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Central Bank Holds to its Currency Course

Although the forint hit all-time lows in the past few weeks, the central bank has not intervened in order to strengthen the currency, and such a move is not expected anytime soon. In an extreme case, the exchange rate could temporarily climb above 350, but it is more likely that it will remain in the 335-345 band throughout the year, analysts say.

Despite a steady weakening of the forint against the euro, the Monetary Council of the National Bank of Hungary (MNB) left the base rate unchanged at its latest rate-setting meeting on January 28. Higher-than-usual expectations have surrounded the council’s January decision; however, the key rate remained at 0.9% and the overnight deposit rate still stands at -0.5%.  

That said, at the FX-swap auctions of January 20 and 27, the MNB narrowed the forint supply, which market participants considered to be a response to the depreciation of the Hungarian currency. This decision was made following a 4% consumer price index in December, which is at the top end of the MNB’s target inflation band.

In its January statement, the MNB once again repeated that “…risks to the outlook for domestic inflation became balanced again”, and it also added that as the euro area recession concerns were somewhat eased in the past few months, domestic inflation risks have become symmetrical again.  

As for the near future, it seems that the MNB is still not pre-committed to any future interest rate path. The statement, as usual, says “In its monetary policy decisions, the Monetary Council applies a cautious approach, relying mainly on the incoming data and the projections in the quarterly published Inflation Report. The necessity of further measures will be determined by the persistent change in the outlook for inflation, which will be monitored closely by the Monetary Council.”

Neither the weakening forint, nor the accelerating inflation rate made the central bank change its stance, noted K&H Bank head analyst Dávid Németh. He thinks that, even if the MNB considered tightening monetary conditions, it would certainly not happen before spring.  

“Markets have watched closely the current decision of the bank, as the forint hit an all-time low against the euro and stood even at 338, and the inflation showed a notable acceleration in the past months,” he emphasized. However, it is an important factor that the international environment supports the loose monetary conditions, he noted.  

“For the time being, we are expecting only fine tuning, which, in practice, means that the Hungarian currency can be strengthened by narrowing the forint liquidity,” Németh assumes.  

Slow Normalization

The council might decide on changing the current monetary conditions in light of the quarterly inflation report, opined Gergely Suppan. The Takarékbank head analyst thinks that normalization will be slow and gradual, because inflation so far seems to be under control, and because of the loosening external monetary conditions.

Maintaining the current domestic monetary conditions, then gradually tightening them in the medium term might be sufficient for the forint to gain strength, which thus can help the economy reach the inflation target, he said. Suppan does not expect a raise in the base rate before the fourth quarter of 2021.  

The MNB statement did not mention the forint exchange rate specifically. CIB Banks believes this confirms that, as long as the weakening of the forint does not show any further acceleration, and the transmission to prices does not intensify significantly, the central bank will not change interest rates purely because of the exchange rate, intervening only through FX-swaps to adjust liquidity conditions, analyst Sándor Jobbágy said in a press release following the Monetary Council’s meeting.  

So, there are clear signs that the MNB is still devoted to maintain loose monetary conditions in Hungary, exploiting the existing room to maneuver.

“This confirms our previous expectations: there is slim chance for the Hungarian currency to correct anytime soon, we even count on a higher-than-expected EUR/HUF exchange rate in the coming months,” CIB Bank said.  

It seems the inflation outlook has climbed higher; while in its December statement the MNB expected that the inflation would fall back to near the 3% mid-term target by the second half of the forecast horizon, the January statement now says that CPI will return to the target band (the top of the band is 4%) by the end of the year, explained Zoltán Varga, Equilor’s senior analyst.

All in all, the statement has a dovish tone, signaling that even in case of higher inflation rates, the MNB will not interfere, Varga said. However, if the pace of the weakening of the forint becomes intense, symbolic steps could be expected, he added.

The Worst Kid on the Currency Block

The forint weakened to a historic low of 338.74 on January 27. While it clawed back some gains later and returned to around 337, the Hungarian currency had once again climbed back to 338.65 the next day, all but matching the previous record low. Although there is no fundamental reason for it, the forint has been the worst-performing currency in the region since the year started, falling by more than 1.6% since January 1, and by nearly 5.5% from a year ago. Analysts unanimously say that the exchange rate could surpass 340 this year, however, this is most likely to be only temporary. Some analysts say that in extreme cases the EUR/HUF exchange rate can even reach 350 mark this year, but that could only happen if central banks globally started a sudden tightening cycle and the MNB failed to follow suit quickly enough.

Numbers to Watch in the Coming Weeks

The macroeconomic calendar will be quite crowded in the first half of February. It will start with the retail trade data for December on February 5, followed by the first estimate of the December performance of the Hungarian industry a day later. A second release will come out on February 12. The next day, the Central Statistical Office will publish data for how construction performed in December, and it will also shed light on the full year performance of the sector. Also on February 13, January CPI data will be released. On February 14, the much awaited Q4 data of the Hungarian GDP will come out. Will we love those figures? Perhaps St. Valentine knows.