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The National Bank of Hungary cut rates by 100bp in their latest policy decision, taking the main policy rate to 9.00%, in line with market consensus and our pre-announcement call. Whilst this marks an acceleration in the pace rate cuts, such a move was not entirely unexpected by markets.
Recent commentary emanating from the NBH offered a strong hint that policymakers could look to increase the pace of easing this month. This makes sense to us as well given that inflation in Hungary continues to sink like a stone. Indeed, we think that inflation could undershoot the NBH’s 3% target for much of this year. In this context, the current policy stance looks far too restrictive in our eyes, warranting an easing path that rapidly cuts interest rates to less elevated levels. We now look for further 100bp cuts from the NBH in both March and April. Admittedly, the increased carry erosion associated with a faster pace of easing will naturally weigh on the forint, and poses some upside risks to inflation. For now, though, policymakers will be gratified to see that the immediate sell off has been modest, with EURHUF spiking just 0.2% post-announcement.
Despite suggestions from Deputy governor Virag suggesting that the Committee would increase the pace of easing in January, our view heading into that meeting suggested that the balance of risks was tilted towards a smaller 75bp rate cut, a view ultimately shared by a majority of NBH rate setters.
However, as we noted in our preview for today’s decision, most of the risks that had seen the NBH cut by just 75bps last month have receded in the intermeeting period. Tensions between Hungary and the EU over aid for Ukraine have eased, a proposal to change the reference rate has been junked, and government measures to provide short-term interest rate relief for borrowers are yet to see a significant pick up in loan demand. Moreover, policymakers have continued to sound dovish, with renewed indications that 100bps of cuts would be on the table at this meeting. Given this, we were in line with consensus looking for a 100bps of cut in advance of today’s decision, albeit this was not a unanimous call. Of the 20 economists surveyed by Bloomberg, 17 expected a 100bp cut to the main policy rate. The remaining three anticipated 75bps of easing, which would have continued the pace of recent cuts.
The one remaining factor weighing against an acceleration today came from the downside risks it could have posed for the forint.
This dynamic was on full display early this month in the Czech Republic, where policymakers surprised with a larger than expected rate cut, leading to a sharp selloff for CZK. Given that a weaker currency risks triggering a resurgence in price pressures via the import channel, this is a risk that policymakers are likely to be highly cognisant of. On this occasion however we felt that the benefits outweigh the risks, a sentiment seemingly shared at the NBH. In particular, inflation in Hungary has fallen off a cliff over recent releases, a fact recognised in today’s communications. Headline price growth fell to 3.8% in January, down from 5.5% in December and a significant undershoot of the 4.3% print anticipated by markets. Admittedly the NBH also expects that inflation will remain close to the upper bound of the Bank’s tolerance band over coming months, before rising temporarily in the middle of the year due to base effects. But in our view risks to this forecast are tilted to the downside, with several larger than usual price increases from early 2023 set to fall out of the year-on-year calculations in coming months. As such, and in contrast to the NBH, we actually see growing risks that inflation could temporarily undershoot the Bank’s 3% target in the next few months. Significantly for policymakers though, core inflation has fallen rapidly too, easing by 1.5% to 6.1% YoY last month.
As noted in the policy statement, the annualised three-month change in core inflation has been below 3% since October, repricings at the start of the year were subdued and inflation expectations have fallen, all of which point to inflation pressures that are set to remain muted.
There looks to be little reason for concern that a hot economy could lead to a resurgence in price pressures either, a fact also reflected in today’s policy statement. Growth has flatlined, demand conditions remain weak and with the unemployment rate jumping 0.3pp to 4.5% in January, the labour market appears to be loosening now as well, lessening upside risks to price growth stemming from elevated wage pressures. All told, this means that whilst the acceleration in easing today is a gamble, it is one well worth taking in our eyes. Yes, it will see the forint weaken, but this is a price worth paying in the context of inflation pressures that have notably softened, and growth conditions that are in need of support. In terms of policy moving forwards, there remains some uncertainty, however. Today’s policy statement contained a notable line suggesting that the increased pace of easing seen on this occasion was “temporary”. Deputy Governor Virag echoed these comments in his press conference, saying that the Bank sees the key rate at 6-7% by June. This would suggest 200-300bps of cuts over the next four meetings.
Given that our view on Hungarian inflation is more dovish than the Bank’s, we expect the NBH to deliver easing at the upper end of the suggested range, assuming of course that the Committee remains data dependent.
Our base case now looks for 100bp cuts in both March and April before the Committee slows to 50bp increments, albeit risks to this view are skewed towards less easing if price growth cools more slowly than we expect. In any case, we think policy easing is likely to be front loaded in an attempt to play catch up with the rapid fall in price growth. From a currency perspective, this should see HUF weakening in the coming months as carry protection continues to be eroded. Despite this, any sell off should remain relatively contained, we think, with rates in Hungary still looking relatively attractive when compared to CE3 counterparts.
Author:
Nick Rees, FX Market Analyst