Hungarian cenbank to cut rates further, but uncertainties are huge
Major uncertainty
A month ago, the central bank surprised markets, or at least defied analysts' expectations that the Monetary Council would accelerate the pace of interest rate cuts from the previous 75 basis points to 100 basis points. In the end, however, the central bank's rate-setting body decided against this, maintaining the 75bp pace, lowering the base rate to 9.25% at the last meeting. At the time, the central bank's Deputy Governor, Barnabás Virág, explained the MNB's caution a month ago by citing current financial market tensions.
This made it clear to everyone then and there that the central bank is very sensitive to market developments, given the fundamentals of the economy (which would have allowed for a larger interest rate cut), and reacts immediately if necessary.
Meanwhile, it has also emerged that the situation will remain unchanged at Tuesday's rate decision meeting, with the 75 and 100 basis point options back on the table. This was indicated by Barnabás Virág himself in an interview with Index. The Deputy Governor did not provide anything more specific than that, but he did mention that he hoped that the then current debates (the government's plan to restructure the benchmark interest rate on corporate loans and an EU threat reported by the FT) had been put to rest.
Since the last meeting, we have learned how the Council was divided. According to the minutes, Zoltán Kovács and Mihály Patai voted for a 100 basis point rate cut at the 30 January policy meeting, while the other 7 members supported a 75 basis point cut.
This division and uncertainty is also reflected in analysts' expectations,
with 5 out of the 9 economists surveyed by Portfolio expecting a 75 basis point rate cut, while 4 project a 100 basis point cut.
This uncertainty is further underscored by the fact that many of the analysts who responded to our survey highlighted that they honestly find it difficult to tell which way the scales are tipping for central bank policy makers. Thus, many cannot categorically rule out one scenario or the other.
When could they make the switch to 100bps?
In his response to our query, Péter Virovácz, Senior Economist at ING, drew attention to the importance of the latest inflation data. "Headline headline inflation fell by 1.7 percentage points to 3.8% in January, meaning that inflation has been within the central bank's tolerance range (2-4%) for the first time since March 2021.
"In fact, it was such a downside surprise that the January figure was even 1 percentage point lower than the central bank's own estimate published in its December Inflation Report," wrote the analyst, who said the current inflation situation looks very positive and expects the headline figure to remain below 4 percent in March and April.
This is why he believes that arguments in favour of a front-loaded easing cycle, i.e. the acceleration of rate cuts could gain traction. He added that the Q4 2023 GDP data also strengthen the case for a larger rate cut.
Mariann Trippon, senior analyst at CIB Bank, also said that new data and market developments since the last decision give a stronger chance today that the arguments in favour of a 100 basis point cut will prevail in the Monetary Council next week.
Like Péter Virovácz, she also mentions the pleasant surprise of the January inflation print, while the real interest rate at the same time widened significantly last month, and the economy slowed down substantially at the end of the year, with the fourth quarter GDP figure falling short of even the most pessimistic expectations.
Turning to the external environment, she said that expectations for the Fed's interest rate path have continued to moderate, with the market pricing in a slower easing cycle with a delayed start. She noted that geopolitical tensions have not eased, with transport route problems not completely gone but at least not worse either. Trippon added that European gas prices have remained low and oil prices have remained in their previous range.
According to Péter Virovácz, the international factors are mixed, and he lists similar factors as Trippon. "The expected date of the Fed's first rate cut has been pushed back to June and expectations for the cumulative rate cuts have also moderated.
"This would clearly work against a faster Hungarian easing cycle. At the same time, the global inflation and yield environment remains favourable. There is no material change on the geopolitical front either, meaning that risks remain, albeit not amplified," he said.
Virovácz also stressed that the forint could once again be the decisive factor.
The fundamentals would still justify 100 basis points, and with the forint holding steady between 385-390 until the meeting, it is likely that the necessary three more votes for a larger rate cut will be found,
he speculates.
Mariann Trippon also pointed out that the factors that had caused the market turbulence have been partially resolved (the EU budget review has been adopted, Sweden's NATO accession could be ratified by the Hungarian parliament on Monday), the forint has stabilised, the 10-year yield has climbed above 6% in line with developed market yield movements, but the premium to German paper of similar maturity has narrowed somewhat.
She believes that, based on external developments, domestic fundamentals and domestic market flows, there appears to be sufficient room for a 100 basis point easing in February (but she does not categorically rule out a 75bp cut either).
Barna Szabó, chief economist at the Equilibrium Institute, who also expects a 100 basis point interest rate cut on Tuesday, said that "the economy is demand deficient by most indicators (i.e. its cyclical position is negative, disinflationary), and inflation is falling at a rate exceeding all analyst expectations".
"In comparison, monetary policy is exceptionally tight, both compared to recent years and in a regional comparison: it is characterised by a forward real interest rate of 6%, a level not seen in more than a decade, and an overvalued real exchange rate," argues the analyst. He also pointed out that real interest rate in Hungary is several percentage points higher than elsewhere in the region. For this reason, he also expects the pace of interest rate cuts to rise.
Zsolt Becsey, an analyst at UniCredit Bank, began his comments by saying that it is difficult to say which of the 75 or 100 basis point options will ultimately be chosen by the MNB, as the picture could change at the last minute depending on financial stability.
He also sees lower-than-expected inflation in January and the relative calm in foreign policy over the past month as supportive of a larger reduction. He added that there may be less and less room for the MNB to cut more in the upcoming rate decisions, as inflation will rise as base effects drop out of the index, so now may be the best time for a bolder cut.
However, the analyst also acknowledges that there are plenty of arguments for caution on the other side, such as core inflation in January exceeding 6% and rising interest rate expectations in developed markets. He also mentioned that the FRA market is currently pricing a move of 75 basis points.
Arguments in favour of a 75bp cut
Meanwhile, Péter Kiss, Investment Director of Amundi Fund Management, believes that
market sentiment has not improved to the extent that the MNB can shift into a higher gear without endangering the stability of the forint market.
"The forint is basically waiting for the interest rate decision at the same level as at the end of January, and the stricter communication from the developed market central banks is also in favour of a 75 basis point cut", the expert added, adding that he expects the base rate to be 9.25% following the decision.
It shows that the central bank's sensitivity to market developments (mainly the forint exchange rate) has an impact on analysts' expectations, as Zoltán Török, senior analyst at Raiffeisen Bank (who by the way expects a 75bp cut in his baseline scenario) wrote that there is a chance of a 100bp cut if the EURHUF moves towards 385bp on Monday.
Orsolya Nyeste, senior macroeconomic analyst at Erste Bank, said that we have heard arguments for both the 75 and 100bp cuts, and that both scenarios are almost equally likely to occur. In the end, she leans towards the more cautious 75bp easing, arguing that in her view:
- the forint is not particularly strong;
- the easing cycle of large central banks has been put off; and
- inflation is likely to turn around as early as February, albeit to a lesser extent for the time being.
However, she added that they would not be surprised by the acceleration, as the ex-post real interest rate is undoubtedly already high. "We continue to see no room for sustained acceleration, and the rate cuts could even end by mid-year," Orsolya Nyeste explained in respect of the longer-term outlook.
Péter Koncz, a macroeconomic analyst at Századvég Economic Researcher, also highlighted the key role of the forint exchange rate in his response. "The forint has weakened somewhat since the beginning of January, with the turbulent international environment and the strengthening of the dollar playing a role alongside various political news.
"A larger interest rate cut could therefore be sensitive for the domestic currency, especially given that the major central banks will start monetary easing later than expected," the economist argued, also noting that upside inflation risks are also evident after the very positive January inflation data.
"The 6.1% core inflation shows that deflation of rapidly changing commodity prices, mainly household energy and fuel prices, has pulled down overall inflation, and without these items inflationary pressures in the economy are even more significant," he said.
What to expect after the policy meeting?
In the light of the above more detailed analyst expectations, we can state that there is considerable uncertainty about the size of the next monetary policy move, and the final decision could therefore further shape the outlook for interest rates.
Commenting on the outlook, Mariann Trippon pointed out that if the central bank returns to the 100 basis point pace,
it will be crucial to manage expectations communication in order to maintain market stability.
Inflation could remain below 4% in the coming months, but later move upwards and fluctuate in a wider range until the autumn. By the end of the year, the annual CPI could be back above 5%, so the MNB's room for manoeuvre will narrow over time, meaning that sooner or later it will have to slow down the pace of interest rate cuts.
The Fed's expected interest rate path, expectations on the actions of regional central banks, together with the assumption that the domestic real interest rate environment will be positive this year, together represent a significant lower bound for the domestic base rate, with the benchmark rate in December likely to be between 5.5-6%, said the analyst at CIB Bank.
On the outlook, Zsolt Becsey said that if the MNB decides on 100 basis points, it will probably emphasise in forward-looking communication that it is not about setting the pace, i.e. monetary policy would remain data-driven, with a focus on financial stability.
Péter Virovácz said that the central bank's expected 100 basis point cut will make this year's monetary easing front-loaded. "We call it front-loaded because we believe that the expected cumulative rate cut for this year will not change, only the MNB will temporarily accelerate the easing. ING Bank continues to expect the end of the rate-cutting cycle to be 6.5%, which the central bank is likely to reach by mid-year," an ING Bank analyst wrote.
"In rhetoric, we also expect the central bank to clearly emphasise that the move to 100 basis points is only temporary, decisions will remain data-driven and a new decision will be taken every month," wrote Virovácz, echoing Zsolt Becsey's thoughts above.
The Portfolio consensus also suggests that the January decision of the Monetary Council (when it surprisingly cut by "only" 75 basis points) also influenced the short-term interest rate path expected by analysts. For December this year, the responding experts forecast a median base rate of 6.5%, higher than the 6% level in our January survey.
Cover photo: Getty Images
