December 22, 2011 / 1:30 PM / 7 years ago

UPDATE 3-Hungary keeps wary markets guessing after S&P cut

* EU says Hungary has yet to respond to President Barroso's
    * S&P cut to "junk" follows similar Moody's action
    * Govt criticises downgrade, expects IMF talks to go ahead
    * Pressure mounts on PM Orban to change econ policy
    * Risk Orban will not change course -analysts

    By Krisztina Than and Gergely Szakacs	
    BUDAPEST, Dec 22 (Reuters) - Hungary's second credit
ratings downgrade to 'junk' in a month has heightened the risk
of a full-blown market crisis, with investors anxious to see
whether it will push the country closer to or further away from
an international aid deal.	
    The European Commission said on Thursday Hungary has yet to
respond formally to a weekend letter from European Commission
President Jose Manuel Barroso seeking the withdrawal of
legislation Brussels believes breaches European Union law. 	
    The dispute over a new central bank law, which the EU says 
threatens the bank's autonomy, led to a collapse of informal
talks with the International Monetary Fund and EU last week.	
    "President Barroso asked for the bills to be withdrawn,
because he's concerned that they might contravene the treaty,"
Commission spokesman Olivier Bailly told a briefing in Brussels.	
    "We haven't reached that stage yet. It is still up to the
Hungarian authorities to respond to the president's request."	
    The Commission said talks Budapest had requested on possible
financial support from the EU and the International Monetary
Fund would start in January and would be formal. However, late
on Thursday Bailly issued a clarification to say that the EU had
not decided yet on the talks.	
     "The European Commission has not decided yet on resuming
formal or informal talks regarding financial assistance with
Hungary," he said.   	
    The government has said it expects official aid talks to
start on Jan. 10.	
    Late on Wednesday, Standard & Poor's cut Hungary's long-term
rating by one notch to BB+, just below investment grade, citing
the government's unpredictable policies and renewed meddling
with the independence of the central bank.    	
    The downgrade, which further widened the ratings gap with 
central European peers, sent the forint currency lower and
lifted bond yields, adding to pressure on Prime Minister Viktor
Orban to start negotiations with lenders on a funding backstop.	
    The government said the downgrade was unjustified.	
    Economy Minister Gyorgy Matolcsy said the
government was eyeing a precautionary IMF/EU credit line, and
repeated that parliament will pass a new central bank law that
takes into account the opinion and proposals of the European
Central Bank.	
    The law has been amended by the ruling Fidesz party but the
ECB said on Thursday it was still concerned that plans to expand
the Monetary Council and increase the number of deputy governors
could pose a risk to the bank's independence. 	
    Hungary's five-year bond yield shot above 9 percent in thin
trading although the deputy head of the debt agency said he did
not expect the news to spark panic selling. 	
    The Fidesz party led by Orban, who broke ties with the IMF
in 2010 to regain "economic sovereignty", is expected to push
through legislation this year despite EU objections.	
    Barroso asked in his letter for the central bank bill to be
withdrawn and the EU has also criticised a draft financial
stability law.   	
    "At the moment (Orban) is sitting in the car in head-on
collision mode and is not willing to move," a diplomatic source
told Reuters on Wednesday, before the S&P downgrade. 	
    Orban has said he is seeking an "insurance" type funding
deal which could help Hungary retain access to markets next
year, but at the same time does not want lenders interfering
with his unconventional economic policies.	
    "(The downgrade) could, alongside market weakness, push
Hungary towards engaging more constructively with the IMF and
EU. It may also serve to fast-track the negotiations," Barclays
said in a note.	
    "But there is also a risk that Hungary's government will try
to soldier on without outside financial support, instead turning
to more unorthodox policy measures."	
    The government has stabilised its budget with a series of ad
hoc taxes and nationalised pension assets since it swept to
power with a two-thirds majority in April 2010. Some measures
have shocked investors and earned the ire of the European Union.	
    The opposition Socialists called on Fidesz to replace Orban,
but political analyst Zoltan Kiszelly said Orban's big majority
in parliament cemented his position.	
    He said Orban was unlikely to change course at this stage as
he needed a good political exit strategy to be able to make such
a marked shift in economic policy.	
    "He is hoping that the other side (the EU) would swerve
first," he said.	
    Rating agency Moody's also cut Hungary's debt to junk grade
in late November, citing poor growth, high debt and uncertainty
about its ability to meet fiscal goals. 	
    Hungary aims for one of the EU's lowest budget deficits next
year at 2.5 percent of GDP, but a threatened recession could
jeopardise that target and a government pledge to reduce debt
which at 80 percent of GDP is the highest in central Europe.	
    Hungary needs to roll over 4.8 billion euros in external
debt - on top of forint-denominated paper - next year. 	
    The forint traded at 306.85 to the euro on
Thursday at 1554 GMT, recouping some of its losses following the
downgrade which pushed it lower in overseas trade on Wednesday. 	
    Investors were seen as likely to delay selling Hungarian
assets until the new year or until Fitch, the last agency to
rate Hungary investment-grade, decides to cut its rating too.	
    But the cost of insuring Hungary's debt against default for
five years jumped 44 basis points to a three-week high of 612
basis points in the credit default swap market. 	
    "Hungary's economic fundamentals do not justify a junk
rating, but the damaging policies of the Hungarian government
have undermined investor confidence and this is the key reason
why both Moody's and S&P have decided to cut Hungary's rating,"
Danske Bank said.
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