Thursday, August 30, 2007
For what it is worth, Hungary's rate of unemployment is now running at 7.0% year on year. This is the figure of the May-July period, but it remains unchanged from the previous three-month period, according to the latest report from the Central Statistics Office (PDF).
Now this in itself is strange. Hungarian economic activity is dropping steadily, we may well be going into a recession, yet the unemployment rate hardly seems to be moving. The 7.0% jobless rate (a figure which is even down from the 7.3% March-May rate), is in fact the lowest rate to be achieved since the end of 2004. The following graph shows the evolution of Hungarian unemployment
The KSH state that the number of unemployed in the May - July period was 296,700 and the number of employed 3.949 million. This latter number is a slight drop from the 3.943 m registered in April-June. At the same time the number of unemployed dropped by 5,800 from the previous 3-m period and remained largely unchanged year on year with the same period in 2006. The jobless rate for the 15-24 year old group, which represents 17.8% of all unemployed, was 16.8%, and this was down 1.7 percentage points from the same period last year.
So what is happening here? Well basically Hungary is getting older, and the working age population is starting to fall, that's what seems to be happening. First off here is a graph which shows the actual numbers of unemployed people in Hungary since the start of 2006.
Now lets take a look at the 15 - 64 age group, over the same period. As we can see, in general terms it is dropping steadily.
The employed population in this age group is fluctuating. It seems to have touched bottom in January/February 2007, and to be now increasing again. Given that the economy is slowing considerably while this employment expansion is taking place, one prima facie conclusion would be that productivity is not rising, and may well be slowing, since with more people working and more productivity the economy should accelerate, not slow. Of course one other possibility is that the average number of hours worked per capita is reducing - no overtime etc - and this is a possibility I will try and explore.
When it comes to the age composition of the labour force we can also notice something interesting. Obviously the majority of the workforce are - at this point in time - in the productive age groups between 25 and 55. But it is also interesting to look at participation rates in the groups outside this age bracket, to see what is happening, and what the future has in stor. Below I have made a chart showing the numbers of people in the 65-74, 60-64 and 15-24 age groups. Now what is clear is that these two latter groups are expanding - this is what an ageing workforce means - while the latter, youngest group, is contracting.
This contraction in the 15 to 24 age group can be for a number of reasons. In the first place it is simply a reflection of the fact that there are progressively less and less people in this age group, as can be seen in the next graph.
But even of those who there are in this age group, given that Hungary wants to become a more modern, productive, economy, it is only to be expected that a growing percentage will seek to achieve a higher level of education and training, and this again is reflected in the graph below which show the participation rates for the three groups we are looking at.
So what is apparent is that while the participation rate for the 15 - 24 group has been falling, the rate for the older groups has been rising steadily. This is only to be expected, since raising the participation rates of the the older groups is one of the only ways (outside immigration) that Hungary is going to be able to find extra labour force in the future, plus of course with the fiscal reductions there will be less available in the way of retirement pensions, so it will become normal that people have to work longer.
So is all, in this case well, that ends well. Well not really, since there is productivity to think about here. It is not my intention to be ageist, but a person in the 65-74 group is not productively equivalent to a person in the 40 to 50 group, and this is the swap that countries like Hungary will soon be making.
In conclusion I would like to mention the fact that Hungary might have something to learn from the case of Japan. In order to try and explain what I am getting at, here's a convenient graph of Japanese economic growth 1955 to 2003 prepared by US economist Michael Smitka from Japanese data available here.
What is obvious from looking at this growth profile is that Japanese growth has been far from uniform over the last 50 years or so. This really shouldn't be so surprising when we think about economic theory a little. Key components of economic growth are the proportions of the total population working, and the kinds of activities they are engaged in. Now if we look at the early part of the graph we can see very high growth rates (which we can also find in eg China, and some parts of Eastern Europe - not Hungary unfortunately - right now). This is know as "catch up" growth, and is due in one part to an ever greater part of the total population becoming involved in economically productive activity, and in the other to a technological (productivity driven) 'catching up' process. As developing countries tend to start at some distance from the existing technological frontier then growth can be proportionately more rapid as they close the distance (again this process can be seen now across the Eastern European EU accession economies).
However - and this is the important point for us here - with time this growth spurt eventually slows, although the loss is to some extent offset as societies generally move up the median age brackets (in the standard cases from median ages of around 30 to median ages in the 35 to 40 category, but this is exactly where Eastern Europe is so very different from the standard case) and by a growing importance of what have come to be known as 'prime age workers' (ie workers in the 35 to 50 age category, just where Hungary is now). A reflection of this prime age wage/productivity effect can be seen in the chart below which shows how the age related earnings structure has altered in Japan over the years between 1970 and 1997.
The most important point to note is that wages generally peak somewhere in the 50-54 age range (even though, as a result of the accelerated ageing process which has taken place there many workers in Japan now continue to work up to the age of 75and beyond). The point here is that this individual wage profile may be considered to be some sort of kind of proxy representation for what actually happens to productivity performance of an entire population as it ages. One very revealing detail is that while the shape of the hump has changed somewhat over the years there has been little noticeable drift to the right, which should give some indication of the extent of the age-related productivity problem. Indeed in Japan, as more and more workers have come to belong to the older age groups, aggregate wages at first stagnated, and have now begun to trend down.
OK, this was just an initial exploration. There is no conclusion. Now we need to follow what happens and see how all this works out over time. There are a lot of theories about ageing knocking about all over the place. Now we are going to get to see what the reality actually is.
Monday, August 27, 2007
In the first six months of 2007 there were fewer live births and more deaths compared to the same period of the previous year. Remarkably fewer couples got married than one year before. According to the preliminary data 46 718 children were born, 67 138 inhabitants died and 16 830 couples got married. The degree of natural decrease was higher than in January–June 2006. The population size of the country was estimated to be 10 055 thousands at the end of the period.
In fact in the same period of 2006 there were 48,149 births and 66,411 deaths, which just shows that it is a mistake here to judge the numbers year by year.
If we look at the figures since the early 1990s the trend is clear.
First off life expectancy. As we can see this has been rising steadily. This is of course very good news, but it is one of the factors which is deeply implicated in the process of population ageing in Hungary, and this ageing is now occuring rapidly. Rising life expectancy also implies, especially since a significant part of the increase is being achieved by extending the outlook for the over 60s, that this is quite expensive, and needs financing, and this is just one more reason why there will be permanent pressure on the health component of the government budget from now on. In fact I commented on some of these issues in this post which I wrote following the death of Ferenc Puskas.
Hungary's median age which is currently 38.9, is now set to rise systematically and rapidly.Now if we turn to births and deaths, well what can I say, the situation is a serious one, since mortality has now long been above natality, and this situation is now structural and deeply embedded. Really quite drastic measures are now needed to do something to reverse this trend. One of these would be pro-natality policies (but these cost money, and money is one of the things which the Hungarian government hasn't exactly got a lot of right now). Anoth would be inward migration, but migrants need - and are attracted by - jobs. And again, given the looming recession which seems to face Hungary, job creation isn't going to be one of Hungary's specialties in the short term. So a difficult situation all round I think. What I would say is that once Hungary pulls out of recession addressing this problem really ought to become the number one national priority.
Finally, and just to confirm the general picture I am presenting, here is the fertility chart for Hungary since 1970. As can be seen, the pattern in Hungary is rather different from many other East European societies in that the fertility decline is long standing, and not consequent on the fall of the Berlin Wall. Indeed Hungary has now been below replacement fertility for nearly thirty years now. A quite remarkable situations, all things considered, and not a happy one. Not at all.
The rate-setting Monetary Council, which was presided over by bank President Andras Simor, declined to lower the two-week deposit rate from 7.75 percent. The forint has lost 4 percent against the euro over the month before the rate decision - along with several other east European currencies - as investors have been busy selling what are perceived to be risky emerging-market assets.As Andras Simor is quoted as saying in the press conference, this must have been a very hard decision:
``This was a very tough decision.....If Hungary was isolated, there may have been room to cut, but the outside factors motivated the decision.''The bank also raised its forecast for inflation in 2007 to 7.6 percent, compared with the 7.3 percent anticipate three months ago in the last quarterly inflation forecast. It also raised its average 2008 inflation forecast to 4.5 percent from 3.6 percent.
As Gyula Tóth, UniCredit is quoted as saying:
"In terms of why they didn't cut today, we'd say the principal reason is the revision higher in the headline inflation forecast (and the bizarre signal effect of cutting at the same time), with the global market backdrop only a secondary factor."
I couldn't agree more. There was just no way they could lower the rate at this point and maintain credibility on inflation, even though the construction and retail sales data are just crying out for action. But there are more problems, since lowering the rate would be effectively to drop the forint, but then there are all those Swiss Franc denominated mortgages to think about. No easy solutions here, only hard bullets to bite.
"In June the fall of retail sales continued. The volume of retail sales adjusted for calendar effects decreased by 1.5% in the first half of 2007, by 3.0% in the second quarter and by 3.6% in June, compared to the same period of the previous year. Compared to the previous month the volume of retail sales adjusted for seasonal and calendar effects fell by 0.4%."
For what they are worth I reproduce the relevant graphs and charts below. If you put together the construction index and the retail sales one, it is clear domestic demand is going to be extremely weak going forward, if you add to this the impact of inflation on exports then this sector will be hard pressed to pull the economy, so it is very hard for me to see where those analysts are getting the growth numbers they have in their forecasts from. More of this in September when we get the detailed breakdown of Q2 2007 GDP.
As we can see from the retail sales index, things are moving down.
If we now look at the monthly change we can see that the last month when sales increased was in fact December, just before xmas.
And the year on year data only adds to the general picture, and to the gloom.
Tuesday, August 21, 2007
There are three major risks for Hungary’s real economy arising from the currency and stockmarket troubles. First, the weakening currency threatens the achievement of the authorities’ inflation target and so could the central bank to halt its monetary easing. The National Bank of Hungary (NBH) says that its inflation target is achievable at an exchange rate of Ft250-255:€1; it follows that if the exchange rate stays around Ft260:€1 or worse, then imported inflation will threaten the target.
In other regional economies, which are growing strongly, a mild monetary tightening would not be unduly worrying. Hungary, however, is in the midst of an austerity drive that has nearly brought the economy to a standstill. In a region where first-quarter GDP growth averaged around 7%, Hungary’s economy grew by just 2.7%. The flash estimate for the second quarter, at just 1.4% year on year, is even more alarming. In this context, the maintenance of relatively high interest rates at their current level is the last thing the economy needs. Still, this remains a serious risk.
Second, the government’s budgetary management--and its painstaking efforts to rebuild credibility--appear vulnerable. Prime Minister Ferenc Gyurcsany’s administration has cut its deficit target for 2007 twice already this year, in moves welcomed by markets, and has generally adopted a conservative approach to forecasting. However, July’s budgetary number exceeded the target. The comfort zone that the government has created, as part of its effort to rebuild its reputation, has shrunk dramatically.
Because public-sector debt is at 66% of GDP, a serious liquidity crunch that increases the cost of borrowing could quite easily push the government’s budgetary management off-course, thereby undercutting Mr Gyurcsany’s efforts to rebuild credibility among investors.
Third, the banking sector is potentially vulnerable and so too are Hungary’s legions of borrowers in foreign currency. The West European banks that dominate Hungary’s financial sector hail mainly from Austria, Germany and the Netherlands, all countries with some bank-sector exposure to the US subprime market. This raises a question as to whether borrowing costs in Hungary could rise if such banks experience liquidity problems and so are forced to tighten lending policies.
Moreover, despite the austerity measures enacted in recent months, Hungarian households are continuing to borrow—predominantly in Swiss francs rather than their own currency—as they seek to cushion the impact of falling real wages. Foreign-currency loans have been a feature of Hungary’s financial scene for several years. It wasn’t a problem when the forint faced mainly appreciating pressure. Now the Swiss currency is appreciating against the euro, and the forint has slumped. If this situation is maintained beyond a few weeks, Hungarian borrowers will struggle to meet their monthly payments. This will cast another shadow on an already glooming macroeconomic picture and could conceivably push several banks into serious trouble.
Sunday, August 19, 2007
But what can also be observed is the steepness of the decline in June, which can also be noted in the chart for monthly changes (see below). As a result of the June drop - which according to the statistical office occurred in both large construction companies involved in areas like road construction and small firms involved in residential construction activity - the 12-month index fell 15% to reach its lowest since 2003. Although the construction industry constitutes a comparatively small share of the overall Hungarian GDP (in the region of 5%), these poor results may partly help to explain Hungary's poor Q2 GDP growth figure, although we will have to await the detailed breakdown of Q2 GDP due in September to confirm this.
The construction of buildings fell by 15.2% and that of civil engineering decreased by 16.6% when compared with June 2006. Since the start of 2007 construction of buildings has fallen by 1.3% while civil engineering is down by 6.8% as compared with the first six months of 2006. Month on month (ie when compared with May 2007) the construction of buildings decreased by 7.4%, while activity in civil engineering fell by 5.2%.
The stock of orders at the end of June was 41.3% below the level for June 2006. Within this, the stock of orders for building construction decreased by 23% while that for civil engineering was down by a half.
All of this is consistent with a sharp reduction in government spending (civil engineering) and in domestic consumption (housebuilding), as such it really should have been expected, although as I say, given the small share of construction in GDP this reduction alone cannot explain the low Q2 reading.
The extent of the slump in construction activity is also very clear from the following chart which shows annual changes in output by month. The extent of the drop in June is very clear, as is striking the fact that positive y-o-y readings have only been registered in 3 months since the start of 2006.
What is really puzzling me is what can be seen from the chart below, which shows trend construction from the start of 2004. As can be seen there was something of a boom in 2005 which then petered out, since which time it has been downhill all the way. What I don't really understand is why construction should have slowed after mid 2005, while across the rest of the EU8 and in the rest of Europe generally activity was accelerating. This just seems to be one more area where the evolution of the Hungarian economy seems to be somewhat out of step with the rest. I only wish I understood why. Comments welcome.
In a situation where liquidity is tightening there is no doubt that the most liquidity-hungry countries are those with large current account deficits and large external debt. In this category we find Turkey, South Africa, Hungary, and Iceland. Furthermore, risks are heightened in the Baltic states, Romania, and Bulgaria.
That would seem to put Eastern Europe pretty generally on the map I would have thought. Chrisiansen seems to accept the arrival of the credit crunch as now a fact:
For the last couple of weeks, we have warned that the global credit crunch could spread to Emerging Markets. This has now clearly happened, but given the major moves in the global credit and equity markets there clearly is potential for even more contagion to Emerging Markets. Therefore, there is also reason to start looking for safe havens within Emerging Markets. Here external funding needs will be the key.
The credit crunch has triggered a strengthening of the yen and to a lesser extent, the Swiss franc. We would in particular watch the Swiss franc as many households in Central and Eastern Europe have funded their property investments with Swiss franc loans. Hence, if the Swiss franc strengthens further then it could put additional pressures on the CEE markets mostly exposed to the Swiss franc.
This is really code language for speaking about Hungary, since in Hungary around 80% of the mortgages which have been taken out in recent times have been Swiss Franc denominated (via Austrian banks I should mention, so the Austrian banking sector is also partially at risk, although the Austrian Central Bank think they can withstand the shock if you look at the "Stress Testing the Exposure of Austrian Banks in Central and Eastern Europe" paper presented here.
So here are Danske Banks recommendations. The countries you are told to avoid are in red:
There is also another conclusion drawn from the dependency on the Swiss Franc:
If the markets continue to run away from the above-mentioned markets then it will also have ramifications for monetary policy in these countries. We would particularly argue that the planned / signalled monetary easing in Turkey and Hungary will be postponed maybe long into 2008.
That is to say it will not be possible for the Hungarian Central Bank to reduce interest rates as it would like to to support internal demand since this would most likely send the Forint hurtling down, and this would make the position of those on Swiss Franc mortgages well-nigh impossible.
All of which brings us back to Danske Bank Chief Economist Carsten Valgreen, and his widely quoted paper on how in an age of global capital flows the monetary authorities in small open economies may lose effective control over the direction of their domestic economies. In particulatr we might like to examine the following chart, which comes from the paper. entitled The Global Financial Accelerator and the role of International Credit Agencies.
Now the data Valgreen uses comes from 2005, and since that time the position can only have changed in the direction of increased dependence on non-locally denominated currency loans (and especially in those countries who are coming from a lower base). Thus it can be seen that the risk level coming from any currency adjustment is quite significant. The following summary of the content of Valgreen's paper is also interesting, since it reveals to what extent the monetary authorities in a small open economy (and perhaps a not so small one, think Poland) may well lose control in a way which makes any adjustment process very difficult, with or without pegs:
The choice major countries have made in the classical trilemma: ie, Free movements of capital and floating exchange rates – has left room for independent monetary policy. But will it continue to be so? This is not as obvious as it may seem. Legally central banks have monopolies on the issuance of money in a territory. However, as international capital flows are freed, as assets are becoming easier to use as collateral for creating new money and as money is inherently intangible, monetary transactions with important implications for the real economy in a territory can increasingly take place beyond the control of the central bank. This implies that central banks are losing control over monetary conditions in a broad sense. Historically, this has of course always been happening from time to time. In monetarily unstable economies, hyperinflation has lead to capital flight and the development of hard currency” economies based on foreign fiat money or gold.
The new thing – this paper will argue – is that we are increasingly starting to see the loss of monetary control in economies with stable non-inflationary monetary policies. This is especially the case in small open advanced – or semi-advanced – economies. And it is happening in fixed exchange rate regimes and floating regimes alike.
One bright spot - or potential safe haven - does exist in Eastern Europe however: the Czech Republic:
Finally it should be noted that the Czech koruna (CZK) unlike most other CEE currencies should be expected to strengthen in the present environment due to unwinding of CZK-funded carry trades. That said, the CZK is fundamentally not undervalued and the Czech central bank should be expected to keep interest rates below the ECB rate especially if the CZK strengthening accelerates. That will limit the potential for strengthening of the CZK.
In case any of you notice some inconsistency in this view of the Czech Republic, since of course Czechia is also one of the "reds" identified by Christiansen in his CA chart above (though to a much lesser extent than some of the others it needs to be said), I think it should be pointed out that other factors beyond the CA deficit need to be taken into account when evaluating the situation (the value content of exports would be one of these, what the deficit is based on would be another - ie are you importing machinery and equipment which can subsequently be used for exports - and the openness of the labour market to immigration would be another - there is of course an acute labour shortage in the Czechia , but they are they are actively attempting to address this and they are even out trying to recruit in Vietnam). Essentially the Czech economy seems to be on pretty solid ground (as may also be the Slovenian one), and you do need islands of tranquility in Oceans of tempest. So some countries will for this very reason prove to be win-win, while others may well, by the same token, prove to be lose-lose. Unfortunately historic reality is seldom just.
I also would be much more cautious than Christiansen is about Russia, political instability is evident, as are labour shortages. We need to see what happens next to oil and other commodity prices before sticking our necks out on Russia I think.
Saturday, August 18, 2007
This was the lowest quarterly rate to be recorded in Hungary since 1996 (as can be seen to some extent from the chart below which unfortunately only goes back to the start of 2005) and well below the general expectations of analysts, who had mainly been predicting GDP growth of over 2% for 2007. This number would now seem highly optimistic.
Hungary is in fact in the middle of a really tough fiscal readjustment as the government attempts to reduce its budget deficit, which at 9.2% in 2006 was by far the largest in the European Union. The main impact of the austerity programme has been on internal demand and thus Hungary’s GDP growth - which had been hovering around the 4% mark in recent years (see chart below) - has inevitably taken a hit.
Lars Rasmussen, analyst at Danske Bank, says in a research note that:
Preliminary GDP numbers for Q2 published this morning, showed that growth continues to slow quite dramatically. More specifically, economic growth plunged to 1.4% y/y in Q2 well below our projection (2.4% y/y) and the market expectation (2.5% y/y) and down from 2.7% y/y in Q1. Growth is the lowest in 11 years, and the slowdown in inflation continues pretty much as expected. The numbers are confirmation that last year's fiscal tightening is working. This is obviously positive and we would expect inflation to continue to ease in the coming months, which could keep the door open for a fur-ther moderate easing of monetary policy. That said, the worsened global credit conditions could weigh on the Hungarian forint going forward and make monetary easing harder, and the Hungarian central bank is likely to move very cautiously on monetary easing.
We will have cause to return to this issue in subsequent posts, but it is clear that the current global market volatility - and the accompanying pressure on the Forint - will only serve to make it very difficult for the National Bank of Hungary to lower interest rates, and thus put some sort of platform under domestic demand. All of which, being blunt, means that the Hungarian authorities now face a very difficult situation indeed.
This is especially true given that some 80% of Hungarian mortgages are in Swiss Francs (and a more substantial analysis here), which means that any significant drop in the Forint would really cause substantial problems for domestic consumption way beyond those which are already arising. On the other hand, of course, given Hungary's currently high inflation rate (in the 8 to 9% range) it will be really hard to achieve export competitiveness without some sort of devaluation of the Forint (which is, of course, already happening as part of the global credit correction). So the Hungarian authorities are stuck between the proverbial rock and the hard place.
If we look at the chart below we will see that the actual GDP growth in Q2 2007 which was only 0.2% was very low indeed. With domestic demand dropping rapidly, and the external environment possibly about to take a turn for the worse things do not really look any too good.
However, if it is any cheer for any of my Hungarian readers, Lars Rasmussen's Danske Bank colleague Lars Christensen is widely quoted as saying that Hungary should not be too worried by apparently falling behind the region. “The slowdown will make more room for growth,” he said. “A lot of countries in Central and Eastern Europe - Bulgaria, Romania and Slovakia - have not taken the measures Hungary have and will be in a worse situation in a few years.” Well, leaving aside the issue of whether we should really be taking delight in others difficulties, I'm afraid that while Christiansen may well be right that it may well not be long before "the Baltic disease" (strong inflow of funds coupled with strong outflow of people, after many years of very low fertility, producing massive overheating and dramatic wage inflation) strikes the mentioned countries, it should be noted that this has NOT been Hungary's problem, although Hungary does - like all the other Eastern European countries - have a very limited demographic time window across which to address the underlying problem, so unfortunately it may well not be true that the ground lost during the current impending slowdown can be so easily recovered later. More on this as we move forward.