In line with consensus expectations, the NBH took the first steps towards policy normalisation today with a cut in the effective rate of 100bp, taking it from 18% to 17%.
The decision to do so follows a period of relative stability in the EURHUF exchange rate and the NBH’s April decision to cut the upper bound of its policy framework from 25% to 20.5%, which was seen as a precursor to further policy easing. Whilst the market had to wait until an hour after the headline policy announcements for a decision on the effective rate, the NBH ultimately followed through, citing an improvement in risk perceptions as the motivating factor to ease the policy rate that is most influential on the forint to 17%. Assuming these trends persist, it now seems likely that policy normalisation will continue over the coming months as the NBH looks to align the effective rate with the official policy rate at 13%. In our view, this dynamic should weigh modestly on the forint, as progressive rate cuts begin to weigh on the currency’s attractive carry traits, especially as the central banks of other popular carry currencies signal an elongated period of pause (Banxico, Central Bank of Brazil, National Bank of Poland, Czech National Bank). However, the extent to which this weighs on the forint is dependent on the pace of the NBH’s normalisation process. While today’s decision broadly met analyst expectations, it is notable that the risks were skewed towards faster normalisation, with one month forward cash rates for the policy rate yielding below 13% heading into today’s decision. This can partly explain why the NBH’s decision to match consensus expectations led to a flutter of forint strength in the immediate aftermath.
NBH meets consensus expectations, but government actions underscore risks of more aggressive easing
Given analyst expectations coming into this latest meeting, it was unsurprising that the policy release announced that the central bank base rate remained unchanged at 13.00%. More notable was the reduction in the overnight collateralized loan rate, which saw a cut of 100bp to 19.5%, down from the previous level of 20.5%. This again provided a signal of the central bank’s preferences, which ultimately materialised as the effective policy rate was eased when the central bank published its full rate statement and the press conference began at 14:00 BST. With inflation still extremely elevated, running at 24.0% YoY in April, there were risks heading into this meeting that the NBH could choose to delay policy easing. However, with inflation now falling for a third consecutive month, these risks were viewed as minimal.
On balance, the pace of disinflation in recent months meant risks were largely tilted towards faster normalisation, with some analysts foreseeing a larger cut in the effective rate and HUF rates lightly positioned for the risk that the policy rate was cut from 13%.
Whilst the central bank cited an improvement in risk perception as underpinning its decision, grandstanding by the Hungarian Prime Minister Viktor Orban also underscores the potential need for monetary easing as his comments this morning highlight the credible threat that Hungary will no longer receive any of the remaining EU recovery funds. In the absence of fiscal support, weaker growth conditions are likely to weigh further on inflation, underscoring the risk that monetary policy could be eased more quickly in the coming months.
The press conference by Governor Gyorgy Matolcsy unsurprisingly highlighted once again that the priority of the NBH continues to be fighting inflation.
However, he also confirmed what markets had already sussed out, that today’s moves represented the beginning of policy normalisation. It also represented a continuation in the recent rapprochement between the government and central bank, a relationship that had shown signs of strain on occasion in recent months. In particular, the governor commented that the government and central bank would coordinate policy, but not without taking the chance to urge lawmakers to phase out food price caps. Despite the easing of monetary policy, the forint actually showed signs of appreciation, with EURHUF having fallen by close to a full percent at one point immediately following today’s announcement. Whilst EURHUF has retraced from below 370 in recent days, the forint remains relatively strong, compared with the levels seen at the beginning as this year on the back of its attractive carry traits. However, with policy rates now definitely on a downward trajectory, and other central banks slower to loosen monetary policy, it suggests to us that forint weakness is now likely to be the theme over coming months.
EURHUF briefly drops after the NBH’s decision to hold the policy rate at 13% and cut the effective rate by just 100bps
Simon Harvey, Head of FX Analysis
Nick Rees, FX Market Analyst