Hungarian Economy Faces Challenges as Real Interest Rates may Remain High, Equilor Warns


Zoltán Árokszállási has led the team of analysts at Equilor Investment since June.

The latest analysis by Equilor Investment suggests Hungary’s growth could start to slow from 2024 and may not reach the level of last year until after 2025. High inflation and interest rates have discouraged investment and consumption, while the delayed disbursement of EU funds is causing more trouble for the Hungarian economy.

Equilor expects that global real interest rates will not return to the very low levels of the 2010s, which will also limit the flexibility of the National Bank of Hungary. Hungarian inflation could drop to 6% next year from this year’s peak of 18%, while after this year’s contraction, it could rebound to 2.5% growth in 2024, with a slight weakening of the forint exchange rate.

Average interest rates, which had been declining for centuries, have been influenced by an aging population, slower productivity growth, a generally weak economic outlook and a shift towards investments that were considered risk-free after 2008, Equilor says.

The investment firm believes that recent changes could mean we will see higher real interest rates for a long time in the coming years compared to the 2010s. Several factors are driving these changes, the most significant of which is the increasing global demand for investment: deglobalization is leading to factory construction, defense spending is rising across the board, and the green transition requires enormous cash injections.

In the short term, the U.S. Federal Reserve is expected to end its cycle of interest rate hikes and keep rates above 5% for several quarters, with cuts not expected until the middle of next year. The European Central Bank, meanwhile, is in an even more difficult position; further rate hikes are expected from the ECB this year with the rate cut cycle starting later than in the United States, towards the end of next year.

Zoltán Árokszállási, who took over as senior analyst at Equilor Investment in June, said that the question of what kind of interest rate environment we can expect in the long term is becoming increasingly urgent.

Key Rate

The MNB has started to reduce its ultra-high key interest rate of 18% at a pace of 100 basis points. Another 100 bps could follow this month (the next scheduled rate setters’ meeting is due on Sep. 26) from the current level of 14%, which is still high by regional standards, after which the MNB may slow down.

The pace of decline in inflation could allow for even more significant cuts; however, risk perceptions in Hungary are much more unfavorable than in other countries in the region, as evidenced by the volatile exchange rate of the forint.

Moreover, there is speculation Fitch Ratings Inc. may lower Hungary’s credit rating at its next review in December, which could also send a negative signal to the market.

Based on this, Equilor expects a key interest rate of 10.75% by the end of this year and 6.5% by the end of 2024. Single-digit inflation is expected to be reached this November, so inflation could average 18% this year, dropping to 6% next.

In this context, Zoltán Árokszállási pointed out that the current drivers of disinflation will become less visible over time: the forint is now weakening, oil prices are rising, fuel excise taxes will increase from January, consumption may pick up somewhat, while the need for fiscal adjustment remains a risk.

High Volatility

According to Equilor’s senior analyst, the forint will likely remain on a slightly depreciating path amid high volatility, with the current outlook for the euro at 400 forints by the end of 2024.

The Hungarian economy is undergoing a significant adjustment: this year’s economic performance exceeded preliminary expectations, with Equilor forecasting a 0.7% contraction in GDP in 2023.

Several factors power the recession, including falling consumption due to high inflation, subdued public investment, and falling investment sentiment due to high interest rates. This year’s contraction could be followed by growth of 2.5% next year, boosted by a rapid inflow of withheld EU funds, but this is still unlikely, according to Equilor.

Given these developments, the Hungarian budget balance could show a deficit of 4.5% this year and 3.5% next, while the debt-to-GDP ratio could be 71.5% this year and 69.5% in 2024. On the investment front, a slight correction in equity markets from the highs of recent months would not be surprising, but there are still some regions where it is not yet possible to speak of overvaluation.

According to the analysis, there is still room for “fantasy” in European and regional equity indices and also in the Indian market. Equilor believes the two-to-three-year segment looks most interesting in the Hungarian and U.S. bond markets: overseas rate hikes are coming to an end, while in Hungary, rate cuts are already abundant, making further rises in longer yields less likely.

However, caution is advised in the Hungarian bond market as this segment tends to rise more than longer-dated yields in the event of a “risk-off” wave, when investors attempt to reduce risk by selling existing risky positions and moving money to cash or low/no-risk positions.

This article was first published in the Budapest Business Journal print issue of September 22, 2023.


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