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Hungary's key rate is high enough, council member says

Hungary's benchmark interest rate is high enough to bring down inflation toward the central bank's target, said Gábor Oblath, a member of the rate-setting council.

The bank last week kept the two-week deposit rate unchanged at 8%, the highest benchmark rate in the EU, after five consecutive increases. Oblath voted for no change even as the bank forecast inflation will be above target through 2008. The Socialist-led government has raised taxes and utility bills to trim the budget deficit and help meet terms for adopting the euro, driving up consumer-price growth. The bank expects inflation through 2008 to remain above its goal between 2% and 4% and to slow after that, Oblath said.
„Considering the expected fiscal tightening, the increases in the benchmark rate and the recent strengthening of the forint, I think the monetary conditions are strict enough, „ Oblath said in a November 24 interview in Budapest. „If there are no big additional shocks, I think inflation will get down to 3% in 2009 at the latest, but possibly earlier.” The forint fell to 260.23 per euro by 9:06 a.m. in Budapest from 259.83 late on November 24, weakening to a two-week low after trading as strong as 259.65 before Oblath's comments.

Rate-setters on November 20 voted 7-5 to leave the rate on hold, the narrowest possible margin as bank President Zsigmond Járai's vote would have reversed the outcome in the event of a tie. Járai and his deputy Henrik Auth have argued that the bank should raise the key rate further to fight „stagflation,” an economic slowdown coinciding with accelerating inflation. They said rising inflation expectations at companies and the potential effects of higher taxes and regulated prices will outweigh the forint's 9% strengthening against the euro in the past five months and drive consumer prices higher. Oblath disagreed with Járai's view and said there's more chance the government austerity measures will damp inflation by curtailing consumer demand. While higher expectations would justify increasing the rate further, there's no hard evidence to prove there has been a shift, he said.

„If for some reason it would turn out otherwise, we would have to react, but until we have more information, this is not justified,” Oblath said. „Early next year, in the knowledge of developments in January and February, we will see how nominal wages in the private sector turn out. That will be an important indicator for the possible second-round effects.” Central bankers who voted to hold the rate didn't disregard the inflation target, Oblath said. While the bank's inflation report helps in rate decisions, policy makers amend the study with their own assessment, he said.
The report „is based on the best knowledge of the experts, but their forecast is only one of several possible ones,” Oblath said. „The way somebody thinks about the conditions, or the way somebody thinks about the mechanisms, it can result in different findings.” The fact that the inflation report forecasts 4.1% average annual inflation rate from 2008, which is above the bank's target, „shouldn't necessarily result in an automatic rate increase,” according to Oblath. The bank targets medium-term inflation, which can't be expressed in a single piece of data at a given point in time, he said.

„This 3% in the medium term doesn't mean the middle of 2007 or 2008,” Oblath said. „The question is that if there's a shock to the system and that rings out, how will inflation proceed.” With several tax changes over the past two years and one-time effects from rising energy prices „polluting” the consumer-price index, rate setters increasingly look at core inflation figures. The bank's inflation report contains a core inflation measure that filters out the effects of tax changes, which Oblath said may be the best indicator of future price developments.
„For evaluating the underlying inflationary prospects, it's not the forecast average consumer price index that is interesting but rather the development in core inflation,” Oblath said. „It is a secondary issue, in terms of the inflation process, if we suppose a 23%, 100%, or zero gas price hike, as that doesn't reflect the forces that shape inflation.” Core inflation is set to slow to 3% by the end of 2008, according to the bank's inflation report. Oblath said he agrees the government's austerity measures will lead to slowing economic growth. The bank now expects gross domestic product to grow 2.5% next year, the slowest pace in a decade. The government expects a 2.2% rate. (Bloomberg)