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Industry Outperforms Expectations, but war Overshadows Outlook

Analysis

Although the performance of the Hungarian industry exceeded the boldest expectations in January, the pace of the growth can hardly be maintained, as the so-far unpredictable consequences of the war in Ukraine make the outlook uncertain.

According to the first release of the Central Statistical Office (KSH), the volume of Hungary’s industrial output in January this year was 8.9% higher than in January 2021. Based on working-day adjusted data, production rose by 7.1%. Looking at seasonally and working-day adjusted data, industrial output was 1.9% higher than in December 2021.

According to KSH, most of the manufacturing subsections contributed to the growth. After a six-month decline, the manufacture of transport equipment (with the most significant weight overall) increased again, although the manufacture of computer, electronic and optical products practically stagnated. The manufacture of food products, beverages and tobacco rose above the industrial average.

Péter Virovácz, a senior analyst at ING Bank, said that the Hungarian industry saw an extremely strong start to the year, with growth in January exceeding expectations. The automotive industry played a huge role in the excellent performance. In the first one and a half months of the year, the news was about the shortage of parts slowly but surely easing; the war ended this positive development in a minute, he said.

With the closure of production plants in Ukraine, an increasing number of automotive factories in Europe are running out of parts. Meanwhile, a significant portion of European procurement also comes from Russia, creating aluminum, nickel, and palladium shortages. This will further slow industrial production capacities across Europe, Virovácz added.

The good performance in January has thus become unsustainable, he warns. The analyst said the central question for the coming months is whether there will be a similar level of industrial shutdown as at the low point of the coronavirus crisis. He noted that the post-COVID recovery potential had always been relatively high as plants could return to production with enough parts, labor and capital.

Unpredictable Performance

However, a significant part of the labor force has left Ukraine because of the war, and the fighting will destroy the capital, so it may take even longer to replace parts. Industrial performance this year is, therefore, unpredictable, but we are clearly facing another challenging year, the analyst concluded.

Gábor Regős, head of the macroeconomic business of Századvég Gazdaságkutató Zrt., also noted that the growth of industrial production had exceeded otherwise low expectations. The positive performance was helped by a weak base and the fact that supply disruptions and microchip shortages had eased a little.

There were also indications that winter shutdowns were shorter than last year. Based on the January data, the industry could make a positive contribution to economic development in the first quarter, and its contribution to growth may be favorable throughout the year, he added.

At the same time, risks include the Russian-Ukrainian war resulting in fluctuations in demand, supply difficulties, or a return to supply chain disruptions. Large international companies have been trying to shorten their supply chains in the wake of the pandemic, but that is not only making production more expensive; it is also threatening manufacturing itself, Regős concludes.

Orsolya Nyeste, a senior analyst at Erste Bank, was surprised that industrial output increased compared to the previous month, as analysts had predicted stagnation. However, the outlook is now uncertain, she said.

Data from January suggests that supply tensions may have eased somewhat, which has presumably helped vehicle production the most. However, the outbreak of the Russo-Ukrainian war means supply problems may reappear.

Downside Risks

The demand side has also become an essential issue in the wake of the war, as both business and consumer confidence are deteriorating, and demand may weaken in an emergency. So, despite the momentum that seems strong now, the outlook has become clouded; the longer the war continues, the more likely that downside risks will appear, she said.

Interest rates are also in the spotlight across the region. As the Hungarian forint and the Polish zloty tumbled to record lows in the wake of the Russian invasion, the question is now how far central banks will go to raise interest rates.

Since the war began, the forint has lost nearly 9% against the euro and reached a historic low on Monday (March 7), when one euro was traded for almost 400 forints.

The significant weakening of the forint would probably force the central bank to take an extraordinary step, analysts said. On Tuesday (March 8), the central bank held what was scheduled as a non-rate-setting meeting. The Monetary Council did not discuss changing the base rate, but a decision was taken to widen the interest rate corridor: the overnight and one-week collateralized lending rates were raised by 100 basis points to 6.4%.

By widening the interest rate corridor, the council has increased its room for maneuver in monetary policy, which is crucial in the current situation, the MNB wrote in a note following the meeting. The central bank added that, if necessary, it stands ready to continue to respond quickly and flexibly to commodity and financial market risks arising from the rapidly changing environment by changing the one-week deposit rate.

However, some say that is not enough. “The zloty, the forint and the (Czech) koruna are all likely to remain weak despite attempts by their respective central banks to contain losses, either through tighter monetary policy at home or open-market intervention,” UniCredit economists said in a note, cited by news outlet Bloomberg.

Numbers to Watch in the Coming Weeks

The Central Statistical Office will publish the January data of the Hungarian construction sector on March 16, followed by commercial accommodation establishment statistics the next day. On March 22, the Monetary Council of the MNB will hold its regular rate-setting meeting.

This article was first published in the Budapest Business Journal print issue of March 11, 2022.

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