• External headwinds appear to drive CNB thinking and its increasingly cautious bias, with the global environment still unclear. Besides soft real-data from the Eurozone & Germany in 2H18 (to some extent attributable to one offs), this year’s indicators don’t bring more comfort to the CNB. German and China manufacturing PMIs have fallen below the 50-point threshold, signalling a contraction. Czech leading indicators are in a similar direction – January PMI hit a 6-year low and fell to 49.

• Arguments supporting a more cautious approach in monetary policy tightening persist, as suggested by new board member and former CNB Chief Economist Holub two weeks ago. He suggested that - although the softer CZK is an argument for further rate hikes - the worsening global outlook, together with the anti-inflationary oil price, argues against such a move.

• The new CNB staff forecast should see downward revisions to GDP for 2019 and 2020, to below 3% from 3.3% in Nov. A tight labour market and solid wage growth dynamics within the new inflation report forecast should point to inflationary pressures this year.

• The recent deceleration in Czech CPI to 2% was mainly on the back of food & fuel prices. Importantly, Dec core inflation in the CNB definition accelerated further to 2.6% YoY as did the price of services (3.4%), up 3% YoY for the whole of 2018. Core inflation growth should remain strong this year, though headline inflation will be revised downwards from 2.6% towards 2.1% due to oil price developments.

• With an uncertain global environment and headline CPI on target, the CNB should stay on hold this week (though further implicit tightening is likely in the new forecast). We see scope for two CNB hikes this year but an improvement in the global economic outlook is now a necessary condition for further CNB tightening

FX: As per 2019 FX Outlook, we keep a fairly low conviction on CZK and its scope for gains. Not only is the CNB dialling down on its ultra-hawkish stance of 2018, but even rate hikes are not necessarily translating into large gains for the overbought CZK (as evident in 2018 CZK price action, when aggressive CNB tightening led to only modest CZK outperformance vs PLN and the battered HUF). Moreover, with a credible regional alternative to CZK now arising (in the form of HUF supported by NBH), this also argues for lower CZK upside. Hence, even with the new Feb CNB forecast still pointing to a stronger CZK and more hikes, this is in our view unlikely to translate into meaningful CZK upside

Rates: We currently see limited opportunities in the CZK IRS space. With markets pencilling a 25bp hike over the next 9 months with 65-85% probability, and the CNB delaying rate hike prospects, the scope for meaningful gains to front-end CZK payers is limited. Equally, CZK receivers remain off the table given the still hike-prone, yet cautious, CNB and the question marks about the negative effect of cuts on the koruna exchange rate. With scope for moves in front end CZK rates limited, any curve flattening or steepening will be mainly determined by global environment and its effect on the belly and long end rates.