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Ukraine, weak forint put economy on edge of turmoil

MNB

From the Budapest Business Journal print editon: Hungary’s economy exceeded expectations with impressive growth in the fourth quarter. The result quickly took the back seat to a serious slide in Hungarian assets as violence escalated in Kiev, however, while the forint remains much weaker than the government had hoped and political uncertainties in Ukraine persist.

Hungary’s gross domestic product benefited from favorable conditions in the farming industry as well as the performance of its major exporters and grew by 2.7% in the fourth quarter of 2013, compared to a third-quarter increase of 1.8%.

The rate came in higher than the 2.4% market estimate and showed Hungary’s economy growing at the fastest rate since the last three months of 2006. The reading puts 2013 annual GDP growth at 1.1%.

“Hungary’s economy said thank you, it’s doing fine and is performing better in all indicators than before,” Economy Minister Mihály Varga said, commenting on the figures. The same day, the Central Statistics Office (KSH) also published consumer price inflation figures for December, with a headline figure of 0%.

Markets received the reading favorably, several investment banks and analysts raising their 2014 forecasts for growth from around 2% to closer to 2.5%. Hungarian assets rallied, only to take a slide as the protests in the Ukraine turned violent and investors started divesting their emerging market portfolios 

Forint stuck in the doldrums
The tentative peace reached in Kiev has put markets at ease for the time being and favorable macroeconomic releases from major economies also helped foreign investors to regain some of their confidence towards Hungarian government bonds, as evidenced by successful auctions and a halt in the rise in yields.

However, the forint appears to have benefited little from this turn in sentiment and is still hovering at levels around 310 against the euro, meaning it hasn’t made a notable recovery from the lows of 314 it hit when the Ukraine hostilities reached their peak.

The escalation of violence in Ukraine and the widespread expectation that the room for cutting the base rate was diminishing didn’t discourage rate-setters at the National Bank of Hungary, who went ahead and decided on another 15-point cut at their February meeting; the consensus had been that the pace would slow to 10 points. The key indicator is now at 2.7%.

Even the government has started to communicate that it is unhappy with the weakness of the forint, since the 2014 general budget was drafted with an exchange rate of 298 against the euro in mind. Varga urged rate setters to aim for an exchange rate that is “bearable for the budget and good for exports and foreign-currency borrowers.”

Still, officials are quick to note that there aren’t any serious concerns and that the ministry anticipated such eventualities and incorporated adequate safeguards in the system.

“The budget contains a significant, HUF 230 billion buffer. We are confident that the average annual exchange rate will be lower than the current and that investors will see that the fundamentals of the Hungarian economy are stable,” Economy Ministry deputy state secretary Péter Benő Banai said.

Determined to cut
There is some market speculation that the central bank is deliberately pursuing a monetary policy that will weaken the forint with the aim of supporting exporters. The argument here is that the central bank’s determination to support economic growth has only produced muted results so far through the launch of its extensive stimulus program. In contrast, the favorable fourth quarter GDP figures demonstrate that the economy’s overall performance is still determined by exporters, who can benefit from a weaker currency.

Although there has been no confirmation for obvious reasons, a weaker currency is something that the business sector has encouraged for quite a while. For instance, business magnate Sándor Demján said in 2012 that an ideal exchange rate would be around 315 against the euro.

Whether supporting exporters is indeed something rate-setters are focusing on is up for debate, but the expectation is that the rate cuts won’t stop.

“We expect the MPC to cut rates at the next two meetings, though getting from 2.7% to 2.5% will be a challenge to map – it could be 2x10 bp but a shift to a smaller cut next meeting might worry it that it is sending the wrong signal, or it could be 15 bp then 5 bp but the last one would look odd. Such issues should not distract from the MPC’s desire to keep cutting, however,” Nomura analyst Peter Attard Montalto said in a research note.

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