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Thursday, October 11, 2007

Hungary Inflation August 2007

Hungary's inflation rate fell to the lowest this year in September, giving the central bank some future scope to reduce what is at this point the European Union's highest benchmark interest rate.

The annual inflation rate fell to 6.4 percent from 8.3 percent in August, which was perhaps a touch higher than many analysts had expected. Prices rose 0.7 percent from August, while the core inflation rate, excluding volatile food and energy prices, was 0.6 percent for the month and 4.3 percent for the year.

Quote of the day:

"The drop (in headline inflation) was due to large base effects from the fiscal measures which had added over 2% points to the headline CPI rate last September."
Nóra Szentiványi, JPMorgan, London

Hungarian inflation, which is the EU's second-highest after Latvia's, is set to slow in the coming months as the effects of higher taxes and energy costs run out. The inflation rate has steadily declined from a six-year high in March, after quadrupling in a year due in large part to the impact of the government's austerity measures.

The annual inflation rate however is still likely to average 7.6 percent this year, which is higher than the earlier central bank 7.3 percent forecast. Policy makers generally expect inflation to slow to an average 4.5 percent next year and 2.4 percent in 2009, but there are a large number of question marks still hovering over every point in this process. Especially as regards the future evolution of food prices. This is no small "beer" since food prices in September rose by 2.2 percent from August and were 9.8 percent higher than a year earlier. Also food prices account for 22.4 percent of the consumer price index basket in Hungary.

A summer drought also complicated things since it lead to an increase in food prices, and this may keep inflation from slowing as much as policy makers anticipate. Temperatures in Hungary rose to all-time highs in July, and lead to the death of as many as 500 people, according to health authority estimates. The wheat harvest in what is the EU's fourth-largest producer of the crop was the smallest in four years.

The Central Bank's Monetary Council cut the benchmark interest rate to 7.5 percent on the 25 September, and this was the second reduction this year. Forward- rate agreements show investors consider the central bank likely to cut interest rates by at least three quarters of a percentage point in the next nine months. This process is however very uncertain at this point in time, since noone is really sure at this point what kind of slowdown the eurozone has entered - this is why Trichet was so non-committal at last weeks rate-setting meeting - or how this will affect Hungary. Since there has to be a limit to how far the central bank can let the forint fall due to internal balance sheet complications (the Swiss franc mortgages factor), my guess is that this can now become much more of a consideration as we move forward than the food price issue will be. The sharpness of the internal demand slowdown will mean that pressure to do something will mount, but as I say, reducing interest rates may prove hard for other reasons. Hence Hungarian monetary policy is stuck between the proverbial rock and the hard place.

The central bank will next meet to discuss borrowing costs on Oct. 29, so I guess we will get our next indication of how they intend to play this then.

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