Monday, March 31, 2008

Hungary's Central Bank Raises Interest Rates

Hungary's central bank increased the benchmark interest rate for the first time in 17months this morning, opting for a larger-than-expected increase in an attempt to halt soaring government bond yields and stem inflation. The Magyar Nemzeti Bank's 12 policy makers, led by President Andras Simor, raised the two-week deposit rate at a meeting earlier this morning to 8 percent from 7.5 percent.

Hungary is the seventh country to raise rates this month after central banks from Poland to Iceland lifted borrowing costs to tame global inflation and reverse a trend of investors flocking to what are seen as less risky assets.

The yield on the benchmark three-year Hungarian government bonds rose to 9.78 percent on March 7, which was their highest level since October 2004, as the weakening in Hungary's economy, growing political uncertainty and problems in global credit markets prompted investors to favor less risky assets. The three-year yield was 9.32 percent on March 27, and the yield has risen 126 basis points since the last meeting of the Hungarian central bank monetary policy committe was held on February 25. At that point policy makers last voted 8-4 to keep interest rates on hold for a fifth month, opting instead to try to fight inflation by letting the forint trade freely for the first time ever and betting on the currency's strengthening. Events have subsequently turned this into a completely false hope, hence today's changed vote.

Hungary's inflation rate did fall back slightly to 6.9 percent in February from 7.1 percent in January, but it still remained at more than twice the bank's 3 percent target level, and really their credibility was also at stake if they continued to sit back and watch. The bank last month raised its inflation forecast to 5.2 percent this year and 3.6 percent for 2009, from 5 percent and 3 percent, respectively.

As Portfolio Hungary comments:

The larger-than-expected hike by the cenbank may signal its strong commitment to meeting its medium-term inflation goal (3%), and that the MPC wanted to “get over with" the rate hike pressure with a single big step.

It is not net clear as yet whether the MPC considered in its decision the medium-term impacts of the political tension between the governing coalition parties that took a drastic turn over the weekend and today.
Posted by Edward Hugh at 2:53 PM

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Hungary At A Glance

Welcome to Hungary Economy Watch Blog. Below you will find the normal chronological blog posts. But first we would like to present some charts which provide background data which we hope will help the first time reader better assess and get to grips with the argument being presented here. Here you will find charts for Hungarian male life expectancy, fertility, quarterly GDP growth, inflation, household demand, retail sales, and import and exports growth. Please click on thumbnails for better viewing.

On the left you can see a chart for Hungarian male life expectancy, and on the right there is one showing Hungary's population development. Just why such factors are important, and need to be taken into account along with more standard macro economic data in order to understand what is currently happening in Hungary and what might subsequently spread across Central and

Eastern Europe can be discovered by reading my Hungary analysis:Just Why Is Hungary So Different From the Rest of the EU 10?The basic arguments being advanced here are that long term fertility and life expectancy do matter, since in the long run they condition the labour force and consumption patterns, and with these inflation and internal demand.



Above left you can see Hungarian ferility, and above right the evolution of the population median age, which are also key parameters, since they influence saving and consumption, and with these internal demand growth. On either side here you can see charts for inflationand quarterly GDP.


Next on the left we have a chart for recent movements in private internal consumption (which shows us the state of internal immediate consumption demand) while on the right we can see changes in constuction activity, (which serve as a nice proxy for fixed capital formation). Finally the chart on the bottom left shows a comparison of Hungary's trade balance 2006 and 2007,


while on the right you can see the evolution in non-forint mortgages for immediate consumption purposes. Arguably these are all the data points you need to understand my lengthy post on why we face a possible recession in Hungary, and why post-recession Hungary may be converted into yet another export dependent economy.


2008 Forecasts: The OECD in December revised their 2007 Hungary forecast down to 1.8%, and 2008 to 2.6%. These numbers are very hard to accept. I will be very surprised if we see calendar year 2000 as high as 1.8%, but more to the point 2.6% seems to be assuming a strong rebound, an assumption for which there is no real substantive evidence. In particular even to get what growth we have been getting in 2007 the Hungarian govenment has been running a deficit of around 6% of GDP. This is going to tighten yet further in 2008, so there is no supportive fiscal environment. And as I keep arguing, it is very hard to see a supportive monetary one. The IMF in their October World Economic Outlook also put a similar figure of 2.7%, while the EU commission in November 2007 came in with the same 2.6% as the OECD.

Perhaps the prize for the most exaggerated prediction here must go to GKI Gazdaságkutató Zrt, who argue that Hungary should expect the incredible annual growth rate of 3.5%. My own view is much more nuanced. I think I am reasonably confident in holding to my recession forecast for 2008, although of course, "recession" does not mean negative growth for the whole year (technically it is simply 2 consecutive quarters of negative growth), so we might then go on to see what, between 0.5 and 1% growth over whole year 2008 (and the only really doubt is whether the contraction starts in Q4 2007, or in Q1 2008). But it is what happens in 2009 and 2010 that matters really, and at this point so many variables are in play (and interrelated ones to boot) that I can only say I envy those who have the courage - or the temerity - to stick their necks out). And of course, if we get a large correction in the value of the forint, then all those carefully weighed and weighted forecasts will, without a shadow of a doubt, go straight and directly off into the bin.