The National Bank of Hungary has been under fire for months for lack of transparency, for failing to respond to inflation risks and for giving a mixed message on interest rates. Last week’s move to float the forint should have bolstered its inflation-fighting credentials. Instead it has given rise to talk of a deal with the government not to hike in exchange for abandoning the forint’s trading band against the euro. There are also suspicions in the market that the bank will abandon its 2009 inflation target of 3% after it raised its forecast for average annual inflation in that year to 3.6%. The bank denies that either is the case.
While the Polish central bank has clearly signaled an aggressive response to rising inflation risks, tough talk on Tuesday from NBH Governor András Simor and dovish rate setter Gábor Oblath in an interview with Reuters has failed to reassure investors. “This will not be enough in the current situation…confidence has been shaken and (the bank) will have to restore credibility,” said Eszter Gargyan of Citigroup, who is forecasting rates will rise 50 basis points from the current 7.5%. “Even if government bond yields are high reflecting a liquidity premium (due to poor global conditions), the NBH will have to hike interest rates.”
Free float boon
The central bank has argued for years that tying the forint in a 30% wide trading band against the euro hampered its inflation fighting ability because it had to pursue a policy aimed at keeping the forint in the band. It won its freedom last week when the Socialist government finally agreed to a free float, but has since come under more intense scrutiny. The move was made amid rising risk aversion in global markets which hit the high-yielding forint. It surged to 255.60 per euro initially, but slumped over the week to as low as 267.35. Part of the problem is that the forint’s level is one of the few ways in which the central bank can influence imported inflation — so although the formal exchange rate target has been removed, the central bank still has a de facto target.
Headline consumer prices rose 7.1% in January and the most recent Reuters poll forecast they would average 5.9% for all of 2008. The result is a standoff between the bank and the market, and trading strategists see better value in other currencies. Merrill Lynch recommended in a trading note on Wednesday, that investors should take long positions in the Slovak koruna, which is on the verge of euro entry, and short the forint against the euro. In a fragile investment climate, certainty in the form of a Slovak koruna revaluation ahead of euro entry and this week’s credit upgrade from Standard & Poor’s are preferable to Hungary’s low growth, bond finance concerns and high inflation. “While the recent removal of the exchange rate band was a step in the right direction, the change of exchange rate policy framework alone will not suffice to drive the forint lower (stronger against the euro),” Merrill said. Others analysts are more blunt. “The central bank faces a huge communications challenge,” said Gergely Szabó Fórián of Pioneer Fund Management in Budapest. (Reuters)
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