the rates to go down by 25bps, and this forecast was consistent with market consensus. In the press release following the meeting, the Council mentions the weakening of global economic conditions, and expects the conditions in the euro area to deteriorate further in Q3. The MPC also noted that year-on-year producer prices in Poland had fallen. In the Council’s opinion, it confirms that external supply shocks are fading and the cost pressure is easing, which, together with the activity growth decline, will be driving inflation down in the quarters to come. The Council also noted that inflation expectations were decreasing, contributing to an increase in the real interest rates and consequently, in the Council’s opinion, to an increase in the restrictiveness of monetary policy.

The Council chooses a radical approach towards the monetary policy

In the Council’s assessment, demand pressure in the Polish economy is lower than expected, which will contribute to a faster return of inflation to the NBP inflation target. In the MPC’s opinion, this is the main argument in favour of interest rate cuts, which the Council has referred to as an “adjustment” conducive to meeting the NBP inflation target in the medium term. It suggests that the Council has chosen to adopt a radical approach to monetary policy rather than a gradual one that would involve a gradual adjustment of interest rates in response to the increasing signals of downturn. It is worth mentioning that central banks adopt such a radical approach when economic outlook changes rapidly. In our opinion, Poland has not experienced any rapid deterioration in economic conditions over the last couple of months, and we believe there were no grounds for such a strong cut of interest rates in a single iteration. It is worth noting that the last time the Monetary Policy Council decided to reduce interest rates by 75 bps was amidst the global financial crisis of 2008 and 2009, and in the pandemic period the NBP reference rate never fell by more than 50bps.

We were surprised to see that the statement saying that “the decrease in inflation would be faster if supported by an appreciation of the zloty exchange rate, which would be consistent with the fundamentals of the Polish economy” was kept in the press release following the today’s meeting. The statement is not consistent with the newly adopted direction for the monetary policy. In other words, if, in the Council’s opinion, economic downturn justifies the easing of the monetary policy, the easing is achieved through both interest rate cuts and currency depreciation.

Short-term outlook for the monetary policy remains uncertain

Today’s interest rate cuts were deeper than we had forecast (we had expected the rates to be reduced in September and October by a total of 50bps before the pause in the easing cycle, which we had thought would last until Q1 2024). The short-term outlook for the monetary policy remains uncertain. If the inflation keeps falling rapidly and reaches a single-digit level (we expect it to go down from 10.1% YoY in August to 8.4% in September), the Council may decide to ease the policy further. However, the term “adjustment” used by the MPC with regard to interest rate cuts suggests that the rates may remain unchanged in the months to come.

Today’s decision supports the conclusion that we made last July (see MACROpulse of 06/07/2023), which says that the inflation returning to the MPC target (2.5%) in the medium-term perspective is not the MPC’s priority at the moment, and there will be no such return before the end of 2025. In other words, today’s decision of the MPC conveys an impression of the Council wanting to provide a strong and quick support to the government’s economic policy despite inflation being highly unlikely to return to its target in 2025. We are still of the opinion that the reaction function of the central bank has changed in such a way that the monetary policy is becoming less transparent and comprehensive, and consequently, less predictable.

Tomorrow’s press conference of the NBP Governor will tell us more about the outlook for interest rates. We will present our revised scenario for interest rates and the PLN exchange rate in the next MACROmap.

In our opinion, the press release following today’s meeting of the Council is negative for the PLN and for yields on bonds.

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