Partial Covid-lockdown deepens this year's economic setback

HUNGARY - Report 20 Nov 2020 by Istvan Racz

In response to a rapid spreading of the Covid-19 virus, PM Orbán eventually gave in and introduced a partial lockdown rule from November 11. This was essentially unavoidable in view of the heavy pressure mounting on available health care capacities. Previous restrictions have already started to bring about limited results, and more improvement is expected from the new measures in two-three weeks’ time.

The government expects a breakthrough improvement only from the start of vaccination. Hungary stands in the queue for all possibly upcoming vaccines, including purchases from the western world through the EU but also from China and Russia, as and when any of these become available. Publicly, PM Orbán has promised the start of vaccination on a limited basis from around the turn of the year and in big quantities from April or May. This plan sounds optimistic, but it does not appear terribly out of line with reality.

Preliminary GDP data for Q3 reflects an unexpectedly strong recovery from the massive spring setback. Overall, Hungary did relatively well in the first three quarters this year, as far as output growth is concerned. Unfortunately, September figures showed preliminary signs of another economic slowdown due to the new wave of Covid restrictions, and further weakness will likely be caused by the most recently introduced lockdown measures.

The government has announced new fiscal measures to protect jobs in hospitality industries, and more extraordinary spending is likely to come to mitigate the economic and social impact of Covid’s ongoing second wave. These will push up this year’s fiscal deficit from its current trend towards the markedly higher level predicted by the government a few weeks ago. However, the financing of the government budget appears to be in good order. The Treasury has sold FX-denominated bonds far above plan in 2020, and it is sitting on an unusually high amount of cash reserves.

The current weak economy continues to support the balance of payments through low import demand, a relatively good performance of the export-driven manufacturing sector and additional terms of trade gains, mainly on energy. The trade balance has been improving on these factors in recent months, and the current account is still likely to show only moderate deterioration in full-year 2020.

Headline CPI-inflation fell further and stood exactly at the central bank’s target level in October. Core inflation remains somewhat higher, but it also has a downward tendency. We continue to expect inflation to settle down around its current level for the rest of this year.

The MNB is pressing ahead with massive asset generation, buying all sorts of domestic bonds and extending loans to the banking sector and indirectly to SMEs. The latest downturn in inflation has increased the Bank’s freedom to loosen again, with a view to supporting the weak economy. For example, the MNB could reduce the 1-week deposit rate back to 0.6% quite soon. However, a more significant adjustment of the MNB’s stance is much less likely, given the growing uncertainties posed by Covid and the government’s most recent veto of the EU budget.

The outcome of the US presidential election is a problem for the outspokenly pro-Trump Hungarian diplomacy, but any consequences could be felt only next year at the earliest. More directly, the real bad news has been a recent intra-EU deal on the rule-of-law mechanism attached to the availability of EU funds. The latter was followed by Hungary and Poland's blocking the whole fiscal package earlier this week. EU leaders are seeking a compromise, as usual, but the risk is a possible veto by a group of donor countries or the European Parliament if the conditionality mechanism is diluted.

PM Orbán may have found that the odds in domestic politics could turn against his party if the Covid crisis got deeper and the rule-of-law mechanism is activated against Hungary. At least this is suggested by a series of new legal initiatives to change the election law and the Constitution. The first one would make any opposition alliance harder to form, whereas the second one may be meant to strengthen Fidesz’ voting base and positions with regard to foundations created from public funds. Curiously, these drafts were presented to parliament just at the outset of the new Covid-related emergency rule, under which street demonstrations cannot be held and the government has a stronger-than-usual mandate to maintain public order.

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