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MNB report sees higher underlying inflation in 2019-2021

Compared to March, the National Bank of Hungary (MNB) forecasts not only higher headline inflation but also higher core as well as indirect tax-adjusted core inflation over the three-year horizon of its fresh quarterly Inflation Report. The MNB also expects a euro area slowdown to start impacting inflation from H2.

The report, released Thursday, raised core inflation indicators steeper than it raised its headline forecast, while still forecasting the core measures on a falling trend, state news wire MTI reported.

The headline index itself is now projected to rise to 3.4% in 2020, from 3.2% this year, before dropping to 3.3% in 2021, still over the the central bankʼs 3.0% mid-term "price stability" target. The projection was raised by 0.1 of a percentage point for this year, and by 0.3 of a percentage point for both 2020 and 2021.

Core inflation excluding indirect tax effects - considered by the bank as a bellwether indicator of underlying inflation - is now seen to drop from 3.6% this year to 3.5% next year, and to 3.1% in 2021. (The respective March forecasts were 3.4%, 3.2% and 3.0%.)

While headline inflation was lifted mainly by higher fuel prices in the past few months, indirect tax-adjusted core inflation rose to 3.7% in May due to an accelerating rise in prices of services and processed food as wages rose quicker than earlier thought, the report explained.

Wage rises outstrip inflation

Business sector average gross wages rose 11.8% year-on-year in Q1, more rapidly than productivity, the report noted. Gradual payroll tax cuts, the next one due on July 1, temper the effect of wages on inflation, according to the report.

The MNB still raised its forecasts for growth in the business sectorʼs nominal unit wage costs sharply, from 4.8% to 8.0% for this year, from 3.2% to 4.9% next year, and from 3.4% to 4.5% in 2021, all well above inflation.

The central bank said that indirect tax-adjusted core inflation will gradually start to drop by the end of this year as the global slowdown pushes down imported inflation. 

Domestic factors, among them wage growth may, however, raise underlying inflationary pressure, the updated projections suggest.  

The MNB raised its forecast considerably both for overall gross wage growth and business sector wage growth over the three-year horizon, with both now at double-digit levels in 2019, before gradually dropping to 8.0% and 8.9%, respectively, in 2021.

Household consumption forecasts raised

Among GDP factors, the report now sees household consumption spending rising by 5.1% this year (instead of 3.7% forecast in March), 3.9% in 2020 (up from 3.2%), and 3.0% in 2021 (up from 2.9%).

Quicker household consumption was the main factor in the improved forecast for economic growth in the report. The MNB forecasts GDP growth of 4.3% in 2019 (compared to the 3.8% March estimate), 3.3% in 2020 (instead of 3.2%), and 3.3% in 2021 (up from 3.0%).

The central bank also sharply raised its forecast for 2019 fixed assets accumulation - investment - growth, to 14.9% (from just 9.7% forecast in March), parallel with a 0.7 percentage-point cut to 2.0% next year, partly related to the EU funding cycle. It raised the 2021 projection to 3.4%, up from 2.0%.

Both export and import growth has been slightly revised down over the three years, with Hungary seen shifting back to net exports from 2020.

The forecast for the net external financing capacity was slightly cut, to 2.2% of GDP for both 2019 and 2020, and more steeply, to 2.3% of GDP in 2021.

Impact of euro area slowdown

The MNB expects the economic slowdown in the euro area, and more specifically in Germany, Hungaryʼs most important trading partner in the euro area, to start having an impact on Hungarian industrial goods prices starting from H2 2019, says an analysis included in the quarterly Inflation Report.

Based on the experiences of the past nearly two decades, Hungarian industrial goods inflation started to decelerate from the sixth quarter following euro area deceleration, the MNB found.

The central bank also examined the effects of the German pricing mechanism on Hungarian prices. Results showed that the slowdown in German industrial activity is reflected in German producer prices with approximately a half-year delay, and this passes through into the rate of inflation for Hungarian industrial goods (via imported prices), on average with a lag of 5-6 quarters.

As euro area economic performance decelerated gradually from early 2018 and industrial performance in Hungaryʼs most important trading partner - Germany - started falling from the same time, the disinflationary effects are expected to appear through domestic industrial goods prices from H2 2019, the central bank concluded.