Morgan Stanley, JP Morgan outline Brexit effects on CEE

Morgan Stanley estimates that the CEE region would be disproportionately affected by Brexit via the trade channel. The exposure to the UK is highest as a percentage of exports in Poland, but Hungary and the Czech Republic look most vulnerable as a percentage of GDP because of their openness.

Once a shock via the euro area is factored in, the impact on CEE is of course magnified further, given its outsized exposure to eurozone trade, the analysts highlighted. The cumulative hit to CEE GDP from a trade shock could be around 0.5 pp of GDP by end-2017 in a medium stress scenario, and almost three times as large in a high stress scenario. Morgan Stanley said. This translates to 0.6 pp less GDP growth this year and 2.5 pp less next year should the worst scenario come to pass.

Aside from economics, the exit of the UK would also have a political effect on the CEE region. Both Poland and Hungary have openly eurosceptic governments, which is likely to lead to tensions, Morgan Stanley said. If the EU reacts to the exit vote by pursuing more integration among existing members, it will likely encounter resistance among CEE governments. But if it does not, eurosceptic governments might try to extract their own concessions and opt-outs from the EU.

This all said, we think that concerns about Hungary are vastly exaggerated, as CEE countries still enjoy large benefits from the EU. Also, despite the fact that EU-enthusiasm may have waned, it remains much higher in CEE than in the EU as a whole.

The analysis notes that both Poland and Hungary have ambitious budget targets for this and especially next year, and current budget plans in both countries assume that growth will pick up sharply from here. Central banks which cooperate closely with their governments will naturally have a pro-growth bias, and this means that FX weakness that boosts exporters’ profits is welcome, provided of course it does not get out of control, according to Morgan Stanley.

In Hungary, the authorities remains sanguine about the country's growth prospects, despite a disappointing 1Q performance, the analysis said. The budget assumes growth of 2.5% this year and 3.1% next year, and a deficit of 2% this year and 2.4% next year. "While the numbers do not look as stretched as in the case of Poland, we believe that growth in excess of 3% next year will be hard to achieve, with our own sensitivities pointing to a post-Brexit outcome closer to 2%," Morgan Stanley said. While it still thinks that Moody's is likely to upgrade Hungary to IG later this year in November, more challenging fiscal numbers could derail the upward rating momentum, the bank warned.

As for the monetary front, although the National Bank of Hungary (MNB) has signaled the end of the easing cycle, MS thinks that slower growth than assumed argues for the resumption of an easing bias, expecting the central bank to opt for more QE-type programs (like FGS) and liquidity management (lower BUBOR) rather than conventional rate cuts. That said, the study does not rule out a return to rate cuts later this year.

JP Morgan expects flat rate, slower growth

The economists at JP Morgan have highlighted largely similar concerns regarding growth in the CEE region, warning that the countries with the most open economies, the Czech Republic and Hungary, are likely to be most affected.

JP Morgan does not expect an immediate response from Hungary's central bank. "We continue to expect that the base rate will be kept on hold until end-2017, but that the NBH will implement monetary easing in the form of Bubor intervention and/or FGS-type measures," today's statement said.

The London-based investment bank's latest forecast downgrades Hungary's expected economic growth in 2016 to 2.4% from the previous 3%, seeing the government's 3.1% target as increasingly unlikely to be met.

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