Hungary Central Bank Keeps Interest Rates On Hold - What Else Could They Do?

Hungary's Central Bank Monetary Council left its benchmark interest rate (the two week deposit rate) unchanged at 8.50% at Monday's meeting. The decision was completely in line with market expectations.




According to Magyar Nemzeti Bank Governor András Simor speaking after the meeting, leaving rates unchanged was the only scenario discussed. Hungary's central bank has now left its benchmark interest rate unchanged and at a three-year high for the past five meetings.

``At today's meeting, we discussed mainly the global situation, the resulting risk revaluation, the shortage of liquidity and their Hungarian effects,'' Simor said. ``In this situation, keeping tight monetary conditions was warranted.''

Hungary's forint weakened to a two- year low against the euro today while the benchmark stock index fell to its lowest level in more than four years.

The forint weakened 3.6 percent to 280.29 per euro, the second-worst performance internationally, behind only the Zimbabwean dollar. The BUX index fell 2.7 percent to 12,339.56, more than any other benchmark except Argentina's. OTP Bank Nyrt., the nation's largest lender, fell again today, a further 10.1 percent to reach 2,650 forint.

So far this month the forint has dropped 15 percent against the euro, the BUX is down 35 percent and OTP has fallen 57 percent, wiping 968.8 billion forint ($4.6 billion) off the lender's value. Hungary's central bank today distributed 107 billion forint ($511 million) in its first offering of loan instruments aimed at resuscitating the country's debt market, including 30 billion forint, the full amount available, of six-month loans at a rate of 9.16 percent,


Hungary's central bank doesn't have an exchange-rate goal and considers the recent slide of the country's currency unwarranted in terms of Hungary's economic fundamentals, according to bank governor András Simor. I really am not sure where he is getting the nerve to say the fundamentals are sound from, since growth is about to fall through the floor as far as I can see, especially if people are unable to keep up their payments on the Swiss franc mortgages. I think we are all agreed that what Hungarian's now need is some realism and some policies which are based on sound arguments and can offer hope. This doesn't sound like one of those to me.

Monetary policy makers still have tools they can use to affect the currency, Simor added, presumeably intending to threaten intervention in the currency markets. He also said, however, that an intervention to counter the forint's 15 percent drop so far this month would be "unjustified,'' since he felt it was unclear just how long the decline will last.

"At the moment, we view intervention as being unjustified,'' Simor said. ``We don't look at short-term price moves, but long- term trends. It can't be seen right now if this is a long-term trend or a short-term swing. Intervention is an important tool that we don't use much, but we do have it.''

Really the National Bank of Hungary is trapped at this point. Domestic demand conditions indicate that a substantial interest rate easing is called for in order to provide some stimulus to the economy, especially in an envoronment where exporting will be hard and fiscal policy will be towards contraction rather than towards expanison. However, given the forints vulnerability this is impossible, and most analysts seem to expect that monetary policy will tighten as we go into the recession. This can only mean one thing, as far as I can see: a sharp contraction in the economy and pressures towards wage and price deflation which will only serve to put all those who have recently taken out Swiss Franc mortgages with high LtV's on 2007/08 property values under even more pressure.

Nonetheless, betting on interest rate increases seems to be where the money is going at the moment, and forward-rate agreements are showing that investors have given up expectations of lower rates in the next six months. They now foresee the rate rising more than 75 basis points, compared with a projection of a rate cut a month ago. The three-month money market rate is at 8.93 percent, or 43 basis points higher than the central bank rate. That compares with 9 basis points a month ago.

Well then, what is it they say on the reverse face of the dollar: in God we trust, and heaven help us if they are getting all this wrong!