Gradual changes in the pension system are an essential contribution to long-term sustainability. The change in the indexation formula and the linking of the retirement pension age to increasing life expectancy should reduce the expected deficits in the pay-as-you-go first pillar of the pension system very significantly over the next decades. 

Finally, the digitization of public administration has moved forward in a more fundamental way. Pensions and social benefits can be processed online. We will soon have ID cards on our mobile phones. There is still hope that we will also see fully digitized building procedures in the near future. The Czech Republic is woefully behind in this area and is in an unenviable position in international comparisons. However, things are starting to move. 

Similarly, the situation is turning for the better in the construction of transport infrastructure. The preparation of the construction of new sections of the motorway network has noticeably accelerated and the hope that the Czech Republic will stop being the butt of jokes about impassability and unflattering comparisons with Poland has increased. Here too, there is much work to be done. The state will need around CZK 5 trillion to invest in transport infrastructure development, repair, and maintenance between 2024 and 2050. 

The energy sector has shown that it is a very important part of the economy. The transformation ahead will be challenging. It will not be easy to meet all the targets expected of it. From an economic point of view, it will be essential to ensure a stable supply of all types of energy at prices that will keep the Czech economy competitive. Already this year we are facing two crucial moments. The first is the update of the State Energy Concept. The second is the selection of suppliers for the new unit for the Dukovany nuclear power plant. In the energy sector, the necessary costs over the next 30 years are estimated at CZK 3 to 4 trillion. 

Efficient spending on better education, science and research is an investment in the future. Last year's PISA test results give hope that, with more and better targeted investment in our children, the Czech Republic can have enough talented young people in the future to continue its journey to the top of the global economy. If this is complemented by research and development focused on practical applications leading to higher added value in production through closer cooperation between universities and companies, the shift will be more visible. 

After several difficult years, 2024 gives the Czech economy hope to breathe and return to growth. Conditions remain difficult in a number of areas. In particular, the geopolitical situation is still a source of instability. However, the main challenges the Czech Republic faced, including high inflation, have subsided or are fading. It is time to move forward again. 

Global economy 

In 2022, the main topics were the war between Russia and Ukraine and the energy crisis. Unfortunately, both the war and the energy crisis are continuing, although energy markets have calmed down considerably this year and the worst-case scenarios have not materialized. Even in this heating season, there is plenty of natural gas. At the same time, this heating season is likely to be the last one in which there could still be some problems with natural gas shortages. Europe has thus survived the energy war initiated by Russia. Russia has lost a very creditworthy customer and does not have an adequate replacement for the shortfall in supply to Europe. China does take some Russian natural gas, but this 
cannot compensate for the drop in supplies to Europe. 

On the other hand, Europe is currently dependent on the LNG spot market and has to overpay mainly Asian customers to get LNG supplies. Although the price of gas and electricity is much lower than a year ago, short-term price fluctuations cannot be ruled out. However, there should no longer be a physical shortage of gas. The situation should then improve in 2026, when the first natural gas should arrive in Europe from the long-term contracts that European countries have signed this year with Qatar and the US in particular. This will reduce dependence on the spot market. 

The calming of the situation on the energy markets was also associated with a reduction in inflation. In the US, inflation peaked in June 2022 at 9.1% and has been falling since then, with minor exceptions. At the beginning of 2023, inflation was 6.5%. By the end of 2023, it had fallen to 3%. Inflation in the euro area peaked in October 2022 at 10.6%. It slowed to 5.5% in January 2023 and gradually fell to below 3% by the end of 2023. 

The central bank’s fight against high inflation continued in 2023. The Fed raised the key interest rate from a range of 4.25% to 4.50% to a range of 5.25% to 5.50%. It will not raise interest rates further but will leave them at this level for a longer period of time, as inflation is still not at the Fed's target and is showing inertia. The ECB raised its main interest rate from 2.50% to 4.50%. Cautious monetary easing can be expected in 2024. According to the Fed, the key rate should be 4.6% at the end of this year, so we should expect roughly three 25 basis point interest rate cuts. The ECB is expected to start cutting interest rates gradually in the second half of 2024. 

Even in 2023, financial markets were unsettled. In 2022 they took aim at the UK, last year they took a much bigger bite - the US. In April, yields on long-dated US Treasury bonds began to rise. In May, this rise caused the collapse of several medium-sized US banks (such as Silicon Valley Bank). Credit Suisse of Switzerland, which was taken over by UBS, also collapsed. This minor banking crisis has been resolved. 

However, US government bond yields continued to rise until the end of October. What are the reasons for this rise? Firstly, the Fed's tight monetary policy and secondly, the unwillingness of the Republicans and Democrats to cooperate on fiscal matters. In June, the Republicans threatened technical bankruptcy (not raising the debt ceiling) if spending cuts were not made. A compromise was found at the last minute. 

In response, Fitch downgraded the US credit rating to AA+. Now, only Moody's rates the US's liabilities at the highest level, but it too is considering a downgrade. The global economy grew by 3.0% in 2023, according to the IMF's estimate, slowing from 3.5% in 2022. In 2024, global GDP growth is expected to reach 2.9%. The main drag on growth will be the lagged effect of central banks' restrictive monetary policies. Of the major economies, India is expected to grow fastest 
(6.3%), followed by China (4.2%). The US economy is also expected to grow (1.5%). Some European economies are currently in recession but should emerge from it during the year. For example, the German economy should grow by 0.9% in 2024 after a 0.5% contraction in 2023. 

Czechia 

GDP 
In 2022, an energy crisis took place across Europe, the consequences of which the Czech economy faced throughout 2023. Inflation was very high in the country, and although it started to decline in 2023, it still had a very negative impact on the economy. This can be illustrated by the example of the Czech gross domestic product, which is the only one in the EU that has not yet reached the pre-pandemic level of Q4 2019. While other economies were growing, the Czech economy stagnated and in H2 2023 it will probably show a decline in GDP for two quarters in a row, putting it into recession. The economy is hampered by high inflation reducing real household incomes, the effectiveness of high interest rates slowing down investment activity of companies and weak demand from abroad. Of particular note is the weak performance of the German economy, which is closely linked to the Czech economy. 

In Q1 2023, GDP grew by 0.1% quarter-on-quarter and fell by 0.4% year-on-year. On a quarter-on-quarter basis, there was a very significant fall of 1.3% in household consumption and 0.4% in gross fixed capital formation. In contrast, government consumption rose by 0.5% and foreign trade also made a positive contribution, as exports stagnated, and imports fell by 1.4%. The situation was almost identical in Q2, with GDP rising by 0.1% quarter-on-quarter and falling by 0.4% year-on-year. This time, household consumption grew by 0.6% and government consumption by 0.7%, while gross capital formation, including inventories, fell by 1%. Exports and imports were flat quarter-on-quarter and therefore foreign 
trade was neutral in relation to GDP. In Q3, GDP had already fallen by 0.5% quarter-on-quarter and by 0.7% year-on-year. Household consumption fell again by 0.3% and gross fixed capital formation by 0.3%. 

Exports also started to fall, by 1.2%, and as they fell more than imports (-1.1%), the contribution of foreign trade was negative. We do not expect an improvement in Q4, instead we expect a quarter-on-quarter decline of 0.4% (annualized 0.7%). The decline will be mainly due to the continued decline in gross fixed capital formation. Overall, we expect GDP to fall by 0.6% year-on-year in 2023, with the economy reaching its pre-pandemic level in 2024 at the earliest. 

In terms of contributions to overall GDP growth, we expect the largest contributions to 2023 to come from the external trade balance (1.8 percentage points), thanks to export growth, government consumption (0.7 percentage points) and gross fixed capital formation (0.6 percentage points). 

Household consumption expenditure is forecast to contribute negatively by 1.5 percentage points and inventory formation negatively by 2.1 percentage points. 

In terms of GDP formation, information, and communication activities (0.3 percentage point) and manufacturing (0.2 percentage point) will be the largest contributors to GVA in 2023. Industrial production grew mainly in the automotive sector due to a large number of orders from previous years, when automakers could not produce at full capacity due to disrupted supply chains. These orders were mainly met in the first half of the year, but in the second half the number of new orders started to decline significantly due to low demand at home and abroad. Other industries with positive contributions include professional, scientific, technical, and administrative activities (0.1 percentage point) and public 
administration and defense, education, human health, and social work activities (0.1 percentage point). 

Most other industries, on the other hand, showed a decline in production throughout the year, with significant declines in the production of basic metals, chemicals, and plastics, for example. Other industries with negative contributions to GVA include trade, transport, accommodation, and food services (-0.2 percentage point), construction (-0.1 percentage point) and real estate activities (-0.1 percentage point). 

Our forecast assumes GDP growth of 1.1% in 2024. The main driver of growth will be a recovery in household consumption (+2.6%), mainly due to falling inflation boosting real household incomes. By contrast, gross fixed capital formation is expected to fall by 0.5%. Firms are having to reduce investment due to rising costs and declining profitability and are postponing projects in progress. Government consumption is expected to fall by 0.5%, under pressure from the start of the fiscal consolidation announced by the government in 2023. Foreign trade is expected to show a positive contribution, especially due to the gradual recovery of external demand. However, there is considerable uncertainty 
about the future economic development of neighboring Germany in particular as a major export partner. 

At the end of 2023, the Czech economy was below its potential with an output gap of 4.5% (according to the production function), which means that capacity utilization is lower than usual. With GDP growth next year, the output gap should gradually decrease. The economy should not reach the above potential until 2026 at the earliest. 

The Czech economy has slightly underperformed in real economic convergence to more advanced countries. In 2023, GDP per capita in PPP terms has fallen from 91% to 90% of the EU average, but this is still higher than, for example, Spain (86%). Unless there is a gradual transition to a higher value-added economy and an acceleration of GDP growth in the coming years, the divergence from the EU average may continue in the following years. 

Labour market 
The trend over the past decade has been steadily increasing employment and a falling unemployment rate, which stood at 2% in 2019. This level could be described as too low as the labour market began to overheat. Labour shortages were causing nominal wage growth to significantly outpace labour productivity. The impact of the pandemic and the energy crisis on the labour market was expected to be significant, but in retrospect this cannot be confirmed. The unemployment rate was 2.6% in 2020, 2.9% in 2021 and 2.4% in 2022. These were still the lowest figures in the EU. The rise in unemployment would probably have been higher if it had not been for the government's program of subsidies to maintain jobs.  

In 2023, the downward trend in the unemployment rate stopped and a slight increase began to occur. The latest measured value, from October, is 3.0%. For the full year 2023, we expect an unemployment rate of 2.7%. It is evident that the labour market has returned to almost pre-pandemic levels. The number of job vacancies registered at the labour offices has fallen by around 10 000 to 280 000 over the past year. On the other hand, the number of registered jobseekers increased by around 10 000 year-on-year to 260 000. If this trend continues, the labour market could gradually move from a surplus of jobs to a shortage, which would also imply a rise in unemployment. Now, however, there is still a surplus of vacancies on the labour market (more demand than supply) - this is a structural phenomenon, i.e. it is not a temporary phenomenon. According to regional statistics, in Q2 2023, the unemployment rate was lowest in Vysočina Region (1.3%), Central Bohemia (1.5%) and Pilsen Region (1.5%), while the Moravian-Silesian Region (4.0%) and Karlovy Vary Region (3.5%) were the worst performers. 

More information in the attachment.