Press release on the Monetary Council meeting of 28 February 2023

28 February 2023

At its meeting on 28 February 2023, the Monetary Council reviewed the latest economic and financial developments and decided on the following structure of central bank interest rates with effect from 1 March 2023:

The primary objective of the Magyar Nemzeti Bank (MNB) is to achieve and maintain price stability. Without prejudice to its primary objective, the Magyar Nemzeti Bank preserves financial stability and supports the Government’s economic policy, as well as its policy on environmental sustainability.

Over the recent period, global economic growth has continued to slow; however, GDP growth has been more favourable than expected in the majority of EU countries. The outlook for global growth is characterised by duality. Looking ahead, the prolonged Russia-Ukraine war and the generally rising interest rate environment continue to pose significant downside risks. By contrast, the mild winter weather and the favourable levels of gas storage facilities are mitigating the adverse effects of the energy crisis in Europe, which points to an improvement in the outlook.

Inflation has been moderating slowly but clearly in an increasing number of countries. Weakening demand, the easing of difficulties in production chains, the normalising international freight market and falling energy and commodity prices point to a further decline in global inflation.

Risk appetite has been volatile since the beginning of 2023. After an initial, significant improvement, expectations for interest rate hikes by the world’s leading central banks increased in view of incoming macroeconomic data, in parallel with this investor sentiment has deteriorated. Developments in the Russia-Ukraine war continue to create significant uncertainties.

According to both market pricing and decision makers’ communication, the Federal Reserve and the European Central Bank are expected to continue interest rate hikes further. In addition, the ECB will start reducing the portfolio built under its asset purchase programme at a predictable pace through a reduction in the reinvestment rate from March 2023 onwards. In the CEE region, the Czech, the Polish and the Romanian central banks left key interest rates unchanged.

In 2022 as a whole, Hungary’s economic performance increased by 4.6 percent, exceeding the EU average. Hungarian economic growth slowed further in the last quarter of 2022. Based on preliminary data, the GDP grew by 0.4 percent relative to a year earlier, with industry and market services being the main contributing sectors. By contrast, the significant decline in agricultural output acted as a brake on growth. In December, the volume of retail sales and construction output fell, while industrial production rose. Based on surveys, the outlook for production has deteriorated slightly over the past month, while the household confidence indicator has remained at a low level following a slight improvement. The labour market remains tight, and the unemployment rate is low.

The time profile and structure of domestic GDP is expected to be characterised by strong duality in 2023. Initially subdued growth is expected to be followed by a pick-up in the second half of the year. Decline in real incomes, rising corporate costs, delayed public investments and the stricter interest rate environment all have a restraining impact on domestic demand. Despite subdued global economic activity, Hungary’s foreign market share is expected to increase due to growing domestic export capacities, which is supported by the dynamic expansion of battery production. According to the December Inflation Report projection, Hungary’s GDP is expected to increase by 0.5–1.5 percent this year, by 3.5–4.5 percent in 2024 and by 3.0–4.0 percent in 2025.

In January 2023, annual inflation was 25.7 percent and core inflation stood at 25.4 percent. The increase in inflation was mainly driven by a rise in fuel prices. Incoming data was in line with the December Inflation Report projection. The acceleration in food inflation stopped in January. Within this group of products, the annual price indices for both processed and unprocessed food fell slightly. Repricing in market services at the beginning of the year was significantly greater than previously. However, mainly two sectors, health care and telecommunications services contributed significantly to this. Inflation expectations continue to be elevated; however, companies’ expectations for retail and services prices have remained below their peak levels seen in the summer.

Disinflationary effects are expected to increase in the coming months, causing a turnaround in inflation. Global energy, commodity and food prices have fallen below the levels observed before the Russia-Ukraine war. In addition, the moderating effect on pricing arising from the fall in domestic demand and, from the spring months, the fading of base effects will support the decline in inflation. Tight monetary conditions contribute to avoiding second-round inflationary effects and anchoring inflation expectations. Domestic inflation is expected to decrease gradually in the first half of 2023, and then more significantly from the middle of the year. The consumer price index will return to the central bank tolerance band in 2024.

A trend reversal in the current account balance has clearly started in recent months, as exports expanded, gas prices moderated, and household consumption adjusted. In line with this, the current account deficit declined substantially based on December data. From 2023, the increasing surplus in items of the current account excluding the energy balance, growing adjustment in the energy market and lower gas prices may lead to a rapid improvement. In parallel with the normalising global economic environment and terms of trade, as well as with the utilisation of new export capacities built recently, the trade balance will improve significantly, and as a result, the current account deficit is expected to be reduced further.

Domestic financial market developments have been stable recently. The measures taken by the Bank – in particular the regular use of the discount bill – have restored the balance in the swap market, and its results are undoubtedly reflected in the stabilisation of the forint exchange rate.

The Monetary Council kept the base rate at 13 percent at its meeting today. The current level of the base rate is adequate to manage fundamental inflation risks. The O/N deposit rate and the O/N collateralised borrowing rate were left unchanged at 12.5 percent and 25 percent, respectively.

There has been a general and broad-based increase in yield environment as a result of the MNB’s instruments introduced in the autumn to absorb interbank forint liquidity on a long-term basis, i.e. the revised reserve requirement system, the one-week discount bill and the long-term deposit tender. These measures have led to a sustained improvement in monetary policy transmission, which is critical to achieving the price stability objective over the monetary policy horizon. Based on this positive experience, the MNB will use these instruments in the coming period, as well.

By raising the reserve requirement ratio and restructuring interest rates, the Monetary Council has tightened further the impact of the required reserves on liquidity. At its January meeting, the Council decided to raise the required reserve ratio to 10 percent, effective from 1 April. Today the Council made changes to the interest rate on reserve accounts in order to increase further the amount of liquidity absorbed on a long-term basis and thereby to improve monetary policy transmission. The MNB will exempt 2.5 percent of the reserve base from bearing interest, while continuing to remunerate the base rate on 7.5 percent of the reserve base, and, in order to encourage greater utilisation, optional reserves will be remunerated at the overnight quick deposit tender rate instead of the base rate.

In addition to strengthening monetary policy transmission, the Bank will use one-day deposit quick tenders and FX swap transactions in the coming period in order to ensure financial market stability, and it will continue to be available in meeting foreign currency liquidity needs to reach market balance related to the energy account.

In the Monetary Council’s assessment, it is necessary to maintain the current level of the base rate over a prolonged period, which will ensure that inflation expectations are anchored and the inflation target is achieved in a sustainable manner. The MNB is constantly assessing incoming data and developments in the outlook for inflation and is ready to take appropriate actions if risks increase. Looking ahead, maintaining market stability and strengthening monetary policy transmission are also key to achieving price stability. The MNB continues to focus on trend-like developments in financial market conditions. Therefore, the Bank takes into account the persistence of the recent improvement in risk perceptions when setting the conditions of overnight instruments introduced in mid-October.

The abridged minutes of today’s Council meeting will be published at 2 p.m. on 14 March 2023.

MAGYAR NEMZETI BANK
Monetary Council