BUDAPEST Hungary's markets tumbled on Friday on confusing comments from the new government on the state of public finances, prompting the central bank to rush to reassure investors the country's budget was sustainable.
Markets were spooked by comments from the prime minister's spokesman that he supported the view his country had only a slim chance of avoiding a Greek-style debt crisis, although he said his government would act swiftly to avoid the Greek path.
The forint plunged over 2 percent versus the euro to a new one-year low at one point, while five-year credit default swaps (CDS) jumped, as investors were shocked by the government's comments and urged clarity on its plans.
The euro slumped against dollar on fears that Hungary could become next casualty in the European debt crisis.
The new Hungarian government, which was sworn in less than a week ago, said it would soon announce an action plan to tackle economic problems, after it publishes the figures about the "true" state of the 2010 budget this coming weekend or early next week.
The central bank said external and internal balances had improved and although the deficit this year was expected at 4.5 percent of GDP, above the target of 3.8 percent, it was sustainable and Hungary had a current account surplus.
"The country's current account shows a surplus and the external financing capacity is expected to remain positive in the coming two years," the bank said in a statement.
"Although the fiscal developments show some slippage compared to the budget law, fiscal tensions stemming from the accumulated debt of state-owned enterprises do not endanger the sustainability of government finances," the bank added.
The center-right government won elections in April by a landslide, winning a two-thirds majority of seats and ousting the Socialists. It has said it wanted to boost growth via tax cuts and economic stimulus measures.
On Thursday, the ruling Fidesz party's vice chairman Lajos Kosa was cited as saying by news website napi.hu that it had found public finances in a much worse shape than previously expected and there was only a slim chance of avoiding a Greek-style scenario.
When asked about those comments, Prime Minister Viktor Orban's spokesman Peter Szijjarto told a news conference:
"It was (former Socialist) Prime Minister Ferenc Gyurcsany who spoke about a default. Moreover, he proudly said that Hungary was close to default, he said that a year and a half ago ... and then he was proud that he could only save Hungary from default by taking the IMF loan."
"From this aspect I do not think (Kosa's comments) are exaggerated at all."
Szijjarto also told the news conference that the previous government falsified economic data.
"In Hungary the previous government falsified data. In Greece, they also falsified data. In Greece the moment of truth has arrived. Hungary is still before that," Szijjarto said.
"This is exactly what we want to avoid, and this government is ready to avoid the path that Greece took. After realizing what reality is, we will not hesitate to act," he said.
Socialist party parliamentary group leader Attila Mesterhazy said Hungary was not close to default.
Szijjarto said the austerity measures and tax hikes which the Socialist administration tried in the past had failed.
He said tax cuts would not be delayed even in the face of a higher budget deficit. It was not clear how that could square with bringing the deficit under control.
The previous government regained markets' trust by containing the deficit at 4 percent of GDP last year with deep spending cuts, after Hungary resorted to IMF and EU financing in October 2008 to avert meltdown.
The country has been financing itself from markets again this year and has not drawn on any IMF funds so far in 2010.
Financial markets tumbled after the government's comments.
The forint plunged over 2 percent versus the euro to a new one-year low of 289.80 before recovering slightly. Five-year credit default swaps (CDS) surged 100 basis points to 430 basis points, while bond yields jumped 40-70 basis points.
The stock of OTP Bank, the country's biggest lender, closed down 11.1 percent.
"The comments made over the past 24 hours are highly concerning as they not only increase fears in the markets over a possible Hungarian default, but also clearly demonstrate that the Hungarian government has very little understanding of how the financial markets actually work," Danske Bank said.
"For now, we advise our clients to show utmost caution on the Hungarian markets as there is a clear risk that this could escalate further," the bank said.
The new government has repeatedly warned in the past few weeks that the 2010 deficit could be much higher than the target of 3.8 percent of GDP agreed with the EU and IMF, blaming "fiscal skeletons" left by the previous administration.
Earlier on Friday, Orban said the government's action plan would include measures to improve finances, but gave no details.
"It cannot be about ... an adjustment, about patching up (the economy) ... measures aimed at improving the financial situation must be linked with deep structural changes," Orban told TV2 television over the phone from Brussels.
The European Commission on Thursday urged Hungary to cut its budget deficit faster.
The central bank has said the deficit could be 4.5 percent of GDP or 4.3 percent if the government freezes remaining budget reserves. Analysts see a deficit of 5 percent.
"The government is now playing a very dangerous game with investor confidence," Timothy Ash of Royal Bank of Scotland said.
"There might be a temptation to talk of the risks of default to manage expectations domestically toward the need for a continued tight reign on fiscal policy and the maintenance of fiscal austerity, but this does not go down well with investors."
(Reporting by Krisztina Than; editing by Patrick Graham/Mike Peacock/Susan Fenton)