City: Politics make Hungary more vulnerable - extended

Dresdner Kleinwort said after the release of the latest set of wage data from January and February that, at 13.4% year-on-year, gross earnings “rebounded forcefully” in February, following a “surprisingly weak” 1.5% fall the previous month. More importantly, private sector wages accelerated further from an already brisk annual growth in January. Although the outlook for GDP growth is deteriorating, this release “is likely to accentuate the MPC’s concerns about continuing elevated inflation expectations”. In March, the MPC already raised the policy rate on the back of the risks associated with continuing elevated inflation expectations.

Although the economy is clearly weak and eventually the restructuring in the labor market will affect inflation and wage expectations, in the near term it appears that little improvement has been achieved, Dresdner said. The majority of the MPC will likely prefer to maintain a wait-and-see stance in the very near term until the new inflation projections are released in May. However, “we maintain the view that the vulnerability of the economy, the uncertain global environment and the still unfavorable inflation outlook may lead the MPC to tighten, by as much as another 100bps over the course of the year”, Dresdner added.

Dresdner said in its monthly EM Strategist report, that of the possible scenarios going forward, the option of Prime Minister Ferenc Gyurcsány continuing to lead a minority government, “occasionally supported” by SZDSZ on key bills such as the budget, is the most likely one for the next six months, although “(we) warn of growing popular pressures in favor of early elections”. In the near term, Gyurcsány is expected to focus on two main policies: to deliver further fiscal consolidation, in line with the Convergence Program’s targets, and to approve a small tax reform, which could either reduce the corporate tax rate or lower labor costs. On a negative note, the March referendum and the possibility for a second one either this autumn or next year are pushing the Prime Minister to take a U-turn on the multi-layer healthcare insurance reforms approved last year. In addition, the prospects of approval of a medium-term fiscal reform have been significantly reduced given the fragmented political background. “In our view, this raises the probability of future revisions to the sovereign credit rating”, Dresdner said.

Given the risks to the global economy, the political uncertainties and the fact that inflation will not return to target until next year, “we see scope for as much as another 100bps rate increase over the course of this year – postponing a large and rapid monetary loosening to 2009”, it added. In a separate comment released on Friday, Goldman Sachs said that the “shockingly high” private sector wage growth data in February, published the previous day, points to wage growth acceleration in 2008, instead of the slowdown that the NBH was hoping for.

Looking at the details, the increase is fairly widespread and cannot be explained by the minimum wage increases for employees with higher education. The January private sector wage data “were already an unpleasant surprise for the MNB”, and it played a role in hiking its rates in March. “We expect these data to strengthen the case for another rate hike”, GS said. So far, the recovering Forint increased the chance that the MNB will not hike at all at the next meeting on April 28, but “we think, that a 50bp move now looks more likely than a 25bp one”. “We expect, that rates will increase to 9% in the next three months, from the current 8%, something that the market is not pricing ... the peak rate implied by the FRA contracts seems to be around 8.50%”, Goldman Sachs said. (MTI-Econews)