Inflation Report highlights rift between rate-setters
A quarterly Inflation Report prepared by the staff of the National Bank of Hungary highlights a rift between the central bank's rate-setters, who appear divided over the effect of rate cuts on growth.
The staff acknowledged in the report, published on Thursday, that weak demand and Hungary's improved risk assessment could warrant a looser monetary policy, but they said the deterioration in the inflation outlook did not allow it.
"Although in our baseline scenario persistently weak demand and the improvement of the risk assessment point to the easing of monetary policy conditions, the considerable deterioration in inflation outlook does not allow for the easing of monetary policy conditions," the staff said.
The MNB's Monetary Council decided to cut the central bank's key rate by a combined 50bp to 6.50% at meetings in August and September. The minutes from the August meeting show the Council's three internal members voted to keep the rate on hold but the four external members voted for a cut. After the September meeting, on Tuesday, MNB governor András Simor said the decision to reduce the base rate by 25bp was made by a "narrow margin". The vote from meeting will not be published until later.
Although the full Inflation Report was published in full on Thursday, the main projections it contains were presented after the Council's rate-setting meeting on Tuesday. In the report, the MNB raised its projection for average annual inflation in 2012 to 5.8% from the 5.3% forecast in the June Inflation Report. It projects CPI of 5.0% in 2013. The MNB now sees inflation falling to the 3% "price stability" target by the second half of 2014, compared to the end of 2013 in the previous report.
Simor said on Tuesday that the central bank staff said the base rate should be "kept stably" at 6.75% to meet the target in the second half of 2014. In a more favourable risk scenario, they said the base rate should remain at 6.75% for at least half a year to reach the target, he said. In a scenario in which inflation expectations were less anchored than expected, they said a rate rise would be necessary to achieve the target, he added.
The MNB staff raised the projection for core inflation by three-tenths of a percentage point to 5.2% for 2012 and by 1.9 percentage point to 4.9% for 2013. Eliminating the effect of tax changes, it put 2013 CPI at 3.1%. The MNB sees GDP falling 1.4% this year and growing 0.7% next year. It sees domestic consumption falling by 3.1% in 2012 and by 1.0% in 2013. The staff said in the report that domestic demand would "remain persistently weak" because of declining real income, protracted balance sheet adjustment and tight credit supply. Corporate investment activity will "continue to be weak" because of the uncertain outlook for demand and "regulatory risks that weaken investors' confidence", they added. The staff projected output would fall short of its potential level over the entire forecast horizon in the report, that is, 1.5-2 years, or the period affected by monetary policy.
The staff put the general government deficit, as a percentage of GDP, at 2.8% in 2012 and 2.4% in 2013, slightly over the government's respective targets of 2.5% and 2.2%. The staff's projections, however, assume the cancellation of free fiscal reserves. The projection for 2013 also assumes a fiscal adjustment equivalent to 1.4% of GDP to offset the budgetary effects of fiscal stimulus exceeding 1% of GDP before Parliament. Alone the government's Job Protection Plan is expected to add the equivalent of 0.8% of GDP to the deficit, according to the report.
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