29 January 2013
At its meeting on 29 January 2013, the Monetary Council reviewed the latest economic and financial developments and voted to reduce the central bank base rate by 25 basis points from 5.75% to 5.50%, with effect from 30 January 2013.
In the Monetary Council’s judgement, economic growth is likely to resume this year following last year’s recession. The level of output will be below its potential and unemployment will remain above its long-term level determined by structural factors. The Council expects weak demand conditions to persist, which will ensure that inflation returns to rates close to the 3% inflation target as the impact of temporary shocks wanes.
Inflation slowed in December, with declines in the prices of durable goods, processed foods and fuels being the major contributing factors. The moderate pace of underlying inflation reflects the disinflationary impact of weak domestic demand. There has recently been a significant improvement in the short-term outlook for inflation, due mainly to the government measures affecting the prices of non-core items. However, if companies pass on higher production costs into prices in response to the government measures, it may pose an upside risk to the medium-term outlook for inflation. The Monetary Council will therefore continue to monitor closely developments in underlying inflation.
Hungarian economic growth is likely to resume following last year’s recession as the country’s export markets recover; however, both external and domestic demand factors point to only modest growth over the period ahead. The Council judges that there remains a degree of spare capacity in the economy, output continues to be significantly below its potential level and the labour market remains loose. At the same time, the weakness in investment and persistently high unemployment suggest that the potential growth rate of the economy is significantly below its pre-crisis level.
The improvement in global risk appetite has continued over the past month, but the contrast between buoyant sentiment in international financial markets and the subdued outlook for global growth continues to pose a risk. Meanwhile, domestic risk premia have not moved significantly in either direction. In the Council’s judgement, it remains crucial that an agreement between the Government and the European Union and International Monetary Fund is reached, as this would contribute to further falls in risk premia and yields, which in turn would contribute to the sustainability of government debt and would help support lending activity and enhance the predictability of the investment environment.
The Monetary Council emphasises that the monetary policy instruments currently available allow enough room for manoeuvre to maintain a monetary policy stance consistent with the current outlook for inflation and the real economy, and that under domestic circumstances expanding the range of unconventional policy tools may provide effective support only during times of acute financial market stress.
The Council judges that there remains a substantial margin of spare capacity in the economy. Once the effects of last year’s cost shocks wane, the disinflationary impact of weak demand conditions is expected to dominate, therefore companies will have limited ability to pass on higher production costs into prices. The inflation target can be met on the horizon relevant for monetary policy. The improved global financial market environment and the Government’s commitment to maintaining a low fiscal deficit path may contribute to a sustained decline in risk premia on domestic assets. These factors warranted and allowed a further cautious easing of monetary conditions. The Council will only consider a further reduction in the policy rate if the medium-term outlook for inflation remains consistent with the Bank’s 3% target and the improvement in financial market sentiment is sustained.
The abridged minutes of today’s Council meeting will be published at 2 p.m. on 13 February 2013.
The Council’s assessment of performance in meeting the inflation target in 2012
Average annual inflation was 5.7% in 2012, with the twelve-month change in consumer prices not falling below 5% in any month of the year. The MNB’s monetary policy has its impact on inflation with a lag of several months, which should be taken into account when assessing performance in meeting the inflation target. Accordingly, deviations of the consumer price index from the 3% inflation target of at most ±1 percentage point are acceptable, ex post, in terms of price stability. Taking account of these factors, the inflation target was not met in 2012.
Significantly above target inflation in 2012 mainly reflected the effects of increases in indirect taxes and rises in the prices of non-core items. The pace of underlying inflation was more moderate but slightly higher than in the period 2010–2011. This may suggest that companies’ spare production capacity was partly reduced, and as a result the disinflationary impact of weak domestic demand became smaller in 2012. The indirect tax increases at the start of 2012 allowed coordinated price hikes, with companies presumably bringing forward other price increases as well. This may have been reflected in the sharp rise in services inflation at the beginning of the year, which, however, slowed gradually during the course of the year. Developments in tradables inflation show a similar pattern, where the depreciation of the forint in the second half of 2011 also contributed to the higher indices at the beginning of the year, in addition to the coordinated price increases. Food prices, susceptible to cost shocks, were raised significantly by unfavourable weather conditions last year. However, the slow pass-through of cost shocks into processed food prices suggests that weakening consumer demand may restrain companies’ intentions to raise prices in the food market as well.
To summarise, government measures resulted in a significant increase in the consumer price index in 2012. The increases in VAT and excise duties at the start of the year, followed by the increase in the telecommunications tax in the middle of the year and another increase in excuse taxes directly raised consumer prices. In addition to the tax increases directly affecting prices, fiscal policy contributed indirectly to rising inflation. In the weak economic environment, the administrative wage increases raised unit labour costs sharply, which in turn put upward pressure on inflation from the cost side. However, as in 2011, developments in administered prices were moderate in 2012, exerting downward pressure on inflation.
MAGYAR NEMZETI BANK
Monetary Council