Hungarian gov't meddles with central bank benchmark tool

According to the ministry's announcement, the deposit interest rate freeze will be extended until 30 June.

In practice, this means that some institutional investors, funds, Building Society Funds (LTP), insurance companies, investment funds and retail customers with at least HUF 20 million in deposits with commercial banks cannot receive interest on their demand deposits with a maturity of up to one year at a rate higher than the average auction rate of the 3-month discount Treasury bill. We should note, however, that foreign players still have access to the 18% central bank deposit, which puts Hungarian financial institutions and investors at a competitive disadvantage.

These entities may not purchase debt securities issued by the central bank of a Member State of the European Union denominated in forint until 30 June 2023.

ALL THIS MEANS THAT BY LIMITING THE TRANSFER OF DISCOUNT BONDS, THE GOVERNMENT IS ONCE AGAIN interfering with MONETARY TRANSMISSION, THIS TIME THROUGH THE MNB'S BENCHMARK INSTRUMENT, THE DISCOUNT bill.

The current measure affecting the discount bill completely excludes institutions and individuals with savings of more than HUF 20 million, who were previously affected by the deposit interest rate freeze, from the scope of the discount bill.

The other section of the government decree is that the deposit interest rate freeze will be extended until 30 June from the previous deadline of 31 March.

What is this all about?

So we are witnessing a fascinating tug of war between the central bank and the government.

• As a first step, the central bank raised its benchmark deposit rate to 18%, which the government frowned upon, so it put a brake on the effect by freezing interest rates, thus undermining the effectiveness of monetary policy,
• the central bank "circumvented" this by creating a more marketable instrument, the perpetually renewable discount bill, thus reaffirming the 18% interest rate as a benchmark,
• and now the government has reacted again, and, as we understand it, the group affected by the interest rate freeze has again been excluded from the 18% yield.

The regulatory arm wrestling is not good for the already poor perception of the consistency between fiscal (government) and central bank (monetary) policy, as the MNB does not seem to be able to set monetary conditions independently, as the government is constantly interfering.

The move will have no direct forint weakening effect, as foreigners will continue to have access to the 18% facility. At the same time, the overall interest rate level in the economy is still declining, so a weakening effect on the forint could be possible through narrower channels.

In addition, the fact that the government intends to shape interest rate policy to some extent may worsen the perception of central bank independence, which may also weaken the forint as a risk premium. (The deposit rate freeze had such an effect at the time, but it was not significant given the increased volatility of the forint.)

The government was particularly concerned by its own perception that the MNB discount bill was diverting market resources away from government bond auctions (mainly from the 3-month discount Treasury bill auctions).

The central bank disputes this interpretation, saying that the 3-month auctions only flopped when the global capital markets became risk averse and other countries in the region faced a similar situation. In any case, discount T-bill demand has recently recovered with higher yields, so both sides can argue their case.

Cover photo: Economic Development Minister Márton Nagy (left) and Finance Minister Mihály Varga (right) at a government meeting on Wednesday (22 March 2023). Source: PM Viktor Orbán's Facebook page.