Hungary - Economic update January 2019

The Hungarian economy slowed in the last quarter of 2018

Fresh macroeconomic data suggest that the Hungarian economy slowed in the fourth quarter of 2018. Industrial production increased by 4% yoy and decreased by 1.1% mom in November. These figures suggest that over the first eleven months of the year, Hungarian industrial production increased by only 3.5% vs. 5% growth over the same period in 2017. Based on the November figure, car production is weighing on industry output, probably related to the production issues in Germany. Nevertheless, production of electronics and optical devices is boosting it. The situation may have been similar in December. Looking ahead, there are ongoing investments in the sector which will be finished in 2019. As a result, new capacities could boost the sector in the coming year. On the other hand, however, the global environment looks to be less supportive compared to 2018. All in all, we don’t expect substantial acceleration for 2019.

The most recent trade balance figure confirms our view that the main driver of the growth was again domestic consumption and investment in 4Q18. Although there is still a surplus in the foreign trade balance, that balance deteriorated further to EUR5.7bn, a decline of more than one third compared to its peak (EUR9.2bn in 2016). Although the balance in services is improving, it is not enough to counterbalance the deterioration of the trade in goods balance, and so the current account surplus is also narrowing.

These trends suggest that current Hungarian economic policy (both fiscal and monetary) is too loose and is starting to threaten to overheat the economy. As such we maintain our view that the very strong GDP growth we saw in 2018 is unsustainable, and we might see a slowdown towards 4% yoy already in 4Q18. Although the debt level of households is still low in international comparison, which is supportive of domestic consumption, the increase in new loans is getting close to the pre-crisis levels. We expect that domestically driven growth will dominate 2019 as well, although the level of the economy’s expansion may moderate to around 3.5% yoy. The trade and current account surpluses may also moderate further, but the latter should remain in positive territory (around 1% of GDP). As the EU funds money will play an important role both in economic growth and capital inflow, we expect that the financing capability of Hungary may remain relatively strong in 2019 (around 3.5-4% of GDP). This, however, is far from its peak level which was around 8% of GDP in 2016.

The NBH adjusted its unconventional monetary tools

While the National Bank of Hungary (NBH) left its key reference rates unchanged in December (O/N depo -0.15%, 3m depo 0.9%), it confirmed that the mortgage bond purchase and the MIRS programs have stopped. Furthermore, the new funding for lending program will begin for SMEs in January (3- to 10-year HUF loans with a fixed, maximum 2.5% interest rate).

The new elements of the NBH statement reflect a slight shift in how the Council adapts to ECB policy and to the development of underlying inflation. Despite a drop-in headline inflation (from 3.8% yoy in October to 3.1% yoy in November) the NBH also emphasized that the core elements of inflation are still increasing and have to be monitored closely in the following months. While in previous months the NBH highlighted that the ECB's loose monetary policy holds back Hungarian tightening, the statement now puts more emphasis on the development of Hungarian inflation. The Monetary Council indicated that it closely monitors incoming macroeconomic data and will decide to adjust monetary conditions depending on their outcome.

This means, in our view, that the stance of the NBH statement has become slightly more hawkish and fits into our previous expectation that the NBH may start a gradual tightening cycle in 2019. First, as the central bank highlighted, current unconventional tools will be changed, i.e. the foreign currency swaps and the interest rate corridor. This would mean the roughly HUF 2000bn stock of foreign currency swaps may gradually moderate while the O/N depo and lending rate could be increased. We don't expect any substantial move in 1Q19, but we maintain our view that the tightening might be started in 2Q. This would start with a decline in the foreign currency swaps and as such, the internal bank rate (BUBOR) may start to increase gradually.

Figure HU1 - Inflation (average yearly change, harmonised CPI, in %)

Source: KBC Economics based on Eurostat