End Of Rate Cuts Near In Hungary, C.Bank To Be Bold Once More

It has clearly made analysts more cautious that Monetary Council members mentioned the end of the rate cut cycle as being possibly on the horizon. Several analysts projected only a 25-bp cut at the MPC’s last policy meeting this year, but forecasts for the "standard" 50-bp reduction were still in clear majority. Four out of the 19 respondents expect a smaller monetary easing and one of them believe the central bank is already done with rate cuts for this year.

"Due to the worsening external environment switching to a slower pace may be possible, but for the time being neither the exchange rate nor inflationary processes would justify decelerating cuts therefore a 50-bp reduction is more likely," Gergely Tardos of OTP’s Analysis Centre summed up the dilemma. The views of Péter Vizkelety, analyst at Generali Fund Management, echo the more cautious standpoints. "Risks stemming from the global environment have grown which is also reflected in the HUF’s fluctuations. Nevertheless, slowing the pace of monetary easing could be justified to prepare the market for the end of the rate cut cycle."

"It is assumed that interest rates will be cut by a further 50bp to 6% at the Dec meeting. However, there may be some debate about switching to a more modest 25bp reduction. This is certainly something that the NBH has been discussing and the softer HUF will add weight to this argument. Overall we believe a small majority will support a 50bp cut next week," commented Nigel Rendell, analyst at the Royal Bank of Canada in London.

Stuart Bennett, at Calyon in London, said rate cuts are "merely dependent on inflation pressure and risk (or the HUF) as a proxy", adding that "currently these two factors are providing no reason for the NBH to put off another cut."

David Oxley, analyst at Capital Economics in the City, also expects a 50-bp easing.

"Little has changed over the past month to alter our view that policymakers will remain firmly in easing mode for the foreseeable future. Inflation remains on track to fall significantly below the Central Bank’s 3% +/-1ppt target next year when July’s VAT hike drops out of the annual comparison, in spite of the uptick to 5.2% in November. Meanwhile, ongoing benign conditions in financial markets mean that the window of opportunity for rate cuts remains open."

In his view, the only disagreement on the MPC, in the short-term at least, is likely to be over the pace of such cuts.

"The fact that one member voted for a 25bp cut in November - the first time in this easing cycle - suggests that a slowdown in the pace of easing may not be far away. However, we expect the majority of the MPC will continue to vote for 50bp cuts for the time being, taking interest rates to 5% by mid-2010, where we think they will remain on hold into 2011."
Although Zsolt Papp, analyst at KBC Securities in London, believes the recent weakening of the HUF and the slightly higher than expected November CPI lend support to MPC members suggesting a slower pace of interest rate cuts, on balance he expects the proponents of continued rate cuts to retain the majority in the council.

István Horváth, head of UniCredit in Hungary, was who emphasized the deteriorating external conditions the most, saying the primary goal of the NBH remains to maintain fiscal stability.

"We have detected a change in sentiment on (external) markets over the past days or weeks, especially with regard to credit default swaps (CDS). Therefore, in view of the easing HUF, the central bank may lean towards keeping the base rate unchanged," he said.

The consensus for the end-year base rate came to 6.00% and the respondents see the cutting momentum sizzling out already in early 2010.

The responses paint a picture of another 50-bp easing in Q1 - most likely two 25-bp cuts - and no further rate change by the end of the year.

The two end of the spectrum in terms of the bottom of the rate cut cycle are represented by Papp (4.00%) and György Kovács of UBS and Horváth at UniCredit (6.00%). The consensus for the lowest base rate came to 5.50%.

"We see scope for lower interest rates going into 2011, based on the assumption that inflation will converge towards 2.5% on average in the medium-term. Another necessary condition would be fiscal discipline, ie a budget deficit not greater than 3% of GDP. This would allow real interest rates of around 2% to be sufficient to keep the economy in balance," Papp said.

"It is not impossible that the NBH might stop at 6%, but with real rates in Hungary still positive, around 2% by our measure, the economy requires a little more stimulus," Bennett commented.

"The MPC needs to give much more detail around the end of the cycle. So far they have simply been saying that it is close but that they can keep cutting so long as risk and inflation allow. In reality given some economic recovery over the medium term as well as the possibility of fiscal stimulus next year and levels of credit not contracting its hard to see rates much below 5.50% at the end of this cycle," said Peter Attard Montalto, analyst at Nomura in London.

He sees the base rate at 5.50% at the end of 2010.

"Despite the economy only reaching positive y-o-y growth in Q4 of next year I think it will be difficult for them to hike before 2011 given few demand pull price pressures and inflation still looking around target over the medium term."

Rendell expects interest rate reductions to moderate to 25bp per meeting in Q1 2010.

"A pause in the rate cutting cycle is then likely around election time, with a final 25bp reduction pencilled in for late Q2 2010. This would take rates down to a low of 5%. Rates will be on hold throughout the second half of 2010. Given the contraction in domestic demand, any monetary tightening is unlikely before late 2011."

Source: Portfolio Online Financial Journal