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Inflation may ease to 3% without rate hike by end-2012, says National Bank

In spite of cost-push shocks, inflation may fall back to the National Bank’s 3% "price stability" target by the end of 2012 without further monetary tightening, the central bank said in its latest quarterly inflation report on Wednesday.

The National Bank of Hungary (MNB) said it expected CPI to come close to 4% in 2011, lifted by commodity prices, but it projected a "gradual easing" of global cost pressures, suggesting a moderation of inflation after first-round effects of the shock wear off. "As the price and wage-reducing effect of weak internal demand and slack labor market conditions mitigates second-round effects, maintaining interest rates at their current level over a sustained period may enable inflation to fall back to target by the end of 2012," the bank said.

The MNB lowered its average annual inflation projection for 2011 in the report to 3.9% from 4.0% in the previous report, central bank governor András Simor said at a press conference on Monday. The projection for 2012 was raised to 3.6% from 3.4%.

The MNB lowered its forecast for GDP growth in 2011 to 2.6% from 2.9% in the previous report. The bank lowered its projection for GDP growth in 2012 to 2.7% from 3%.

Simor said on Monday that the bank bumped down the projections because household consumption and investments are expected to be lower than earlier thought. A pickup in employment will likely be seen only with a delay and the unemployment rate will probably stay over 10% for some time, he added.

In the report published on Wednesday, the MNB's experts said the outlook for growth would be determined by developments on Hungary's export markets as well as by household consumption and corporate investments and by government measures that aim to improve Hungary's fiscal balance and long-term growth prospects. Economic growth "is likely to exceed its potential level somewhat" in 2011 and 2012, but the output gap will remain negative across the entire forecast horizon, they said.

The report attributed the narrowing of the output gap to strong external demand as internal demand remains below medium-term equilibrium. Labor market activity is expected to pick up, but the increased labor supply will further reduce inflationary pressure because of the disciplinary effect on price and wage-setting decisions, it said.

Even as labor market participation increases, the unemployment rate "may get stuck" at its current level of around 10%, the report said. Loose labor market conditions are expected to prevail across the entire forecast horizon, thus the bank's staff sees only "moderate growth" in gross wages.

The report noted that although many Hungarians would get a windfall real yield on private pension fund assets by the end of summer, households were likely to be cautious in light of indebtedness and uncertain income prospects, as they were after personal tax changes favorable to many were introduced at the start of 2011. Government measures outlined in its structural reform program "are set to deteriorate the income position of households in the short term," it added.

The report acknowledged large-scale investments in the automotive industry were lifting corporate investments but said other sectors were expected to utilize existing capacities more intensively and postpone investments.

Government reforms may adversely affect public sector investments, but this could be offset by the increasing inflow of EU funds to a certain extent, the report said.

In a review of Hungarian assets prices during the quarter, the MNB experts said the most recent concerns over the debt crises in Portugal and Greece "had a limited impact" on risk premiums in the region. Hungary's risk premiums rose only slightly at the end of the period, supported by the favorable international reception of the convergence program, the interest rate premium of the forint and Hungary's strong trade balance in Q1.