The political risks are rising in Czech Republic

Czech elections could spring a surprise and attempts to form coalitions could lead to deadlock and months of instability

On October 8 and 9, voters head to the polls to elect a new government in Czechia.

Although it had seemed as if the opposition Pirates and Mayors alliance could spring a surprise, prime minister Andrej Babiš’ populist and business-friendly party, ANO 2011, has regained its lead in the polls on the back of an economic recovery, pandemic control and effective campaigning.

The main ruling party is on around 27%, ahead of the Pirates and Mayors on 21% and a centre-right alliance led by the Civic Democratic Party (ODS), run by former government minister Petr Fiala, also on 21%.

ANO is focusing on its older voter base, highlighting what it has done for pensions, while many potential voters are now forgiving of the mistakes the government made when the pandemic first emerged.

If ANO does indeed win the elections then its troubles may be only just beginning. First, it will be in a minority again, with its coalition partner, the Social Democratic Party (ČSSD), and support partner, the Communist Party (KSČM), on the wane and almost certainly on course to lose seats.

If ANO does indeed win the elections then its troubles may be only just beginning 

ANO will be handed the opportunity to form a government, but it has few allies and brokering an agreement might prove futile, opening up the possibility for either the Pirates and Mayors or centre-right to stake a claim.

Babiš has so far ruled out working with the far-right Freedom and Direct Democracy, although it could be a potential support partner to push through legislation.

Then there is the prospect of Babiš himself stepping down. He may be reluctant to do so, but he may wish to concentrate on his business interests after a lengthy investigation into the receipt of illegal subsidies by European authorities. He could also prepare to run for the presidency in 2023.

This may then tempt ONS to join forces with ANO, which has ruled out working with him.

Deadlock

Euromoney survey contributor and freelance political journalist David Hutt, who is based in Czech Republic, believes that as long as the country avoids a political crisis after the election then the risk to investors will be minimal.

This is endorsed by the fact the country has always been a relatively safe option in the region. It is currently ranking 22^nd out of 174 countries in Euromoney’s global risk rankings, in tier 2 (the second lowest risk category), having shown improvement in the first half of this year. That puts it on a par with Belgium and Iceland:

However, Hutt also says the elections are likely to spring a surprise when the parties attempt to form a coalition, due to the fact that ANO’s coalition partners – ČSSD and KSČM – are on the decline.

Babiš may indeed decide it is time to stand down out of self-interest.

“The EU is now cracking down on him over conflict of interest, involving his Agrofert conglomerate taking EU subsidies. A Commission audit recently found him to be in conflict of interest and his firm could be forced to pay back millions in subsidies.

There is speculation that the EU could hold up Czech Republic’s share of the recovery fund if Babiš stays in power 

 - David Hutt

“There is speculation that the EU could hold up Czech Republic’s share of the recovery fund if Babiš stays in power after October’s election due to this.”

Hutt also discusses the possibility of the two new coalitions, which are unlikely to win October's election, trying somehow to form a coalition government.

“Politics is pretty much up in the air right now, and a deadlock post-election – especially if president Miloš Zeman steps in and acts unconstitutionally to favour one side – could lead to months of instability.”

Whether or not that hits Czech assets is debateable, but it does represent a risk.

Issues

Admittedly there are now fewer major issues. The economy is growing again, and in terms of Covid-19, Czech Republic has gone from being one of the worst countries in early 2021 to now one of the best in Europe.

“There are concerns that the vaccination rate is now stalling, due to widespread anti-vaxxer feeling, but it appears unlikely that there will be further lockdowns this year and, barring a major surge in new variants, Czech Republic seems out of the water,” says Hutt.

After last year’s 5.6% decline, GDP is predicted to grow in real terms by 2.8% this year, according to the latest forecasts from Bank Austria. The country will run a current account surplus of 3.9% of GDP, supporting the koruna, although inflation pressure has increased, and the fiscal metrics will take time to ameliorate.

The budget deficit is predicted to rise to 8% of GDP this year, before narrowing in 2022, and the debt burden is seen climbing to 44% of GDP, with external debt worth 77% of GDP.

Bank Austria also denotes the country’s short-term debt of 43% of GDP and household debt of almost 41% of GDP as “high vulnerability” warning indicators.

Hutt notes the housing bubble is also a concern, as rent and sale prices have skyrocketed since the pandemic, by more than 15% in some parts of the country.

“While wages are also increasing, it doesn't appear they are keeping step with the soaring cost of living,” he says.

“We can expect higher minimum wages, more government relief for the poor, and perhaps more regulation of the housing sector, in the coming years.”

That doesn’t mean the Czech Republic is about to become a high-risk option – but the pandemic, economic stresses and political noise are all worth monitoring.