Rating Season Kicks off Strongly for Hungary

Minister of Finance Mihály Varga reacts with evident delight at a press conference on February 16 called after the S&P upgrade to Hungarian long- and short-term debt. Photo: MTI/ Lajos Soós.

“It was about time,” that was Minister of Finance Mihály Varga’s reaction when he welcomed the decision of Standard & Poor’s to upgrade Hungary’s sovereign debt status to “BBB/A-2” from “BBB-/A-3”, with a “stable” outlook, on February 15.  

Varga said the decision finally recognizes the long-standing performance of the Hungarian economy and reflects the market consensus.  

In its reasoning, S&P said: “The upgrade reflects Hungary’s sound growth prospects, supported by high private savings and real wage gains sustaining domestic demand, as well as the ongoing expansion of export capacity in the automotive and services sectors. While we expect growth to slow toward 2% by 2021, we think Hungary’s small open economy will be able to weather a period of weaker external demand, as well as the expected decline in EU funding,” the agency wrote.  

S&P said that the upgrade was supported by Hungary’s resilient export-driven economy, and low private sector debt. However, it also mentioned that relatively weak checks and balances, moderate wealth levels and high public debt are main constraints on the ratings.  

The agency also highlighted that the country’s net external debt fell to under 10% in 2018, from 55% in 2010. It called the government’s aim to reduce general government deficit to 0.5% of GDP by 2020 optimistic.  

At the same time, S&P welcomed earlier measures to cut back the share of Hungary’s foreign exchange debt to around 20% from more than 60% in 2010.  

Downside Risks

Among the downside risks, the agency noted Hungary’s overheated labor market, but S&P also listed several factors that could lead to another positive rating action in the coming two years, such as stronger and more balanced economic performance than that of the country’s regional peers, and a faster than expected decline in net public and external debt.

As for what could lead to a negative rating action in the upcoming 24 months, S&P said that this could happen in the event of a significant external shock to Hungary’s open economy, or a possible suspension of EU transfers, or a rise in public debt.  

Analysts had barely finished digesting the meat of the first ratings review of the year when more positive news hit the markets. On February 22, Fitch Ratings raised Hungary’s rating to “BBB” from “BBB-“, with a “stable” outlook. As with S&P, the Fitch rating is now two notches over the junk status.  

The rating agency noted that Hungary’s net external debt fell to an estimated 10.2% of GDP in 2018, from an average of 34.4% in 2013-2017, and it also mentioned the consistent current account surpluses, stable net FDI inflows, and capital transfers from the European Union.  

As for debt trends, Fitch thinks that the general government debt/GDP ratio remains on a downward trend and is forecast to fall from an average of 75.2% of GDP in 2012-17 to an estimated 71% in 2018, 68% in 2019 and 66% in 2020.  

The agency notes that the general government deficit changed only a little in 2018, and it forecasts the fiscal deficit will remain largely unchanged, at 2% in 2019 and 1.9% in 2020, given the expected strong contribution of EU funds and the cushion available from contingency fiscal reserves, despite slowing economic growth.

Independence Concerns

Hungary outperforms its “BBB” rated peers on the World Bank governance indicators as well as ease of doing business, the Fitch rationale notes. However, it adds that concerns about the independence of the judiciary are increasing.

“Legislation passed in December 2018 paves the way for establishment of special administrative courts to begin adjudicating certain politically sensitive cases from 2020,” the note reads.  

The Hungarian government, as well as the central bank and analysts, welcomed both decisions, saying that they were “timely” and “well-deserved”. After the S&P review, news agency MTI cited Mihály Varga as saying that S&P’s decision to bump Hungary’s sovereign rating up a notch was “rather timely”.  

Varga noted that the market had already priced in a significant improvement in Hungary’s fundamentals. He asserted that an even higher rating than “BBB” would have been justified.  

As Takarékbank analyst Gergely Suppan pointed out, markets have already priced the upgrade, therefore it will have no significant effect; however, domestic markets can further stabilize even in an ever-changing global environment.  

“The MNB, in line with its legal mandate, continues to endeavor towards the success of the national economy and ensuring stability with all of the tools at its disposal, and it trusts that the third big rating agency, Moody’s, will acknowledge the sustainable improvement in the fundamentals of the Hungarian economy in the course of a decision coming in May,” the National Bank of Hungary said.

Moody’s Investor Services still holds Hungary just one notch over the investment grade threshold, and its outlook on the “Baa3” rating is “stable”. It will carry out its first review of 2019 on Hungary’s sovereign debt on May 3.

Numbers to Watch in the Coming Weeks

The fourth quarter GDP data will be published on March 1 by the Central Statistical Office, followed by the January retail trade figures on March 5. Also for January, the KSH will release data on the performance of the Hungarian industry on March 7, with more detailed figures coming out on March 13.