An interest rate hike by ÁKK - outsourcing monetary policy
Inflation maintained its ascending trend in July, moving up a bit faster than expected. Fuel prices still played an important role, but there were also non-seasonal increases in the area of industrial products, on rising producer price inflation in that sector. Unlike in previous months, all core inflation indicators moved upwards, some of them significantly. Going forward, price stability should be supported by the forint’s most recent bounce-back vis-à-vis the euro. However, inflation may be pushed up again in September by an administrative increase in tobacco prices, as well as possible cost-pushed hikes in the consumer prices of milk, dairy items, bread and other bakery products.
GDP growth decelerated to 4.4% yoy in Q2, essentially on the weakening European economic cycle, which affected the industrial sector negatively, and on the unsustainability of the former stellar growth rates of construction output. Judged by retail sales data, consumption remained almost as robust as in the previous two quarters. The trade balance deteriorated further, but the external income surplus is still significant.
Q2 was yet another quarter when no miracle took place in the labor market. The unemployment rate decreased further, both in the narrow and the broad sense, the latter calculated to include the participants of social employment programs. Meanwhile, some of the neighboring CEE states are actively competing for imported labor, whereas Hungary’s government seems to be lacking credible ideas on how to cope with the country’s ever-increasing labor shortages.
An important story for this month was an announcement by BMW of the intended construction of a new car assembly plant in Debrecen, Eastern Hungary. This would be a greenfield project, and so the unit is unlikely to start production before 2023. Nonetheless, it is likely to have a material positive impact on GDP even in the construction phase.
But in a different announcement, the MNB said that it would tighten its regulation of mortgage lending, reducing the mandatory ceiling for the ratio of debt service to the debtor’s total income in the case of adjustable-rate housing loans. This is likely to reduce the demand for residential housing, especially together with the recently published government decision to raise the VAT on newly built homes from 5% to the regular 27% in January 2020.
Post-election fiscal normalization continued at a somewhat higher speed in July. The central government’s cumulative cash deficit ratio shrank further, despite the continued rapid distribution of funds under EU-sponsored development programs. The Finance Ministry acknowledged that the cash deficit might end up higher than planned for this year as a whole, but they insisted that the main ESA-2010 deficit target will be met. The government is still likely to tighten policy in H2, essentially by avoiding the previous two years’ spectacular spending spree towards the very end of the year.
Most recent BOP and monetary data have partially confirmed the story of the forint’s weakening in May and June, which we presented in our previous reports. This included a major purchase of HUF government bonds by local banks, in part from foreign investors in May, through increasing net foreign liabilities and the MNB’s massive liquidity generation through FX swaps, i.e. intervention against the forint. This was followed by a great deal of normalization in June.
In July, just as in the preceding month, the MNB refrained from selling new FX swaps to banks in net terms, and the system’s total deposits with the central bank fell moderately by the end of the month. However, BUBOR rates still edged down a bit, suggesting that the demand for liquidity fell by even more, as the uncertainty around the forint subsided. At end-July, only one-third of total banking sector liquidity was in MNB sterilization, meaning the central bank continued to put massive downward pressure on money market rates.
However, ÁKK carried out a 50bps hike of the interest rate the government pays on the special bonds it offers only to domestic households, effective from August. This may be seen a bit like an outsourcing of monetary tightening, as the administratively-set interest rate on household bonds works in a way similar to a sterilization rate. Of course, we believe that the main objective of the ÁKK’s move was to secure a proper inflow of household savings into the special bonds, a measure that effectively contains the government’s financing requirement through the bond market.
Having achieved most of his latest objectives in the reform of constitutional law and in the effective destruction of his opposition inside and outside parliament, PM Orbán has apparently launched his campaign for the European Parliament election of June 2019. In his most recent speeches, he stated that Fidesz would not leave the European People’s Party voluntarily. Instead, his aim is to reform the EPP from inside, hoping that the election will result in a further shift of the popular vote in favor of the supporters of his favorite illiberal democracy model. In reaction, his EPP opposition, especially from Sweden this time, insisted that the EPP should throw Fidesz out at the party congress due in November.
The latest polls show an even bigger Fidesz camp than the actual election results, a new example of the usual bandwagon effect. Opposition parties have failed to find a modus vivendi in the post-election situation. Jobbik is now officially split into two parties, whereas the LMP has submerged into a self-written farce, in an effort to convince voters that they are not simply agents of Fidesz. The handover of the former-Fidesz-financial-director-turned-Mr. Orbán’s-fierce-opponent Mr. Simicska’s assets to someone reasonably close to the prime minister has reached its implementation phase, and so Hír TV, an outstanding piece of the remaining opposition media, has also been taken over by pro-government forces.
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