Hungary Cuts Rates for Second Time in Two Weeks as Risks Wane
Written on December 23, 2008
The Hungarian central bank cut the European Union’s highest benchmark interest rate for a second time in two weeks as inflation slows more quickly than expected and risks abate in the recession-bound economy.
The Magyar Nemzeti Bank in Budapest lowered the two-week deposit rate to 10 percent from 10.5 percent, in line with the forecast of 21 of 23 analysts in a Bloomberg survey. Two had expected a 1 percentage-point reduction.
Emerging markets have been battered by the global credit crisis as investors dump riskier assets in a flight to safety. Hungary raised interest rates by 3 percentage points on Oct. 22 to defend the forint and secured an international loan to avert a default. The bank has reduced rates three times in five weeks, by 0.5 percent each time, as the forint and bond markets stabilized.
“Assuming that the forint exchange rate and the Treasury bill market continue to display stability in the New Year, the Monetary Council should then feel sufficiently confident to increase the pace at which it cuts rates,” Chris Scicluna, a London-based analyst at Daiwa Securities, said in an e-mailed comment before the decision.
Slowdown’s Impact
An economic slowdown in Europe’s biggest economies, especially Germany, have slowed the flow of goods from eastern Europe and helped eased inflationary pressures. The Hungarian move comes after the Czech Republic and Slovakia also cut their key rates this month. Poland is expected to do the same when its Monetary Policy Council meeting ends tomorrow.
Hungary’s ability to continue cutting rates hinges on the forint, which reflects country risk as perceived by investors, central bank President Andras Simor told Magyar Narancs weekly last week.
Rate decisions are driven “first by the forint’s exchange rate, not because we have a specific exchange rate target, but because there’s a clear link between Hungary’s country risk perception and the forint rate,” Simor said in the interview published on Dec. 18.
Other considerations for rate-setters include global risk indicators and Hungary’s relative position, as well as liquidity in the banking industry and government bond market and yields on local assets, Simor said.
IMF Bailout
The forint fell to a record against the euro in October, forcing the central bank to raise the benchmark rate to 11 health insurance.5 percent from 8.5 percent on Oct. 22, the biggest rate increase in five years. The country also secured 20 billion euros ($28 billion) in International Monetary Fund-led loans to shore up the economy, which is headed for its worst recession in 15 years.
The forint has replaced inflation as the top concern of policy makers as price pressures ease with a slowing economy, which contracted in the third quarter and may already be in a recession. The central bank expects the economy to shrink as much as 1.7 percent next year.
“The central bank doesn’t have to worry about inflation any more; the recession will do the job,” Budapest-based Intesa Sanpaolo SpA economists, led by Mariann Trippon, said in a Dec. 18 note to clients.
Consumer price growth slowed to an annual 4.2 percent in November, more than a two-year low, from 5.1 percent in the previous month, as crude oil prices, which fueled inflation last year, tumbled. Inflation peaked at 9 percent in March 2007.
‘Steep’ Slowdown
The “steepness of the slowdown” in consumer price growth is “surprising to everyone, even for us,” Simor said on Dec. 11. The bank expects the rate, which has exceeded policy makers’ 3 percent target since August 2006, to fall to between 3.1 percent and 3.4 percent next year and to between 1.5 percent and 1.9 percent in 2010 from an estimated 6.2 percent this year.
The central bank voted 8-3 last month to unexpectedly cut the benchmark interest rate by a half-point, to 11 percent, starting to roll back October’s emergency increase in anticipation of slower inflation. Policy makers voted 8-2 to reduce the rate by another half-point at an extraordinary rate-decision meeting on Dec. 8, citing reduced country risk.
Even as slowing inflation opens the way for more rate cuts, the IMF has urged Hungary to use a “gradual and cautious” pace in reducing the key deposit rate.
“The reduction in the interest rate has been appropriate,” James Morsink, the head of the Washington-based lender’s delegation to Budapest, told reporters on Dec. 15. “Further rate cuts should be gradual and cautious.”