Hawks tore a dove apart at Hungary's central bank

The following is the minutes of the Dec 2009 policy meeting (highlighting and charts by Portfolio.hu).

Monetary Council members agreed that, in the current real economic environment characterised by subdued demand, the outlook for inflation provided scope to reduce the central bank base rate further. The overwhelming majority of members thought that for the time being developments in global financial markets reduced the scope for interest rate easing to continue at the pace of recent months, even though such easing was justified by macroeconomic conditions.

There was agreement among members that the real economy was proceeding along the expected path: growth driven by domestic demand had not yet begun, and the performance of exports had been slightly better than expected.

As regards external economic activity, the short-term picture was somewhat more benign than previously expected, but there was a significant risk that the fiscal stimulus measures taken by governments worldwide would not prove to be successful over the long term. The evolution of inflation was largely consistent with the previous favourable path, and the latest inflation data did not influence the outlook for future inflation.

In the Council’s judgement, there had been no further improvement in external risk conditions over the past four to six weeks and, moreover, there had been some deterioration in the past two to three weeks.

Several members noted the negative news about Dubai and Greece, which might caution countries with high external and domestic debt, such as Hungary. It was also argued, however, that looking back over the longer term Hungary’s position had clearly improved and markets appreciated the changes that had taken place recently, particularly as regards stability and fiscal policy.

Some members reaffirmed their view held at previous meetings that excess liquidity continued to concentrate in the liquid segments of the financial markets rather than in long-term financing opportunities, which, in turn, could lead to the development of new asset price bubbles. Large-scale fiscal expansion might affect adversely corporate finances and the outlook for growth through the crowding-out effect over the longer term.

Council members agreed that the previous interest rate decisions and comments on interest rate policy had made it obvious that, in view of the outlook for inflation, it was justified to continuously reduce interest rates, which the NBH had implemented gradually.

However, at present slowing the pace of interest rate cuts was justified by recent developments. Several members noted that - despite the adverse international developments - a sudden change in the stance of policy would be unreasonable and would be inconsistent with the Bank’s interest rate policy favouring a gradual approach to interest rate adjustments and predictability.

On another argument, one could not ignore the effect of the rise in the risk premium as was the case with regard to the VAT increase, as it was impossible to tell how long the rise in the risk premium might last.

Some members stressed that rate adjustments took time to affect the broader economy, while immediate market reactions might influence the country’s financing conditions even in the short term.

After the discussion, NBH Governor András Simor invited members to vote on the propositions put to the MPC. Seven members voted to reduce the base rate by 25 basis points and one member voted for a 50 basis point reduction.

The one member supporting a 25-bp reduction was Tamás Bánfi. Although Csaba Csáki was not present at the meeting, he later said he agreed with the decisino. Bánfi, however, said earlier this week that the pace of rate cuts should be faster. In view of the minutes, he is in minority with this opinion.

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