Hungarian central bank's negative equity grew enormously, reaching HUF -1,833 billion
HUF 3.2 trillion losses over four years
According to the central bank's half-yearly report published recently, the MNB incurred a loss of HUF 248 billion in January-June this year, which is a significant improvement compared to the HUF 386.2 billion loss incurred a year earlier and the HUF 402.5 billion loss incurred in the second half of 2024. Nevertheless, the loss remains substantial, with the central bank continuing to struggle under the weight of high interest rates.
The breakdown of the results shows that althouth interest income improved significantly compared to a year earlier, the HUF 257.4 billion loss remained essentially unchanged from the second half of last year. This may be because the base rate reached its current level of 6.5% in September 2024 and has not been reduced since then, meaning that the MNB operated at an even higher interest rate in the first half of last year. It is worth noting, however, that it is precisely the high interest rate that is keeping the forint stable and on a strengthening path.
The HUF interest rate continues to show significant losses, with an accumulated loss of HUF 378.7 billion over six months. Despite improvements in this area, foreign currency interest income has declined significantly.
Inflation and the resulting high interest rates caused a negative turnaround in the central bank's results in 2021–22, from which it has not yet recovered. Over the past four years,
the MNB has generated a total loss of more than HUF 3,200 billion.
Although the trend is improving, it will certainly take some time before the deficit is eliminated entirely. Not to mention the replenishment of equity capital, which we will return to later.
What determines the performance of the banking system?
The central bank is not a traditional corporate organisation. Its performance is determined by specific factors, the main ones being:
1) the return on foreign exchange reserves, typically interest income;
(2) interest paid on central bank deposits;
(3) the revaluation of foreign currency assets (foreign exchange reserves) due to changes in exchange rates; and
(4) Other items.
The most common factor affecting the performance is that the central bank earns low interest income on its foreign currency-based assets (i.e. foreign exchange reserves) (1), while it pays a higher base rate on two-week and three-month deposits (2). In case (3), it is necessary to distinguish between realised and unrealised revaluation gains.
It is important to emphasise that the effectiveness of the central bank is not a measure of how successfully it achieves its economic policy objectives. Interest and exchange rate spreads are influenced by a multitude of factors, including internal ones, but these are not decisive because the central bank's objective is not financial performance in the monetary sense. Rather, it is to ensure price and financial stability, which may require profitable or loss-making operations depending on the economic environment.
Stronger HUF exchange rate hits
In recent years, we have become accustomed to the fact that, alongside interest income, another factor is usually worth paying attention to in the case of the MNB:
the result recorded on foreign exchange transactions.
In short, the central bank secures the state's foreign currency requirements, which are primarily driven by interest and principal payments on foreign currency bonds. The central bank always sells foreign currency from its reserves to the state at the current market exchange rate. However, in recent years, the average cost of the reserves has consistently been lower than the current market exchange rate, and the MNB has realised a profit from this difference.
In the first half of last year, this profit was still more than HUF 90 billion, but due to the weakening of the forint in autumn, it amounted to HUF 300 billion in the second half of the year. In comparison, the profit of HUF 43.2 billion in the first six months of this year seems modest, but this is to be expected given the nominal appreciation of the forint.
Where does the central bank obtain its 'cheaper foreign currency'? The reason for the difference in conversion is that foreign exchange reserves were built up gradually over the past few decades, rather than all at once. In other words, some of the reserves were acquired when the euro exchange rate was much lower, while new foreign currency sources (from bond issues and EU funds) are added at the current exchange rate.
In other words, it is actually advantageous for the MNB if the difference between the average purchase cost and the actual market exchange rate is as large as possible. According to the biannual report, the average purchase rate of foreign exchange reserves was HUF 377 at the end of June, meaning that foreign exchange transactions continued to generate profits.
This also means that if the forint appreciates below 377 against the euro, the central bank would make a loss on the conversion. However, this is less significant now, given that recent statements indicate that the goal of Hungarian economic policy is a more stable, stronger forint, a goal that is also served by the cautious and patient actions of the MNB.
In other words, currency stability and strength are more important today than the central bank's profit target, but in the long term, it is clear that
there is an exchange rate at which the strong forint is already hurting the MNB.
This does not mean, of course, that they will artificially weaken the currency — especially not before the 2026 parliamentary elections. Currently, the potential negative impact on the central bank's performance is much smaller than the economic benefits of a strong and stable forint.
Negative equity keeps on growing
This latest loss means that the MNB's capital position has deteriorated further.
At the end of June, the central bank's equity stood at minus HUF 1,833.4 billion.
If the central bank were a traditional business, the tax authorities would require the owners to replenish the capital given the significant negative equity position. However, this is not the case here, and
it would be challenging for the state to recapitalise the MNB by more than HUF 1,800 billion overnight.
Parliament had previously amended the Central Bank Act, making this recapitalisation unnecessary. The legislation therefore allows the MNB to operate with negative capital 'temporarily'. However, it does not define what constitutes a 'temporary' period, meaning that this situation could, in practice, last as long as it takes to replenish the capital from profits in subsequent years.
It is difficult to say how long this will last, as we cannot predict future domestic and international interest rates, so it is impossible to estimate the results that the central bank will achieve. However, it is clear that the surge in inflation in 2021 brought about a negative turnaround, given that the central bank had consistently made a profit between 2012 and 2020 and had even paid dividends.
Based on previous years, profits between 2013 and 2020 totalled around HUF 800 billion over eight years. This suggests that
it will likely take many years, or even decades, to work off the negative capital.
The first step, of course, would be to make the MNB profitable again. Then we could consider exactly how much negative capital needs to be replenished and how long this would take. Following the amendment of the Central Bank Act, it is certain that the budget does not want to take on this burden. This means that it will wait for the central bank to work off the negative capital. However, until this happens, the central bank will not be able to pay dividends.
The era of high inflation across Europe has resulted in central banks operating at a loss. This has sparked professional interest in whether central banks can effectively fulfil their monetary policy tasks with negative capital. Previously, based primarily on the principle of central bank independence, the answer to this question was that negative capital would limit central banks' ability to achieve their objectives. Recently, however, a consensus has emerged that these institutions can function well even with persistently negative capital.
Cover photo: Portfolio
