Reports on Observance of Standards and Codes Czech Republic and the IMF Czech Republic ROSC I.  Update II.  Overview III.  Data Dissemination IV.  Fiscal Transparency V.  Transparency of Monetary and Financial Policies VI.  Banking Supervision VII.  Securities Market SURVEY What do you think of Reports on the Observance of Standards and Codes?

REPORT ON THE OBSERVANCE OF STANDARDS AND CODES (ROSC) Czech Republic   Queries/Comments      should be directed to:    Director    European I Department    700 19th Street, NW    Washington, DC 20431    202-623-7000    http://www.imf.org    scu-comment@imf.org V.  Transparency of Monetary and Financial Policies   Prepared by staff from the International Monetary Fund on the basis of information provided by the Czech authorities Prepared in August 1999 and reissued in July 2000 Transparency of Monetary and Financial Policies 1. This chapter describes and assesses the transparency practices of the Czech Republic based on a self-assessment prepared by the authorities of the existence of good practices as outlined in the Code of Good Practices on Transparency in Monetary and Financial Policies. Box 1 highlights key aspects of this code.

A. Description of Practice Clarity of Roles, Responsibilities and Objectives 2. Monetary Policy. The central bank of the Czech Republic is the Czech National Bank (CNB). The CNB is responsible for the formulation and conduct of monetary policy. It was established in the Constitution (adopted on December 16, 1992) as the central bank and its specific functions are defined in the Act on the Czech National Bank of December 17, 1992 (No. 6/1993), henceforth referred to as the CNB Act. The CNB Act defines the operational structure of the central bank and the range of its activities. The CNB is directed by a Governor, two Vice Governors, and a board consisting of four other members. Monetary policy decisions are taken by majority vote by the CNB board. The Governor, Vice Governors and the members of the CNB board are appointed by the President of the Republic for renewable terms of six years. 3. The Constitution defines the CNB’s primary objective as that of safeguarding the stability of the Czech currency, and it is widely understood that achieving broad price stability is the ultimate goal of monetary policy (the next subsection provides more detail). The CNB Act provides specifically for the independence of monetary policy by stating that: "In providing for its primary objective, the CNB is independent of any instruction given by the Government." The act prohibits overdrafts on government accounts maintained at the CNB and sets a limit on the possibility to grant short-term credit to the government through the purchase of treasury bills. The Constitution provides for the central bank’s operational independence by requiring that any additional functions beyond those in the CNB Act imposed on the central bank be set out in specific laws. Thus, the CNB’s involvement in   Box 1. Code of Good Practices on Transparency in Monetary and Financial Policies The Fund, working together with the Bank for International Settlements, and in consultation with other institutions, has prepared a code of transparency practices for monetary and financial policies.1 The code identifies desirable transparency practices for central banks in their conduct of monetary policy, and for central banks and other financial agencies in their conduct of financial policies. The design of good transparency practices in the draft code is based on two main principles. Better public information will promote the efficiency of markets and thereby improve the effectiveness of monetary and financial policies. The beneficial effects of transparency work principally through improving the policy transmission mechanisms. In the case of monetary policy, this is achieved through fostering the public’s understanding of the goals of monetary policy and through the monetary authorities demonstrating credible steps towards achieving these goals. For financial policies, the clarification of policy objectives reduces uncertainty, enabling market participants to take proper account of the policy framework when making economic decisions. Good governance calls for central banks and financial agencies to be accountable, particularly when monetary and financial authorities are given a high degree of autonomy. In cases where conflicts could arise because different tasks are being undertaken within one agency, or because similar tasks are being shared by different agencies, transparency regarding the mandates of individual agencies can enhance their effectiveness, strengthen governance, and facilitate policy consistency. So can clear rules and procedures regarding the operations of these agencies. The code acknowledges that in certain circumstances there could be bona fide reasons for limiting transparency, for example in the areas of foreign exchange operations or when considerations of financial market stability play an overriding role. In focusing on transparency, the code is not designed to offer judgment on the appropriateness or desirability of specific monetary or financial policies. ______________________ 1 Code of Good Practices on Transparency in Monetary and Financial Policies, which is available on http://www.imf.org/external/np/mae/mft/index.htm. fiscal operations and agency roles performed on behalf of the government are defined by law. Moreover, details of the specific arrangements in this regard are publicly available.3 4. Financial Policies. Financial policies encompass measures related to the regulation, supervision, and oversight of the financial and payment systems with the aim of promoting financial stability, market efficiency, and consumer protection. In the Czech Republic, financial institutions include universal and specialized banks, credit unions, insurance companies, investment and pension funds, and securities firms. 5. Supervision and regulation are undertaken by different entities, depending on the particular financial activity.4 Supervision of and regulations for the activities of universal and specialized banks are the responsibility of the CNB. In the case of securities firms and investment funds, the MOF issues regulations, and the SC is responsible for enforcement and preparation of drafts of government decrees. For pension funds, supervision is undertaken by the state supervisor of pension funds (which is within the MOF) in cooperation with the SC and the depositories of the individual pension funds. The MOF is responsible for supervising and regulating insurance companies. Credit unions and savings cooperatives are supervised and regulated by a separate institution under the general purview of the MOF.5 The payment system is owned and operated by the CNB and not subject to supervision by another agency. The rules for stock market clearing and settlement are defined in the Stock Exchange Act and the Stock Exchange Rules. Finally, accounting rules for all financial institutions are set by the MOF.6 Open Process for Formulating and Reporting Monetary and Financial Policies 6. Monetary Policy. The CNB has wide discretion, within the bounds of operational powers granted to it by the CNB Act and other laws, to implement monetary policy in order to meet the basic objective set out in the Constitution. The CNB Act requires the CNB to provide an annual report to Parliament and a quarterly report to the general public. These requirements are fulfilled through publication of an annual Report on Economic and Monetary Developments and a quarterly Inflation Report. The CNB also publishes a monthly bulletin including statistical data and commentary on recent developments, as well as summary minutes of its board meetings (with a delay of two weeks or less). In addition, all board decisions are published as a press release, with press conferences being conducted for key decisions. 7. The CNB has adopted an inflation targeting framework (see Box 2) and reports on its operations in the Inflation Report. While the CNB does not conduct formal consultations with the public prior to revising monetary regulations, important changes are announced through press releases that are also placed on the CNB website. 8. Financial Policies: Regulations are established on the basis of relevant laws, and implementing ordinances and provisions. Laws are debated and adopted in Parliament, while the relevant supervisory agencies—the CNB for banking and the MOF for all other areas—have the authority to issue regulations related to these laws. The relevant documents are all publicly available, with those related to the CNB and the SC also placed on the web pages of the respective institutions.7 The SC’s consultations with the MOF on its proposals for new regulations are open to the public. 9. The relationship between the financial supervisors (i.e., the CNB, MOF, and SC) is set out in the constituting laws of the respective bodies, and is supported by a trilateral agreement among the institutions concerned. The contents of the trilateral agreement and the extent of consultation among supervisors are focused on three basic areas: (i) exchange of information; (ii) cooperation in supervision; and (iii) common consultations and license information transfer.8 There is some overlap in that the same institution may be subject to supervision by different agencies concerned with separate aspects of its activities, and the mandates and powers of the different supervisors and how they coordinate their activities is not always clear.   Box 2. Transparency of the Inflation Targeting Framework Inflation targeting (IT) is a monetary policy framework that sets quantitative targets for some future rate of inflation, the attainment of which is understood to be the overriding objective of monetary policy. Additionally, IT regimes require a methodology for producing inflation forecasts as well as a forward-looking operating procedure whereby policy instruments are adjusted based on deviations of the inflation forecast from the inflation target. In the Czech Republic, following the exchange rate crisis in May 1997 and subsequent abandonment of the peg, the CNB began to lay the groundwork for adopting an IT framework. Transparency of the Czech IT regime. A Report on the Monetary Program and Monetary Policy of the CNB in 1998 and in the Medium Term was released to the public at end-1997, immediately following the CNB board decision to pursue inflation targeting. The report (i) discussed the rationale behind targeting inflation; (ii) defined clearly that the CNB would target CPI inflation excluding the effects of indirect tax and administered price changes (including a detailed description of how this net inflation target would be calculated); and (iii) announced an indicative target for end-1998 along with a medium-term target for net inflation at end-2000. The report also provided a short explanation of how the level of the inflation target had been chosen, how the conditional inflation forecast would be developed, and how deviations from the target would trigger corresponding adjustments in short-term interest rates, the CNB’s main operating instrument. The goals and functioning of the IT regime are communicated by the CNB to the public through publication of a quarterly Inflation Report, regular release of CNB board minutes, as well as issuance of press statements. The Inflation Report (released one month after the end of the quarter) summarizes economic and policy developments as background for the inflation outlook and is the main written vehicle for sharing views with the public. Short minutes of the monthly monetary policy discussion meetings of the CNB board are released with a two- week lag, and are also published separately in the Inflation Report. In addition, the CNB released a Monetary Strategy Document this year, to initiate discussions with the government on the medium–term inflation objective in the context of EU accession. All these reports, minutes, and press releases are placed on the CNB’s web-site at the time that they are released to the public. In practice, CNB board members and other senior officials also meet with the press to discuss the monetary policy outlook, particularly when decisions are made with respect to changes in interest rates. International Comparisons. All inflation targeting central banks explain and motivate their policies in regular inflation reports or monetary policy statements. The depth and detail of the analysis in these reports varies, as does the style of presentation of information. While best practices with regards to the transparency of IT regimes are still evolving, international comparisons can provide some perspective. At least three central banks—the Reserve Bank of New Zealand (RBNZ), Bank of England (BOE), and Sveriges Riksbank (SR)—publish the time path of their inflation forecasts over the course of the next 2–3 years, including confidence intervals for the forecast. BOE and SR forecasts are explicitly conditional on unchanged interest rates while the RBNZ presents an interest rate trajectory required to achieve the inflation target. The RBNZ also presents three-year paths for inflation, the output gap, a three-month interest rate and the exchange rate; the BOE has also started presenting an output forecast. The RBNZ issues a short explanatory press statement instead of minutes of its six–weekly monetary policy committee meetings. The BOE releases comprehensive minutes of monthly monetary policy meetings, along with details of the data prepared by BOE staff for the committee’s consideration in deciding on interest rate policy. BOE minutes publish the voting record of individual committee member’s regarding interest rate policy. The CNB has tended to present a numerical range for its inflation forecast for specific points in time but does not always make it clear whether a change in interest rates will be needed to meet the inflation target. Further, the published minutes of the CNB board meetings are typically concise summary minutes. Public Availability of Information 10. The presentation and release of the CNB’s monetary data follow the Fund’s SDDS requirements. The CNB maintains a publication program in which these data are made available, and much of the information is also posted on the CNB’s website. In addition to the aggregate balance sheet of the banking sector, which is published as part of the CNB’s monetary data, the central bank also disseminates financial data on the banking sector. These are published quarterly on an aggregate basis by the CNB in the form of a press release and also included in the CNB’s Annual Report. 11. The CNB issues an annual Banking Supervision Report, discussing regulatory issues and some selected indicators of the banking system. The SC publishes a monthly report of its own activities, as well as quarterly budget and activities reports, while its first annual report is about to be published. The supervisor for pensions issues quarterly reports on the drawing of contributions from the state budget, but no other information is disclosed. The new Act on Insurance, which is expected to become effective in early 2000, will oblige the MOF to issue an annual report on its supervisory activities. Aggregated data on the activities of non-bank financial institutions are currently not published by the MOF, although industry associations, for example of insurance companies and pension funds, do publish aggregate information on its membership. Accountability and Assurance of Integrity by the Central Bank and Financial Supervisory Agencies 12. As required by the CNB Act and mentioned above, the central bank submits an annual Report on Economic and Monetary Developments to Parliament and a quarterly Inflation Report to the public. Financial statements of the CNB are audited by an external auditor and are included in the CNB’s Annual Report. The main avenue for accountability of the CNB remains the publication of the various reports and statements it issues regarding its activities and their subsequent scrutiny and discussion in the Parliament and by the general public. The SC provides budget reports to Parliament but, as an enforcement agency, the SC is ultimately held accountable through scrutiny of its enforcement actions during the judicial process (including appeals). 13. Pension funds and insurance companies are regulated by the MOF, which is held accountable in the same way as any government ministry, through the Minister and the Parliament. In the case of non-compliance, the insurance or pension funds supervisory authority initiates an administrative process that can lead to the imposition of regulatory provisions, including penalties, suspension of new business (for insurance companies), or the nomination of a property administrator (for pension funds). The scope of penalties is determined by the relevant laws and hence known to insurance companies and pension funds. Except in the case of revoking a license, the results of an administrative process are not made public. B. IMF Staff Commentary The CNB has a large degree of independence and autonomy in monetary policy formulation and implementation. The primary vehicle for ensuring transparency and accountability is through the publication of quarterly Inflation Reports and other reports, release of summary minutes from meetings of the policy making board, public commentaries by high level CNB officials, and data dissemination through different channels. In these areas, the CNB has made commendable efforts to provide information on a broad range of aspects of its operation in a timely and comprehensive fashion. The operation of the inflation targeting (IT) regime has increased transparency. The independence of the central bank, and the fact that it is not required to, nor does it, explicitly target other variables, supports its IT framework. The presentation and disclosure of information underlying the inflation outlook and related monetary policy decisions is close to the standards of industrial countries. While the discussion of the inflation forecast in the Inflation Report is less detailed than in some industrial countries, this is understandable in light of the comparative difficulty and large uncertainty associated with forecasting inflation in the Czech Republic at the current juncture. Nevertheless, the focus in many official commentaries on a short-term "indicative" inflation target, combined with limited discussion of the medium-term inflation forecast, tends to obscure the CNB’s operating procedures. Further progress could be made to improve the transparency of financial policies. While relevant public reports are issued by several regulators, it would be helpful if this were a more uniform practice. In addition, further efforts could be made to define more clearly the mandates and powers of the various regulatory agencies, and how cooperation is to be implemented when supervision and regulation is shared by different agencies. The public could also be involved more consistently in the process of changing financial policies through more widespread use of open consultation. 1Prepared by staff from the Monetary and Exchange Affairs Department (led by Mr. Ariyoshi) and the European I Department (led by Mr. Feldman), in consultation with the Czech authorities. 2The CNB is the successor institution to the State Bank of Czechoslovakia, which was dissolved in October 1992 when the Czechoslovak Federation split into two independent entities. 3For example, the specific rules and procedures that determine the CNB’s relationship with the fiscal authorities are in the CNB Act, Act No. 530/1990 on Bonds, and the Act on Budgetary Rules. 4The supervisory and regulatory authority of the respective entities are defined in the CNB Act (as concerns banking supervision), Act No. 87/95 (credit unions), Act No. 185/1991, as amended by Act No’s. 320/1995 and 149/1995 (insurance), Act No 42/94 (pension funds) and in the Act on the Securities Commission (No. 15, January 13, 1998) (investment funds and securities firms). 5While the office of Supervision over Savings Cooperatives is formally an independent institution, the MOF appoints its director, determines its statutes and rules governing its performance, and approves an annual report on its performance and its budget. 6Compliance with accounting rules is monitored by the relevant supervisory authority during on-site visits and off-site assessments. 7The SC web page is located at http://www.sec.cz 8Coordination between supervisors is limited by the obligations of confidentiality. The trilateral agreement defines when and how much information can be exchanged between supervisors, which information is exchanged automatically and which must be specifically requested, and provides a framework for regular meetings and consultations.