Press release on the Monetary Council meeting of 25 April 2017

25 April 2017

At its meeting on 25 April 2017, the Monetary Council reviewed the latest economic and financial developments and decided on the following structure of central bank interest rates with effect from 26 April 2017:

In the Council’s assessment, Hungarian economic growth picks up over the forecast horizon. Some degree of unused capacity has remained in the economy, but this is likely to be gradually absorbed as output grows. Inflation reaches the target sustainably from the first half of 2018.

In March 2017, inflation eased to 2.7 per cent. That was below the March Inflation Report projection. The difference mainly reflected the volatile price dynamics of seasonal foods and the decline in tobacco prices despite the increase in excise taxes. Developments in the Bank’s measures of underlying inflation remained stable, in line with expectations. Inflation is likely to continue to decrease over the coming months as the base effects at the beginning of the year fade. Whole-economy wage growth is likely to pick up further, reflecting the dynamic expansion in employment, the tight labour market and the wage agreement at the end of last year. The upward effect of this on costs is likely to be offset by the reduction in employers’ social contributions and in the corporate income tax rate. To a smaller extent, this is expected to lead to higher core inflation and, to a greater extent, to a reduction in the trade surplus through an expansion in household consumption. In the baseline projection, inflation reaches the 3 per cent level consistent with price stability in a sustainable manner from the first half of 2018.

The Hungarian economy continued to grow in the fourth quarter of 2016 and monthly indicators signal remarkable expansion in the first quarter of 2017. In February 2017, industrial production rose significantly, due in part to calendar effects. Construction output continued to grow strongly in February following the sharp decline in the previous year, and is expected to pick up further in the coming months. The volume of retail sales grew slightly in February. Growth in the value of imports outpaced that in the value of exports. As a result, the trade surplus decreased in February. Labour demand remained strong. Although employment moderated slightly, the unemployment rate remained at historically low levels. In parallel with strong wage growth, household consumption is likely to grow dynamically, which will be supported by the compensation of consumption deferred from previous years as well. Hungary’s current account surplus is expected to fall significantly over the forecast horizon, driven by rising domestic demand.

The Funding for Growth Scheme, which was launched in June 2013, ended at the end of March 2017. After the Scheme is phased out, the transition to lending under market conditions will be assisted by the Bank’s Market-Based Lending Scheme. The Monetary Council expects that, as a result, growth of between 5–10 per cent in lending to SMEs will be maintained. Economic growth this year will also be supported by the budget and the stimulating effects on investment of EU funding. The Monetary Council expects stable annual economic growth of between 3–4 per cent over the coming years, to which the Bank’s and the Government’s measures to stimulate economic growth contribute substantially.

Sentiment in international financial markets has been volatile since the Council’s latest interest rate-setting meeting. Risk aversion increased after the release of the minutes of the Federal Open Market Committee meeting in March. The Czech National Bank abandoned the exchange rate floor against the euro in early April. This decision was followed by moderate reactions from foreign exchange markets. Developed market equity indices and yields on long-term government securities fell. The amount of liquidity crowded out due to the introduction of an upper limit on the stock of three-month deposits continued to have a marked influence on domestic money market rates. As a consequence, the three-month BUBOR fell to a historically low level of 16 basis points. The curve of interbank rates shifted downwards. Domestic short and long-term government security yields both fell.

Hungary’s strong external financing capacity and the decline in external debt are contributing to the sustained reduction in the vulnerability of the economy. Forward-looking domestic money market real interest rates have fallen significantly over recent years and are expected to remain in negative territory for a prolonged period. In the Council’s assessment, a watchful approach to monetary policy is still warranted due to uncertainty in the global financial environment.

At its meeting in March 2017, the Council set a HUF 500 billion upper limit on the stock of three-month central bank deposits as at the end of the second quarter of 2017, in order to preserve the amount of liquidity crowded out of the deposit facility, and thereby to maintain the loose monetary conditions achieved. In addition, the Council decided to introduce swap instruments with longer maturities of 6 and 12 months, which it intends to use to support the maintenance of the current conditions over a prolonged period. The Council considers the limit on the three-month deposit stock and its potential future change an integral part of monetary policy instruments. The Bank continues to aim to maintain loose monetary conditions and provide support to the economy through money market rates. The Monetary Council intends to ensure that the limit imposed on the stock of three-month deposits exerts its expected effect efficiently. The limit is set quarterly. On the next occasion, a decision on its level as at end of the third quarter of 2017 will be made in June 2017.

In the Council’s assessment, some degree of unused capacity has remained in the economy, but this is likely to be absorbed gradually as output grows. Over the forecast period, inflation reaches the target sustainably from the first half of 2018. If the assumptions underlying the Bank’s projections hold, maintaining the current level of the base rate and loose monetary conditions achieved through the change in monetary policy instruments for an extended period is consistent with the medium-term achievement of the inflation target and a corresponding degree of support to the economy. The Monetary Council monitors developments in monetary conditions and markets. If inflation remains persistently below the target, the Council will stand ready to ease monetary conditions further using unconventional, targeted instruments.

The abridged minutes of today’s Council meeting will be published at 2 p.m. on 10 May 2017.

MAGYAR NEMZETI BANK

Monetary Council