Zloty: This Could Send the Czech Koruna and Polish Zloty Soaring

KronaThe Czech koruna and Polish zloty promise strong gains for currency traders against the backdrop of a sluggish euro in 2016.

The Czech koruna (CZK) is on a strengthening trend, supported by the current account balance of payments for November, which showed an unexpected surplus of 12.4 billion. The CZK, mainly due to a surprisingly high surplus in commodities and services, currently trades at 0.037 euro and 0.040 U.S. dollars as of this writing.

This suggests that the Czech economy is enjoying a period of solid growth; indeed, it might just be the best performer in the European Union (EU) at this time and it isn’t a member of the eurozone. The koruna is, therefore, an interesting investment bet, as the growth of the real economy will continue to appreciate.

Why Is the Koruna a Good “Buy?”

Unlike many countries in the EU and in the Organisation for Economic Co-Operation and Development (OECD) in general, including Japan, economic growth has been sporadic and limited to the service and financial sectors, with little growth in the “real” (manufacturing) economy. This points the finger at inflationary pressure, which is why the Federal Reserve in Washington and the European Central Bank (ECB) in Frankfurt have been chasing inflation—once a plague and now an elusive indicator of economic health.

The koruna was devalued to stimulate growth and the policy has worked. The Czech economy is growing organically, pushing salaries up. It won’t be long before the Czech Republic’s central bank, the Czech National Bank, will have to intervene to strengthen the koruna against the euro—in turn, strengthening it against the dollar, especially given the Fed’s decision not to increase rates on January 27.

Even the Polish economy has a solid external position. The local current account of payments, like the Czech’s, resulted in an unexpected surplus and the Polish zloty has strengthened against the U.S. dollar and the euro as a result. However, there are expectations that newly appointed board members at the Polish central bank, the National Bank of Poland, will be more dovish. This has increased the likelihood of a rate cut in one of the next sessions, putting pressure on the zloty.

The real star of economic growth in the EU, however, remains the Czech Republic. Over the past year, the country appears to have awakened from slumber.

Czech macroeconomic data suggest that the country has clearly found a more prosperous course, especially thanks to the auto and manufacturing sectors, which are fueling exports. (Source: “UPDATE 1-Czech car sales jump to record in 2015, further growth seen,” Reuters, January 7, 2016.) The Czech economy has also benefited from a strong recovery in domestic demand and consumption.

The Czech central bank, free from the constraints of the eurozone, can set its own beat and in 2014, it decided to weaken the koruna against the euro to support exports and domestic demand with positive effects on growing industrial output and labor demand. (Source: “Koruna Cap Exit More Likely in Early 2017, Policy Maker Says,” Bloomberg, January 6, 2016.)

The auto industry (the VW Group owns Czech auto manufacturer Skoda) has resumed its role as the driver of the Czech Republic’s economic revival. This is not surprising, since in the years before the 2008 financial crisis, the country was once one of the locomotives of growth within the EU. Hyundai Motor and TPCA (the joint venture between Toyota Motor Corp and PSA Peugeot Citroen) also operate in the Czech Republic.

The continued growth of all segments of the manufacturing sector, in particular the production of transport vehicles and machinery, are of key importance for the development of the Czech economy. The Czech government is optimistic and the Ministry of Finance predicts gross domestic product (GDP) to increase 2.6% in 2016 and 2.5% in 2017. (Source: “UPDATE 1-Czech car sales jump to record in 2015, further growth seen,” Reuters, January 7, 2016.)

These numbers are excellent within the EU and positively stratospheric when compared to the eurozone countries. The rest of the continent now requires huge amounts of stimulus in the form of quantitative easing to sustain life-support levels of growth. (Source: “Czech industry accelerates yr/yr growth to 5.7 pct in Nov,” Ceske Noviny, January 8, 2016.)

The devaluation of the koruna, which has lasted from autumn 2013, has led to growth levels that are seeing families resuming pre-crisis levels of consumption. Czech retail, excluding automotive sales, grew some seven percent from November 2014 to November 2015. (Source: “Czech Retail Sales Growth Improves Further,” European Economic News, January 12, 2016.)

At the same time, the measures put in place and the recovery of the manufacturing sector has strengthened the labor market, reducing unemployment to 6.4% as of May 2015. A year earlier, the unemployment rate stood at 7.5%. (Source: “Czech jobless rate grows to 6.2 pct in Dec,” Ceske Noviny, January 11, 2016.) Experts in the Czech labor market suggest that the new jobs created in this period could be permanent. In fact, according to central bank governor Miroslav Singer, unemployment is heading toward five percent. This should lead to a consequent increase in salaries, which have remained static since the outbreak of the financial crisis. (Source: “Economic Policy: CNB Governor Singer: Czech economy has come out of recession,” The Council of Czech Competitiveness, June 9, 2015.)

The economic growth has stimulated home ownership desires among citizens, who have been further encouraged by a historic drop in interest rates, with mortgage loan applications growing at record levels. Czech banks, in turn, are well capitalized.

Poland and the Zloty

Poland’s economy and the competitiveness continues to grow. The trend that started a few years ago has shown endurance. Entry into the EU has been positive for the Polish economy and almost immediately, after it acceded the EU, Poland experienced a rapid rise in investment and domestic consumption.

Unlike the Czech Republic, however, the Polish economy and its competitiveness have relied more on services for GDP growth, in the constant improvement of technology development, and some industrial processing—all of which have led, like a magnet, to the increase in foreign investment resulting in greater involvement of Poland in the global market. This would have added an efficient financial structure and banking through an independent central bank.

The Polish economy, like most others, suffered an inevitable slowdown during the financial crisis period. But unlike the U.S., Canada, and the eurozone, Poland did not experience a recession. Labor costs continued to rise—slowly—helping to maintain some competitiveness and low inflation.

However, Standard & Poor’s lowered its debt rating for Poland less for economic reasons and more for geopolitical risks associated with laws passed under the leadership of the Conservative government. The laws passed are seen to have weakened key institutions. (Source: “S&P lowers Poland’s Rating To ‘BBB+’,” WBJ, January 15, 2016.)

The new rating for Poland’s debt from Standard & Poor’s is BBB+, combined with a “negative outlook.” This means that Standard & Poor’s could lower its rating again “within the next 24 months” if government spending increases and monetary policy deteriorates. After the announcement from Standard & Poor’s, the zloty, the Polish currency, was down against a basket of major currencies. For reference, the euro trades at about 4.4 zloty, while the U.S. dollar is worth 4.09 zloty.

Fitch, meanwhile, has kept its rating for Poland at “A-” with a stable outlook. (Source: “Fitch Affirms Poland at ‘A-‘; Outlook Stable,” Reuters, January 15, 2016.) The agency highlighted “the strong economic performance of Poland, the solid banking system and governance indicators compatible with an A,” but with high external debt, high government debt relative to other comparable countries (52% of GDP to an average of 45%), and a lower per-capita income.

Poland’s Ministry of Finance said in a statement Friday that S&P’s decision was “incomprehensible” from an economic and financial standpoint, contradicting the assessments of other agencies and stakeholders in the financial markets. Currency traders can benefit from the opinion variance and from the fact that while Standard & Poor’s has acted more emotionally, basing its opinion on as yet unproven geopolitical considerations, Fitch is relying more on Poland’s economic performance and recent growth factors.

In other words, sooner rather than later, the zloty will start to gain against the euro and the U.S. dollar. Certainly, the zloty presents a number of speculative opportunities in the mixture of a favorable economic outlook and potential political instability. Meanwhile, the ever more aggressive monetary policy pursued by the ECB gives traders a reliable reference for the near future from which to gauge the zloty’s—and, indeed, the koruna’s—performance.