Hungary’s easing cycle "running out of room", says City


Financial vulnerabilities and a lack of progress towards an IMF deal mean that there is limited room for further monetary easing for Hungary, London-based emerging markets analysts said after Hungary's central bank (MNB) had delivered a widely anticipated 25bp interest rate cut on Tuesday, the third easing in as many months, bringing its base rate to 6.25%.

 William Jackson, emerging markets economist at Capital Economics in London said after the rate decision that while the latest activity data suggest that the Hungarian economy remains mired in recession, "there appears to be little else to justify the decision".

Inflation rose to a four-year high of 6.6% year-on-year in September, and the European Commission appears to be unsatisfied with two fiscal adjustment packages introduced this month, which means Hungary's access to EU structural funds is under threat.

This is reflected in a 50bp rise in 10-year bond yields over the past couple of weeks, while the forint has fallen from 277/EUR in the middle of the month to near 285/EUR at present.

"As things stand, with the external MPC members in ascendance, we would not rule out one or two more rate cuts over the coming months" as the Hungarian economy is likely to remain in recession for the best part of the next 12 months.

But without the government making any significant progress towards securing an IMF/EU financial backstop, "we think the external members' dovish position will become increasingly difficult to sustain".

And with no end in sight to the eurozone crisis, "we think Hungary now needs an IMF deal in place to keep interest rates at their current levels ... If not, the MNB could yet be forced into defensive rate hikes to stem capital outflows". Accordingly, "we doubt that rates will fall to 5.25% next year as the market has currently priced in; we have pencilled in rate cuts to 6.00%", Jackson said.

London-based emerging markets analysts at JP Morgan said after Tuesday's rate cut, however, that the four external members on the MPC are less inclined to condition further rate cuts on progress towards an IMF/EU deal and are more focused on the government's efforts to cut the fiscal deficit, despite "the unsustainability or poor quality" of some of those measures.

"Our base case remains for one more 25bp rate cut by year-end, followed by a further 50bp in the first half of 2013, taking the policy rate to 5.50%".

However, the risk is that a turn in financial market sentiment forces the MPC to pause its rate cutting cycle in coming months, JP Morgan's analysts said.


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