Hungarian central bank raises base rate to 14-year high

Hungarian central bank raises base rate to 14-year high
The reduction of energy subsidies will lift inflation by 3pp, said MNB deputy governor Barnabas Virag.
By bne IntelliNews July 26, 2022

The Monetary Council of the National Bank of Hungary (MNB) raised the rate by 100bp to 10.75% on July 26, above the 50bp consensus. This follows a 200bp hike two weeks ago at the non-rate setting meeting. The base rate is now at its highest level since December 2008.

Among its CEE peers, Hungary has the highest base rate and the lowest negative interest rates. The hawkish guidance could help keep the EUR/HUF exchange rate below 400, after it slid to record lows against the Swiss franc, the dollar and the euro earlier this month.

The overnight deposit rate will rise to 10.25% and the overnight lending rate to 13.25%, both up by 100bp respectively.

Upside risks to inflation have strengthened further since the June interest rate decision, while the risk of second-round inflationary effects has increased, the MNB said in a statement. 

Headline inflation reached 11.7% in June and core inflation edged up to 13.8% up 100bp and 160bp respectively, the highest level in a quarter-century. Policymakers stressed that the MNB will continue interest rate hikes until inflation stabilises around the central bank 3% target sustainably and inflation risks become evenly balanced on the horizon of monetary policy.

The central bank is ready to intervene and use every instrument in its monetary policy toolkit, they added. The MNB statement also touched on macroeconomic outlooks. GDP growth will slow to 2-3% in 2023 from 4.5-5.5% this year.

A combination of the central bank measures and the government’s expenditure-side budget measures have together mitigated financial market risks, according to the statement. Besides freezing state investments and slapping windfall taxes, the government has taken decisive fiscal tightening steps that have helped stabilise the forint.

One such measure includes chipping back on retail energy subsidies from August 1, one of the cornerstones of the government’s policies. Economists said the fiscal adjustment was needed to meet the deficit target of 4.9%.

The improvement in the fiscal and current-account balances strengthens the effectiveness of the monetary policy, deputy governor Barnabas Virag said at a press conference, touching on recent fiscal tightening measures by the government. The deficit in the current account and the trade balance will be temporary and are set to improve as new export capacities had been built out.

The partial phase-out of energy subsidies however could lift headline inflation by 3pp, he added. Inflation could peak at 13-14% this year, driven mainly by rising prices of food and industrial goods, while price increases in services will be smaller.

Virag estimated that Q2 GDP growth reached 6%, but pointed to a "clear slowdown" from June while noting rising risks of recession in the global economy.

Policymakers will revise GDP and inflation estimates in the quarterly report due out in September

The MNB’s deputy governor also touched on the MNB FX swap tenders providing euro liquidity launched on a daily basis from July 8. The MNB called the tenders, aimed at improving monetary policy transmission, effective.

The rate decision was roughly in line with market pricing as one-month forward rates are at 12.05%, the three-month at 12.75% and the six-month at 12.8%, Magyar Bankholding analysts said. The bank sees the base rate peaking at 11.75% in the fall and monetary easing could start from H2 2023 at the earliest.

K&H Bank forecasts that the interest rate cycle could end in December at around 13%, which is above market consensus.

London-based Capital Economics says the MNB will likely remain under pressure to continue with its tightening cycle and rates could rise to 13% by the end of the year.