Press release on the Monetary Council meeting of 24 April 2018

24 April 2018

At its meeting on 24 April 2018, the Monetary Council reviewed the latest economic and financial developments and decided on the following structure of central bank interest rates with effect from 25 April 2018:

In the Council’s assessment, in parallel with the pick-up in domestic demand Hungarian economic output is close to its potential level. Growth of the Hungarian economy will pick up further in 2018, then, if the assumptions of the current projection hold, it will slow down gradually from 2019. The inflation target is expected to be achieved in a sustainable manner by the middle of 2019.

In March 2018, inflation stood at 2.0 percent and core inflation at 2.4 percent. Inflation and core inflation were in line with the Bank’s expectations. The Bank’s measures of underlying inflation remained unchanged and continued to be below core inflation. The expansion in domestic employment, the tight labour market as well as increases in the minimum wage and the guaranteed minimum wage had led to a general, dynamic rise in whole-economy wages, which continued into early 2018. The upward effects of this on costs is being offset by the reduction in employers’ social contributions at the beginning of the year and in the corporate tax rate in 2017. In the first quarter of 2018, services prices rose somewhat faster than last year, though still at a moderate pace. Consequently, in line with the Bank’s expectations, there has not yet been any significant upward pressure on inflation from wages. Oil prices increased over the past month. According to the ECB’s projections, underlying inflation will continue to be moderate in the euro area in the coming years as well.

If the assumptions in the March projection hold, the consumer price index will remain in the lower half of the tolerance band in the coming months. Over the medium term, buoyant domestic demand and the increase in wage costs will point to an increase in domestic core inflation. However, moderate external inflation and inflation expectations stabilising at historically low levels, as well as subsequent reductions in employers’ social contributions and the VAT rate cuts this year, are slowing the rise in prices. If the assumptions of the current central bank projection hold, the inflation target can be achieved sustainably by the middle of 2019.

The Hungarian economy grew by 4.4 percent in the fourth quarter of 2017. Industrial production and the volume of retail sales continued to grow in February. Labour demand remained strong. The unemployment rate was at its historical low. Strong credit growth continued in February. Outstanding lending to the corporate sector increased by nearly 10 percent relative to a year earlier. In the household sector, annual growth in lending was 2.5 percent. A significant part of this was related to the expansion in housing loans.

Looking ahead, the general strengthening of domestic demand will continue to play a central role in economic growth. Robust growth in construction and the expansion in the performance of the service sector are likely to continue in the coming months. From a historically high level of 6 percent in 2016, Hungary’s current account surplus relative to GDP is expected to fall to below 2 percent in 2018, driven by rising domestic demand. However, it is expected to remain in positive territory over the longer term. Economic growth this year will also be supported by the fiscal budget and the stimulating effects on investment of European Union funding. In the Council’s assessment, GDP growth will be above 4 percent in 2018, higher than last year, then, according to the current projection, it will slow down gradually from 2019. The Bank’s and the Government’s measures contribute substantially to this year’s economic growth.

Sentiment in international financial markets has been volatile in the period since the Council’s previous interest rate decision. Developments related to trade policy measures by the US and China were the main factors influencing investors’ appetite for risk. Market participants expect the Fed to continue raising interest rates. The ECB is likely to maintain loose monetary conditions. Investors’ perceptions about the Central and Eastern European region continue to be positive. Expectations related to interest rate increases moderated in several countries of the region. Due to the different inflation paths expected in the countries of the region and the different characteristics of inflation targeting regimes, market prices suggest that monetary policy stances by regional central banks will continue to differ.

The short end of the market yield curve has shifted upwards in recent months, while the Bank’s guidance about the maintenance of loose monetary conditions over an extended period remained unchanged. Hungarian long-term spreads over yields in the euro area and the region fell during the spring months following an increase earlier in the year and decreased significantly over a longer horizon as well.

In the Council’s assessment, maintaining the loose monetary conditions for an extended period is necessary to achieve the inflation target in a sustainable manner. To this end, the Monetary Council maintained the base rate, the overnight collateralised lending rate and the one-week collateralised lending rate at 0.9 per cent and the overnight deposit rate at -0.15 per cent. The Council will maintain the HUF 75 billion upper limit on the stock of three-month deposits. In addition, in March, the Council set the average amount of liquidity to be crowded-out for the second quarter of 2018 at least at HUF 400-600 billion. Furthermore, the Council stated that the actual amount of liquidity to be crowded out must reach a level sufficient to ensure the maintenance of the loose monetary conditions for an extended period. On the next occasion, in June 2018, the Council will decide on the amount of liquidity to be crowded out and will take this into account in setting the stock of central bank swap instruments.

In March, the Monetary Council set the maximum stock of monetary policy interest rate swaps in the first half of 2018 at HUF 600 billion. The Council’s aim is that the loose monetary conditions have their effect not only at the short but also at the longer end of the yield curve. To ensure this, the Bank will continue mortgage bond purchases and the monetary policy interest rate swap facility as programmes, continuously and for a prolonged period, and therefore they constitute an integral part of the set of monetary policy instruments.

The Council considers the Bank’s mortgage bond purchase programme to be successful. Under the programme, the MNB purchased mortgage bonds with a nominal value of some HUF 150 billion up to the middle of April. Transactions in the primary market accounted for more than one-third of total purchases. As a result of the measures, spreads of mortgage bonds over yields in the government securities market fell sharply and turned negative on average. The decline in financing costs encouraged issuance in the primary market, thereby facilitating the increase in fixed-rate lending.

In harmony with the Council’s forward guidance, the new instruments contribute efficiently to the maintenance of the loose monetary conditions over a prolonged period and to an improvement in financial stability. The Monetary Council focuses on the relative position of domestic long-term yields relative to international yields when evaluating the programme.

The inflation target is expected to be achieved in a sustainable manner by the middle of 2019. In the Council’s assessment, maintaining the base rate and the loose monetary conditions at both the short and long ends for an extended period is necessary to achieve the inflation target in a sustainable manner. The Council will closely monitor developments in monetary conditions and will ensure the persistence of loose monetary conditions over a prolonged period by using the extended set of monetary policy instruments.

The abridged minutes of today’s Council meeting will be published at 2 p.m. on 9 May 2018.

MAGYAR NEMZETI BANK

Monetary Council