There are three major risks for Hungary’s real economy arising from the currency and stockmarket troubles. First, the weakening currency threatens the achievement of the authorities’ inflation target and so could the central bank to halt its monetary easing. The National Bank of Hungary (NBH) says that its inflation target is achievable at an exchange rate of Ft250-255:€1; it follows that if the exchange rate stays around Ft260:€1 or worse, then imported inflation will threaten the target.
In other regional economies, which are growing strongly, a mild monetary tightening would not be unduly worrying. Hungary, however, is in the midst of an austerity drive that has nearly brought the economy to a standstill. In a region where first-quarter GDP growth averaged around 7%, Hungary’s economy grew by just 2.7%. The flash estimate for the second quarter, at just 1.4% year on year, is even more alarming. In this context, the maintenance of relatively high interest rates at their current level is the last thing the economy needs. Still, this remains a serious risk.
Second, the government’s budgetary management--and its painstaking efforts to rebuild credibility--appear vulnerable. Prime Minister Ferenc Gyurcsany’s administration has cut its deficit target for 2007 twice already this year, in moves welcomed by markets, and has generally adopted a conservative approach to forecasting. However, July’s budgetary number exceeded the target. The comfort zone that the government has created, as part of its effort to rebuild its reputation, has shrunk dramatically.
Because public-sector debt is at 66% of GDP, a serious liquidity crunch that increases the cost of borrowing could quite easily push the government’s budgetary management off-course, thereby undercutting Mr Gyurcsany’s efforts to rebuild credibility among investors.
Third, the banking sector is potentially vulnerable and so too are Hungary’s legions of borrowers in foreign currency. The West European banks that dominate Hungary’s financial sector hail mainly from Austria, Germany and the Netherlands, all countries with some bank-sector exposure to the US subprime market. This raises a question as to whether borrowing costs in Hungary could rise if such banks experience liquidity problems and so are forced to tighten lending policies.
Moreover, despite the austerity measures enacted in recent months, Hungarian households are continuing to borrow—predominantly in Swiss francs rather than their own currency—as they seek to cushion the impact of falling real wages. Foreign-currency loans have been a feature of Hungary’s financial scene for several years. It wasn’t a problem when the forint faced mainly appreciating pressure. Now the Swiss currency is appreciating against the euro, and the forint has slumped. If this situation is maintained beyond a few weeks, Hungarian borrowers will struggle to meet their monthly payments. This will cast another shadow on an already glooming macroeconomic picture and could conceivably push several banks into serious trouble.
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Tuesday, August 21, 2007
The Economist Intelligence Unit On Hungary
The EIU has a short assessment of the current Hungarian situation online, entitled Hungary in the Firing Line. Perhaps the most relevant part for HEW readers is:
Posted by Edward Hugh at 1:59 PM