29 May 2012
At its meeting on 29 May 2012, the Monetary Council reviewed the latest economic and financial developments and voted to leave the central bank base rate unchanged at 7.00%.
In the Council’s judgement, the near-term prospects of the Hungarian economy are weak, with growth only expected to resume in 2013. The level of output will remain below its potential in the period ahead. Despite subdued domestic demand and the degree of slack in the labour market, the consumer price index is expected to remain elevated over the next few quarters, reflecting the effects of the tax changes and cost shocks.
Domestic inflation is likely to rise significantly, driven by increases in VAT and excise duties last year and this year, as well as by the depreciation of the forint exchange rate in the second half of 2011 and the rise in oil prices in early 2012. The government measures, announced as part of the Structural Reform Programme, are expected to directly raise inflation in 2013 while causing aggregate demand to contract, thereby reducing the risk of second-round effects on inflation. However, the development of second-round effects cannot be ruled out due to persistently above-target inflation, and therefore the Council must monitor closely developments in underlying inflation and earnings.
The significantly weaker-than-expected preliminary first-quarter GDP data may have reflected in part temporary factors affecting some sectors of the economy and the faster-than-anticipated weakening in recent economic performance. The sharp deterioration in the external environment weakens the short-term outlook for exports. Although there is uncertainty about the expected recovery in Hungary’s export markets from the middle of the year, the pick-up in production following the build-up of manufacturing capacities over the past quarters may boost export growth. But domestic demand is likely to fall further in the coming quarters. The uncertain prospects for income growth, continued deleveraging by banks, tight credit conditions and the contractionary effects of fiscal measures on aggregate demand continue to point to subdued investment and household consumption over the period ahead.
As a result of the improvement in country-specific factors and the deterioration in global factors, perceptions of the risks associated with the economy have been volatile in the past month. Risk premia demanded by investors for holding Hungarian assets remain high. An escalation of concerns over the sustainability of sovereign debt in some euro-area countries may adversely affect premia on Hungarian financial assets. The Council therefore continues to consider it highly important that an agreement between the Government and the EU and IMF is reached as soon as possible.
Meeting the Government’s deficit target is essential to achieving an improvement in perceptions about the Hungarian economy. One of the key challenges facing the economy is ensuring the sustainability of government debt, which requires that the country’s ability to attract capital and its long-term growth potential be improved. The structure of measures taken to meet the government deficit target is vitally important in this regard.
The Monetary Council has decided to leave the base rate unchanged in light of the above considerations. Monetary policy can best contribute to economic growth by maintaining a predictable economic environment, ensuring price stability and preserving the stability of the financial system.
The volatile risk environment and inflation running above target for an extended period continue to warrant a cautious policy stance. The Monetary Council will make every effort to ensure that the measures announced by the Government do not contribute to medium-term inflationary pressure and inflation returns to levels consistent with the Bank’s medium-term inflation target as the direct effects of the measures wear off.
The abridged minutes of today’s Council meeting will be published at 2 p.m. on 13 June 2012.
MAGYAR NEMZETI BANK