October 5, 2017 / 1:55 PM / 10 months ago

Fitch: Hungary's Pro-Cyclical Stance Could Test Policy Framework

(The following statement was released by the rating agency) PARIS/LONDON, October 05 (Fitch) Hungary's strong GDP growth partly reflects a pro-cyclical policy stance, Fitch Ratings says. A shift in the benign macroeconomic backdrop could test the strength of the country's policy framework. We have raised our 2017 Hungarian GDP growth forecast to 3.6% from 3.2% as growth continues to accelerate (GDP grew 2% last year). This primarily reflects higher consumption, supported by a strong labour market (the unemployment rate was 4.2% in July) and faster wage growth, stronger investment supported by EU fund disbursements, and the normalisation in the banking system after several years of deleveraging. Fiscal and monetary policies are pro-cyclical and highly accommodative. The government has used the fiscal space created by the economic recovery to cut taxes and increase expenditure ahead of next year's general election, including a reduction in corporate income tax and higher pensions and social transfers. We forecast the government deficit to widen to 2.3% of GDP in 2017 and 2018, from 1.8% in 2016, despite stronger growth. This is still consistent with a reduction in government debt to 68% of GDP in 2019 from 74% last year, although it would remain considerably higher than the 'BBB' median (41%). Meanwhile, Hungary's central bank, Magyar Nemzeti Bank (MNB), announced further monetary easing last month, cutting the overnight deposit rate by 10bp to -0.15%. This is in contrast to other major CEE economies such as the Czech Republic, whose central bank has started to tighten policy, and Poland, where tightening is under discussion. The divergence partly reflects the MNB's higher inflation target of 3%, +/-1pp (2.5% +/-1pp in Poland and 2% in the Czech Republic). The MNB's Monetary Council said it expected the target to be met "in a sustainable manner... by the middle of 2019," which is one quarter later than in its previous forecasts, and that "repeated delay" in when it would meet the target warranted monetary easing. The fiscal policy stance has remained compliant with domestic and EU rules. The budget deficit has remained below the EU's 3% of GDP criterion and debt to GDP has been falling since 2012, in line with the constitutional requirement when debt is above 50% of GDP. Inflation has remained below 3% (it rose to 2.6% in August). But the headline budget deficit has been flattered by above-trend growth and exceptionally low interest rates. When the current benign macroeconomic and financial conditions eventually change, the government's capacity and willingness to restrain expenditure growth, or raise taxes to prevent the budget deficit widening could be tested. Similarly, after a period of extremely low inflation and highly supportive monetary policy, any acceleration in inflation above forecasts could test the MNB's commitment to its inflation target, which we believe is a key pillar of macro and financial stability. Our own forecasts are in line with the MNB's, and we expect inflation to accelerate to 3.0% in 2019, although the rapid rise in wages (gross wages rose 13.1% yoy in July) represents a potential risk to these forecasts. Fitch affirmed Hungary's 'BBB-'/Stable sovereign rating in May. The rating balances high GDP per capita, strong governance indicators and EU membership against a track record of unorthodox economic policy and high government and external debt. <a href="https://www.fitchratings.com/site/re/898263">Hungary Contact: Arnaud Louis Director Sovereigns +33 1 44 29 91 42 Fitch France S.A.S. 60 rue de Monceau Paris 75008 Paul Gamble Senior Director, Sovereigns +44 20 3530 1623 Mark Brown Senior Analyst, Fitch Wire +44 203 530 1588 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: peter.fitzpatrick@fitchratings.com. The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings. ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. 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