Hungarian rate setters offer hefty final cut

By bne IntelliNews July 21, 2015

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The Monetary Council of the Magyar Nemzeti Bank (MNB) cut rates by 15bp to a new record low of 1.35% on July 21, and announced the end of its latest easing cycle,  despite remaining unsure that inflation is set to recover. 

The size of the cut surprised the market somewhat, which had expected the central bank to taper its action to a 10bp reduction. However, MNB Governor Gyorgy Matolcsy sought to sign off with a bigger splash, telling a press conference following the announcement that monetary loosening is done, at least for the meantime. 

The economy's strong growth, and potential to continue that expansion, means the MNB has done its job, he said. "We have closed the second interest rate reduction cycle. This is it. We will not go further. What is next is a lasting, a long-lasting effect," Matolcsy claimed. 

While the rate setters are convinced growth is now set to continue at a reasonably rapid pace, supported by both domestic and external demand, it is inflation that has been its real target since kicking off the easing cycle in March. Since then it delivered four 15bp cuts. 

While the MNB is far from certain that inflation will continue the recovery it signalled with a 0.5% reading in June, it will want to keep a little powder dry. The likelihood of a rate hike in the US is also in the background. 

Rate setters will also have an eye on the forint. "The latter is a concern given high levels of foreign currency debt in the economy," suggests William Jackson at Capital Economics. Although the bulk of forex mortgage debt was converted late last year, a large proportion of state debt - the highest in the region at 80% or so of GDP - is foreign denominated. 

"In the council's assessment, there continues to be a degree of unused capacity in the economy and inflationary pressures are likely to remain moderate," the MNB said in a statement. "The real economy is likely to have a disinflationary impact at the policy horizon and the negative output gap is expected to close only gradually."

Matolcsy followed that uncertainty on inflation up, pledging the benchmark will now remain on hold "for a very long time". The European Central Bank's accomodative programme could help smooth the way for that, suggest some. 

"The international environment may support the central bank's aspirations," write analysts at Erste. "Although the rate hike in the US is looming, ECB sovereign bond purchases could remain until September 2016. The latter may provide room to keep the Hungarian key rate at this level for a prolonged period." 

Regardless, the guidance that the easing cycle is over naturally has observers discussing the likelihood of a rate hike. However, due to the lack of inflationary pressure, the MNB "will come under little pressure to raise interest rates this year or next, states Jackson.   

"What's more, we think the recent strength of the economic data is unlikely to last," he adds; a view that's hardly uncommon. "We expect GDP growth to slow from an average of 3.5% y/y over the past year to around 2.5-2.8% y/y, as fiscal policy becomes less supportive and EU fund flows slow." 


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