Hungarian central bank maintains pace of monetary tightening

Hungarian central bank maintains pace of monetary tightening
The war in Ukraine has "posed a much higher risk than usual" to the outlook for inflation, policymakers said in a statement after the meeting.
By bne IntelliNews April 27, 2022

The Monetary Council of the National Bank (MNB) raised the base rate by 100bp to 5.40% at a monthly policy meeting on April 26 at the same clip as in the previous month, in line with estimates.

The pace of tightening clearly demonstrates the central bank’s hawkish stance in fighting inflation, which is set to exceed 10% in the coming months, according to commentaries. Policymakers said the scale of rate hikes would be decided "from month to month".

Policymakers also raised the O/N deposit rate by 100bp to 5.4% and the O/N and one-week collateralised loan rates by 100bp to 8.4%, paving the way for more hikes of the one-week deposit rate, which has become the main monetary policy tool. Analysts expect the 6.15% rate to go up by at least 30% at the weekly tender on Thursday.

The war in Ukraine has "posed a much higher risk than usual" to the outlook for inflation, policymakers said in a statement after the meeting. "The Monetary Council deems it necessary to continue the tightening of monetary conditions and to continue the base rate tightening cycle by taking a decisive step in order to anchor inflation expectations and mitigate second-round inflation risks," it added.

"The Monetary Council will continue the cycle of interest rate hikes until the outlook for inflation stabilises around the central bank target and inflation risks become evenly balanced on the horizon of monetary policy," they added.

Inflation is expected to return to the central bank tolerance band of 2-4% in H2 2023 before reaching the central bank target of 3% in H1 of 2024. 

Speaking after the meeting, central bank governor Gyorgy Matolcsy said the MNB will propose a two-year economic stabilisation programme and lend support to the government to fight inflation jointly with the cabinet and restore equilibrium.

Analysts are expecting the government to carry out a major overhaul of the budget if it wants to maintain the 4.9% deficit targets.

That will not be possible without cutting expenditures or raising windfall taxes. Prime Minister Viktor Orban has ruled out hitting households directly with taxes, but economists warned that in the case of windfall taxes, the extra costs would be eventually passed on to customers.

Matolcsy also hinted at the need for tax reform, which should be "green, digital and concentrate on turnover-based taxes".

His comments suggest that the MNB will also propose the government levy windfall taxes. The cabinet did not respond to the recommendation made by Matolcsy, who over the years has made some critical comments on government policies.

Deputy Governor Barnabas Virag said the council continued its tightening cycle with a "resolute step". He said CPI is expected to continue to climb and "exceed 9%" in April. He put average annual inflation in "the upper third" of the 7.5-9.8% MNB forecast range made in the March inflation report. He added that the war in Ukraine could contribute 2.5-3pp to headline CPI.

Virag said inflation could start to fall in 2023. He said GDP growth could be in the "upper half" of the MNB's 2.5-4.5% forecast. He said policymakers would decide on the scale of rate increases "from month to month", taking into consideration the inflation outlook and the risk environment.

Among risk factors, he noted the war in Ukraine, the issue of balance addressed by Matolcsy and the state of talks on Hungary's European Union funding.

Analysts expect the base rate to hit 7% by mid-year and then to retreat from  H2 2023 at the earliest. The MNB will likely make another 100bp hike in May and then decide on the next move after the latest quarterly inflation report in June, Szazadveg predicted.

Erste Bank sees the base rate peaking at 8% and then gradually easing after inflation is expected to peak in the third quarter. Analyst Janos Nagy said the rule of law mechanism, the forint’s vulnerability, and the inevitable fiscal adjustments pose potential risks to meeting the MNB's targets.

Policymakers also announced the close of the central bank's Bond Funding for Growth Scheme (BGS) to beef up the corporate bond market. Since its launch in  2019, the MNB subscribed to HUF1.5 trillion (€4.1bn) in bonds.

The forint weakened after the rate hike. The EUR/HUF moved up from 374 to 377 by late Tuesday.