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Buch, Claudia M.
Heinrich, Ralph P.
Year of Publication: 
[Publisher:] Institut für Weltwirtschaft (IfW) [Place:] Kiel [Year:] 1997
Series/Report no.: 
Kieler Diskussionsbeiträge No. 301
After years of high growth, low unemployment and low inflation, the Czech economy has suffered a sudden setback. Speculative attacks on the currency have forced the Central Bank to abandon its fixed exchange rate. The government has now announced austerity measures to reduce the massive current account deficit. In the short run, these measures will lead to lower growth and higher unemployment. Moreover, the devaluation of the Czech Koruna will make it more difficult to further reduce inflation. The crisis is due in part to the previous boom in domestic absorption. The expansion of absorption has been fuelled by massive capital inflows which helped to maintain the fixed exchange rate. At the same time, productivity growth has been sluggish despite high investment-to-GDP ratios, and wages have increased substantially despite sluggish productivity growth. These developments have contributed to the overvaluation of the exchange rate. As a result, the competitiveness of the tradables sector has been weakened, and the current account deficit has widened dramatically. The policy measures now announced aim at reducing domestic demand by cutting fiscal expenditure, raising taxes, devaluing the currency, and containing wage growth in the public sector. However, the government has so far failed to address the microeconomic issues that are at the heart of these supply-side problems. These include inefficiencies in financial intermediation, ineffective bankruptcy procedures, and weaknesses in the corporate governance of enterprises resulting from mass privatization. Solutions to the problems in the banking and financial sector should comprise tax incentives for banks to provision for loan losses, decentralized debt restructuring, the streamlining of bankruptcy proceedings, upgrading of the court system's resources, and a greater political will to enforce the existing bankruptcy legislation. Opening up for foreign banks more decisively and in particular allowing foreign banks to participate in the privatization of the large commercial banks can help to improve the efficiency of the banking system and the corporate governance role of banks. In order to encourage funds to manage their portfolios for the benefit of investors, funds should be encouraged to register as open-end unit trusts rather than as joint stock companies. On the macroeconomic level, the government is moving in the right direction. As regards the medium term outlook, fundamentals of the Czech economy remain strong. However, decisive and timely action to improve the institutional framework is needed if the economy is to overcome the present crisis and to reach a new, sustainable growth path.
Document Type: 
Working Paper
Document Version: 
Digitized Version

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