Hungary’s central bank begins monetary tightening cycle by raising rates for first time in 10 years

Hungary’s central bank begins monetary tightening cycle by raising rates for first time in 10 years
Hungarian central bank governor Gyorgy Matolcsy said the MNB will begin a monetary tightening cycle.
By bne IntelliNews June 22, 2021

The Monetary Council of the Hungarian National Bank (MNB) raised the base rate by 30bp to 0.90% at a monthly policy meeting on June 22 in a unanimous vote, in a widely expected move. The EUR/HUF rate moved from 356 to 353 after the decision.

The MNB became the first European Union central bank to raise rates in the aftermath of the pandemic, amid a global rise in inflation levels.

Central bank officials had earlier flagged a possible rate rise at the monthly policy meeting in June to tame rising inflation, which hit a 2.5-year high of 5.1% in April and May, well outside of the +/- 1pp tolerance band of the 3.0% mid-term target.

Last month deputy governor Barnabas Virrag signalled the start of the tightening cycle and mentioned that the MNB will raise rates in "several steps" to contain inflation. This has marked a clear shift as the MNB has pursued one of the most dovish monetary policies in the region in the past.

Governor Gyorgy Matolcsy has repeatedly warned of the risks of overheating of the economy,  and of the need for inflation to remain on a sustainable high level when he  criticised the government for not cutting the budget deficit fast enough in its 2022 budget plan. Parliament approved a 5.9% deficit target, well above the 3% Maastricht ceiling.

In a statement released after the meeting, the council said it "launched a cycle of interest rate hikes to ensure price stability, to prevent inflation risks from having long-lasting effects and to anchor inflation expectations".

"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," the rate-setters said.

At a press conference after the meeting, Matolcsy confirmed that the series of rate hikes will continue on a monthly basis until inflation returns to a sustainable level in early 2022.

The interest rate corridor will remain unchanged, while the base rate will once again be the main policy instrument. The one-week deposit, at 75bp, will be set at the level of the base rate, he said.

The council said it "is warranted" to raise the rate on the central bank's one-week deposit to 0.90%, level with the base rate. The MNB will continue to set the one-week depo rate at weekly tenders for the facility, it added.

In its fresh quarterly Inflation Report, the MNB raised its projection for annual average inflation in 2021 to 4.1%, from 3.8-3.9% in the previous forecast released in March.  It raised its forecast for GDP growth this year to 6.2% from 4.0-6.0%.

The pick-up in the economic recovery had made it possible for the MNB to phase out certain crisis measures, such as the financing scheme FGS Go! of cheap loans for SMEs after the exhaustion of the HUF3 trillion allocation.

Forint gains on rate-cycle news

Analysts said the MNB decision to begin a rate hiking cycle and phase out the loan stimulus programme was in line with expectations. There was no mention in the announcement of any adjustments to the asset purchase programme (QE) needed to stabilise long-term yields, they added.

The fact that the central bank raised its full-year inflation target to over 4%, outside the target range, suggests that the MNB is placing more emphasis on its primary goal, maintaining price stability,  a senior analyst of the government-funded Szazadveg said.

Economists see more inflationary pressure from the economy reopening, especially in the service sector, in the coming months. Prices in this category increased by just 2.1% y/y in May, below target. The labour shortage is dire in popular holiday destinations, which has pushed up wages substantially in the catering industry, which is also facing surging food prices.

The impact of the low base will also be felt between June and October, before easing in November.

Forward rate agreements (FRA) on the interbank market suggest that the markets are pricing in a 25bp hike in one month, a 50bp increase in three months and 90bp in 6 months.

The EUR/HUF temporarily hit a five-month high of 356 just after the announcement of the rate-setting meeting but began to strengthen decisively after comments that the central bank would continue tightening in the next months. The forint rallied to 351 versus the euro in late afternoon, a 0.7% intraday move.