Losing value: Difficult times may be ahead for the Czech crown

Despite the crown enjoying a strong 2023 so far and holidaymakers from Czechia reaping the benefits of the high-performing currency, the currency's future is not wholly certain. In practical terms, this means that when you are going abroad in the latter part of this year, your crown will likely be noticeably weaker.

Jakub Seidler, the chief economist of the Czech Banking Association, told Lidovky.cz that the likelihood of the exchange rate once again dropping below CZK 24 to EUR 1 is currently low. At present, the exchange rate is around CZK 24.1 to EUR 1 and is on a gradually deprecating trend. At its 2023 peak (in mid-April), it was at around CZK 23.3 to EUR 1. 

Similarly, against the U.S. dollar, the crown reached its best value of CZK 21 to USD 1 in April. Since then, it has weakened to CZK 22.3 and continues to decline in value.

Seidler attributed this prediction to several factors, including the Czech National Bank (CNB) signaling a potential decrease in interest rates, which would reduce the central bank's support for the crown and put off potential foreign investors. Additionally, the current dividend season (the period when publicly traded companies announce and distribute dividends to their shareholders) has contributed to the demand for euros, prompting the sale of crowns and subsequently pushing the exchange rate downwards.

Petr Dufek, an economist at Creditas Bank, notes that the crown experienced a minor dip prior to the CNB's monetary meeting in August. During this meeting, there were hints that interest rates might be lowered (although ultimately they were not), causing concern in the market and leading to the crown’s depreciation. Dufek projected that the crown could potentially weaken by up to CZK 1 against the euro within a year. The central bank will most likely cut interest rates given the fact that inflation is taming in Czechia.

According to the CNB's forecast for 2024, the crown-euro average exchange rate will be CZK 24.7 to EUR 1.

Investors interpret the central bank's decision to end interventions aimed at supporting the crown as a signal that Czechia no longer desires a stronger crown. The CNB has for over a year engaged in foreign-exchange interventions to bolster the exchange rate. 

Dufek says that the CNB’s decision to halt foreign-exchange interventions is confusing, given that they had not incurred significant costs for the central bank.

Economic conditions, including export revenues, would also play a role in shaping the crown's performance. Higher export revenue boosts demand for a currency as more people need it to buy the country's goods, raising its exchange rate.

Seidler and Dufek acknowledged the importance of the interest rate differential in influencing the crown's exchange rate. Seidler expressed a preference for maintaining the current levels, while Dufek stressed the potential challenges posed by rate reductions.

The CNB's decision to shift its approach from foreign-exchange interventions to repurchases (selling something in a different currency with an agreement to buy it back later) has raised questions. Some experts believe that the central bank's intentional vagueness about its strategies allows it to navigate the market more effectively. By maintaining an information advantage, the CNB can better achieve its goals without excessive market opposition.

As discussions about potential rate reductions are set to commence in the fall, the crown's fate remains intertwined with various economic and policy factors; the CNB's contemplation of rate cuts could create an unfavorable environment for the crown. As the year progresses, the domestic currency’s performance will likely be influenced by a delicate interplay of economic forces and central bank actions.