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Monday, October 13, 2008

Hungary To Get Support Directly From The IMF (Updated)

Well this is hot news, just coming off the Reuters wires. Basically it seems that the International Monetary Fund is ready to offer financial and technical help to Hungary, effectively stepping in and offering its support at a time when EU resources are under considerable strain. The EU has said it welcomes the intervention. Under the circumstances there really was little else it could do.

"The Ecofin (EU finance ministers) welcomes the readiness of the IMF to consider providing technical and financial assistance as needed to Hungary," the executive European Commission and the EU's French presidency said in a joint statement.

The statement said they was following the situation on Hungary's financial markets closely following severe pressure on the forint and Hungarian bonds on Friday. Hungary's main stock index plunged 24 percent last week, the forint weakened 4.8 percent and the yield on the benchmark five-year bond soared to its highest level in almost nine years. The forint rose to 252.41, from 257.8 late on Friday at 10:04 a.m. in Budapest. while the BUX index was up 6.94 percent following the announcement.

Hungary has been hit hard by the global financial crisis because it has one of the most fragile economies in Europe due to its high budget and current account deficits and heavy reliance on external financing. The EU authorities said they were in contact with Hungary to ensure that any conditions attached to possible IMF aid were consistent with economic goal agreed with the EU.

The International Monetary Fund have issued a statement, which says it is “in close dialogue" with the local authorities and the European Union to discuss further responses to the current challenges, including possible technical and financial support by the IMF. The statement by IMF Managing Director Dominique Strauss-Kahn on Hungary is as follows:

“Against the background of global financial turbulence, Hungary's government securities market and some other key markets have experienced stress over recent days."

“These pressures emerged despite the country's improved macroeconomic and financial policies of the past years, which include a strengthening of its fiscal position, a narrowing of the current account deficit, and a cautious implementation of monetary and exchange rate policies."

“The authorities have responded to the recent turmoil in global markets through a continuation of their macroeconomic convergence program, coupled with enhanced monitoring of financial sector developments and increased deposit guarantees, which were augmented in line with an EU-wide move."

“To complement these efforts, we are in close dialogue with the Hungarian authorities and the EU to discuss further responses to the current challenges, including possible technical and financial support by the IMF."

“I have informed the authorities that the IMF stands ready to assist their efforts. We will provide technical assistance as needed and, in the context of a supportive policy setting, are ready to undertake discussions on possible financial assistance, responding rapidly."

I will try and find the time to update during the day, as more information becomes available.


Market reaction to the IMF announcement has been pretty swift, but this was to be expected. By late morning the benchmark BUX stock index was up as much as 10 percent, the forint extended a gain against the euro to 3.6 percent and the benchmark government bond rose the most in almost five years. OTP Bank, Hungary's largest lender, surged as much as 23 percent.

The cost of protecting Hungary's government bonds against default dropped 32 basis points to 338, the biggest decline in three weeks, after more than doubling to a record this month.

This is all good news, but nothing to get euphoric about. The IMF has not put up any money yet, and has simply limeted itself to saying it will do if needed. But this guaranteed will be honoured, and it will need to be.

So then we will need to see just what kind of package is involved, and what the attached "strings" are going to be, before we can assess the macroeconomic consequences. At the real economy level, nothing changes for the time being, and the situation continues to be "preoccupying".

Hungary's MKB Bank has also announced that it is going to stop lending in euro- and Swiss franc-based loans for an unspecified period. The decision has no impact on already approved loan applications. MKB said the forint's huge volatility in the past weeks, especially its marked depreciation at the end of last week, make the outlook on the currency more uncertain than it has ever been.

In the same vein, Gyula Tóth, analyst at UniCredit (ouch!) in Vienna is widely quoted to the effect that the proposal is "a good idea in our view, though clearly short on details at this stage and certainly not something which will reduce HUF volatility in the m-t to the extent that the IMF is unlikely to support anything but a HUF freefloat."

Portfolio Hungary makes the point that MKB is not the only local bank that is cuuting its risks risks by reducing the availability of FX loans, which have sharply decreased or even disappeared at other credit institutions, as well.

In an interview with Portfolio.hu, Csaba Lantos (former head of OTP Bank's retail business) said the ratio of foreign currency-based lending is likely to fall to below 50% within total loans. Sine new retail mortgage loans in Hungary have been almost exclusively foreign currency in recent months, PH point out that:

"Should the suspension of FX-based lending become a permanent phenomenon and other banks follow suit, it could greatly discourage people from taking out loans, as the current HUF interest rate levels are not exactly attractive".

Exactly, and this is precisely why the whole macro cocktail Hungary is drinking at the present time is so devilishly complicated.

Hungary's government today (Tuesday) urged European Union leaders to allow the European Central Bank to intervene in the markets of the 27-nation bloc that don't use the euro to protect the economies of eastern Europe. Hungary's prime minister Ferenc Gyurcsány said he will plans to argue that the EU should help build a safety net for the bloc's poorest members.

``The European Central Bank, regardless of whether a country is a member of the euro zone, should use the same intervention facilities to serve the interest of EU national economies,'' Gyurcsany said at a press conference in Budapest today after meeting with Hungarian business leaders.

Gyurcsany also indicated that he plans to propose at the forthcoming EU summit that the requirement for member states to cut budget deficits to below 3% of GDP be relaxed during the current crisis.


Antal Dániel said...

Hugh, I think we are in a pretty mess but I also think that some problems were overstated or overseen by the overseas institutional investors and last weeks drama was not as severe as it might seem from a Reuters monitor. One reason of the strange prices was a large scale speculation and equity reorganization within Hungary, which involved our wealthiest domestic investors. I mean if you look at the three day performance of OTP you have to wonder that some people lost an awful lot of money and other must have gotten very rich.

Personally I made my best personal investment when I bought OTP shares the day before the IMF announcement. This was a strange trading day: all institutional investors were selling stocks and Hungarians busy buying them because we knew that some of the considerations of the sellers were mistaken.

There was a big nervousness in the forint market, and indeed, the swap market has no liquidity, and for this reason some banks suspended franc and euro lending. There seemed to be a serious conterparty risk, but most people were unaware of the fact that a botched IT maintenance in the clearing house was the biggest problem on a critical day.

All in all, the Hungarian economy remains highly fragile, but the excesses seen last week were a combination of not-well-informed blocked trading from overseas investors, domestic strategic portfolio decisions, annoying glitches in the worst time besides the international crisis.

At the moment I believe that there will be a strong co-operation with the ECB and IMF but Hungary more likely will not use the facility offered by IMF.

Lemmiwinks said...

I think you are paying to much attention to the IMF news.
Turning to the IMF was not a necessity but a communication mistake made by the ever hyperactive PM, who has been in a constant crisis of confidence for 2 years, trying to pose once again as the saviour of the country. Hungary by no means needs the help of IMF. Period.
Just for starter the NHB reserves can cover 3-4 years of CA deficit and the structure of foreign financing is long term.

Edward Hugh said...

Hi Lemmiwinks,

"I think you are paying to much attention to the IMF news."

Well, I'm afraid I don't agree. I think the situation is pretty urgent, and that the IMF would be a good solution to your short term problems. Long term you need some sort of action plan to turn yourselves round as a country on the demographic front.

Now the immediate problem is that the finance for forex mortgages has dried up. This brings one part of your financial system to a "sudden stop", since there is no longer the availability of credit at affordable rates.

Then you are facing the possibility of a rapid outflow of funds as investors throw the towel in, and the currncy tanks as a consequence.

You are losing sight I think of the real economy situation here, with private internal demand already flatlining (and to the downside), government spending set to continue to reduce and export markets - which are your only real hope for any sort of growth in the future entering a very difficult period as country after country falls into what looks set to be quite a lengthy recession.

So with Fx lending gone, domestic consumption, business and investment demand has to fall back on HUF borrowing, and the prohibitively high rates which the NBH is charging in order to protect the forint. You bring rates down to help the real economy and out the money goes, and then the HUF tanks, bring pain to all those with CHF mortgages.

So basically domestic interest rates will need to be steadily brought down and the HUF will find a lower level, which will bring distress to households, and this is why you need the IMF support and guarantees in my view. I don't know how the hell they are going to do this, but I do think that the IMF is your best hope of making the transition away from forex lending dependence, which is now unsustainable.

I don't really know enough about the details of your banking sector, and just how much of their lending, say OTP, has financed by recourse to things like covered bonds, but if the CHF lending has to some extent been financed by the issuance of some form or other of RMBS's over the last couple of years, then of course the banks - just like the Spanish ones that I do know about - will need a lot of support as the defaults mount and the haircuts are allocated.

"Just for starter the NHB reserves can cover 3-4 years of CA deficit and the structure of foreign financing is long term."

Well reserves are around $26 billion, and one months imports are about $10 billion, so you have about two months forward cover on imports (this is the standard measure of reserve soundness), which is not a lot it seems to me.

Brazil, which is pretty sound has 18 to 19 months, for example, while Ukraine (which isn't) has only about 4, and Hungary is below this. So I'm not that impressed about the strength of reserves situation if oush really does come to shove. Really I doubt anyone would be calling in the IMF at this point just for their own "glory".

Edward Hugh said...

Hi Daniel,

"One reason of the strange prices was a large scale speculation and equity reorganization within Hungary"

Well, this is what people are saying everywhere, and I just don't think it is as simple as that. In addition people can't be constantly changing hats, and be "serios investors" one day and "naughty speculators" another.

My whole view, as I have been arguing pretty consistently on this blog for some time now is that the whole position with the forex lending always was unsustainable, and that this was always going to happen.

I think the IMF is your best bet in the short term. You will be safer in their hands than simply left to the vagiaries of what are at this point pretty violent market reactions. The only tragedy is that once you are more or less safe, the next people to go (after the Baltics, who I think are already more or less "gone") will most likely be Romania and Bulgaria. I keep looking nervously over at Poland every day and keeping my fingers crossed.

"At the moment I believe that there will be a strong co-operation with the ECB and IMF but Hungary more likely will not use the facility offered by IMF."

I think we are going to hard times Daniel, we are going to hard times. And I think psychologically it is better to get ready for them.

Edward Hugh said...


"but the excesses seen last week were a combination of not-well-informed blocked trading from overseas investors, domestic strategic portfolio decisions,"

History, as is well known, is nothing more than a sequence of rather unfortunate and badly timed accidents. Such accidents, however, only constitute what the Greek historian Thucydides would have called the "efficient cause" (or trigger) for events. The "final" (or underlying) cause has always to be looked for by digging deeper, otherwise you end up with a view of life as nothing more than "one damn thing after another", and there is no room for such a prototypically human activity as scientific investigation.


Fitch ratings agency specifically warned that what happend last week was going to happen, and I publish the report which covered their warning below. Where they especially prescient. I doubt it, they simply have a lot better idea of how things actually work than many of the people churning out sq kilometres of newsprint for the Hungarian press at the moment.


Fitch Ratings has said on 13 May 2008 that foreign currency lending in Swiss francs and Japanese yen remains an important additional risk to the Hungarian banking sector's financial stability and is unlikely to disappear in the near future.

In a special report published today, Fitch noted that “full-cycle credit costs of foreign currency loans are hard to estimate, given the still adequate credit environment and overall favourable movements in foreign currency. In particular, foreign currency lending to retail borrowers is risky as these customers have typically no foreign currency income sources and are therefore unhedged."

“The asset quality of retail loan portfolios at Hungarian banks has not deteriorated materially to date. However, this needs to be seen in the light of a banking sector that, like in other CEE countries, has not yet been subject to a full economic cycle, irrespective of the economic slowdown since 2007," said Michael Steinbarth, Director in Fitch's Financial Institutions team.

“In addition, the HUF weakening has only been temporary so far and is not sufficiently long to pose serious asset quality problems for the banks," he added.

“The mostly favourable currency and interest rate movements so far have left borrowers and lenders with a perspective of limited downside risks," Fitch said, adding that it understands that while the National Bank of Hungary (NBH) has reacted to inflationary pressures stemming from a softer HUF to date, “it may prove risky to rely on the central bank to continue hiking rates if the HUF weakens further".

“In addition, the re-emergence of global inflationary pressures is also likely to pose another additional risk factor as potential global interest rates hikes could affect the asset quality of foreign currency loans extended by Hungarian banks."

Foreign currency loans have grown continuously over the last four-to-five years as interest rates on them are substantially lower compared to loans in HUF.

At end-2007, around 90% of new retail lending was in foreign currency, in particular in Swiss francs, Fitch noted, adding that retail loans in foreign currency totalled around HUF 3,216 billion or about a fifth of the banks' gross loan books.

At present “the banking sector is sufficiently capitalised and can withstand some external shocks," Fitch said, adding, however, that “this could change if there were to be multiple shocks, including a prolonged weakening of the HUF and a sharp correction of real estate prices".

Edward Hugh said...



"Just for starter the NHB reserves can cover 3-4 years of CA deficit and the structure of foreign financing is long term."

As I suggest above, this isn't a normally used criterion of financial robustness. What really matters is the ability to cover the CA deficit month by month, not sit back and wait till the reserves are done.

The key issue at the moment is that Hungary (along with much of the rest of Eastern Europe) is sufferening from what is known as a sudden stop. Basically there is no foreign currency coming in to lend, and if there is no foreign currency lending in Hungary, it will mean the capital inflow will be smaller. Currently that capital inflow amounts to about €3-€4bn a year, which is close to the current account gap. The ECB is stepping in this morning and lending about 5 billion euros, which will cover you for a year on the CA deficit (for example) but this is only to give time to restructure everything a move away from forex mortgage lending, which is finished I think, for this generation at least.