A robust economy with political difficulties
Our new quarterly forecast once again includes a moderate upward revision of GDP growth rates for 2019-2021. Higher growth figures appear well justified on account of the unabated vigor of manufacturing, construction/fixed investment and real wage/consumption growth, despite all sorts of weaknesses occurring in the European economy. Repeated upward revisions of GDP predictions have been commonplace among both official and private forecasters recently.
Fiscal policies to support growth include a cut in employers’ social security tax and a generous new subsidy to raise the domestic birth rate from July 2019, another hike of statutory minimum wages, together with the reduction of SME’s profit tax and of the VAT in the hotel business from January 2020, in addition to a prospective further reduction of the social security tax from July or October this year. The sharp increase of the VAT on new apartments runs counter to the foregoing measures, but its negative impact is likely to be felt later than previously expected.
More growth typically means more macroeconomic disequilibria. This is also true for Hungary, of course, but there are also some mitigating factors at play. These include continued weak prices of foreign trade, the strength of net exports by services and manufacturing, the growing inflow of foreign guest workers and a high fixed investment ratio, the latter of which are starting to add to potential growth considerably.
Even so, we expect actual growth to remain above potential growth in the medium term, but much less so than we foresaw one or two years ago. We see little chance for CPI-inflation to ease back to the central bank’s medium-term target, but despite material risk on the upside, we see no proof whatsoever that the headline inflation rate should exceed the MNB’s tolerance ceiling on a sustainable basis at any time in the foreseeable future.
The foregoing inflation outlook is based on the prospect of a relatively pleasant BOP scenario, with small and just marginally growing net financing deficits. This would allow HUF depreciation to remain slow, compensating for only part of the inflation differential between Hungary and its main trading partners.
Despite the above-mentioned growth-supporting measures, 2019 was a year of fiscal stabilization and of a markedly decreasing government debt ratio. This trend is likely to continue in 2020, before giving way to a renewed loosening of policy in the subsequent one and half years, with a view to supporting Fidesz in the next parliamentary election, due in Q2 2022. The second half of 2022 is likely to see tightening again, just the same way it happened in H2 2018.
We expect the impact of tight of fiscal policy to be compensated for by a continued loose stance of the MNB throughout the forthcoming three years. The MNB’s effective inflation target will likely be the tolerance ceiling, and the Bank is unlikely to be bothered much even if the headline rate exceeds that ceiling temporarily. As a consequence, we do not see any interest rate hike as part of our main forecast scenario.
Despite a tendency in EU politics towards tighter control over member governments’ domestic political conduct, we still do not expect any serious punishment of Hungary, on account of repeated forceful criticism on the state of democracy, civil rights and the rule of law in the country. The majority of leading forces of the EU are much more interested in keeping Hungary within the game, but they are likely to aim at continuously putting pressure on the Fidesz government. As part of the latter, the exclusion of Fidesz from the European People’s Party seems increasingly likely.
Hungary will almost certainly lose about half of its net transfers from the EU, as a ratio of GDP, under the new medium-term budget. However, this will start to have an effect from 2024 at the earliest, leaving much time for the government to make preparations. At the current rate of project implementation, the existing budget will likely hold out until 2022-2023, without serious risk of disruption as national transfer quotas get used up at any earlier time.
The October 2019 local government elections signaled a recovery by opposition forces, but Fidesz still appears as the most likely winner of the 2022 parliamentary election, even though its current constitutional majority is less likely to be maintained. Such a prospect should reduce the political risk spread in our view, but that election is still very far away, and thus uncertainty remains high.
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