Press release on the Monetary Council meeting of 28 March 2023

28 March 2023

At its meeting on 28 March 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 29 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.

Global economic growth slowed further in the fourth quarter of 2022; nevertheless, GDP growth has been more favourable than expected in most EU countries. The global growth outlook continues to be characterised by duality. The escalation of market concerns related to certain banks, the prolonged Russia-Ukraine war and the generally rising interest rate environment cause downside risks. By contrast, the mild winter weather and the favourable level of gas storage facilities mitigate the adverse effects of the energy crisis in Europe, which points to an improvement in the outlook for growth.

Inflation has been moderating slowly but clearly in an increasing number of countries. The slowdown in global economic activity, weakening demand, the correction in global energy and commodity prices and the fall in international freight costs point to a further decline in global inflation.

Investor sentiment has deteriorated since the Monetary Council’s last policy decision. From mid-March, the escalation of concerns about the stability of certain banks led to an increase in global risks and, as a result, expectations about future actions of the world’s leading central banks changed significantly and the risk assessment of emerging market assets deteriorated.

In March, the Federal Reserve (Fed) and the European Central Bank (ECB) raised interest rates by 25 and 50 basis points, respectively. Reacting to financial market turbulences in the wake of bank failures, the Fed launched a new funding scheme and improved liquidity by introducing dollar swap lines through a cooperation with several central banks. In its press release, the ECB emphasised that the euro area banking sector was resilient, with strong capital and liquidity positions. Central banks in the CEE region have not changed monetary conditions since the MNB’s February policy decision.

The Hungarian economy grew by 4.6 percent in 2022. Growth dynamics slowed down in the last quarter of the year. Based on detailed data, GDP grew by 0.4 percent in the last three months of the previous year 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 January, the volume of retail sales and construction output fell significantly, while industrial production decreased to a smaller extent. Based on surveys, production prospects have improved overall in the past month, while the household confidence indicator is still at a low level. 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 a duality this year. Output growth will be weighed down mainly by domestic demand factors, as high inflation reduces the purchasing power of household incomes, which in turn causes a further slowdown in consumption. Rises in corporate costs and the uncertain demand outlook are expected to result in the postponement and rescheduling of investments. Economic growth is expected to pick up again from the second half of the year as inflation declines markedly and investment recovers. Both internal and external factors may make a positive contribution to growth in 2024. Hungary’s GDP will increase by 0.0–1.5 percent in 2023, by 3.5–4.5 percent in 2024 and by 3.0–4.0 percent in 2025.

Domestic inflation peaked in January 2023. In February, annual inflation was 25.4 percent and core inflation stood at 25.2 percent. Inflation slowed by 0.3 percentage points compared to the previous month, to which the decline in fuel prices and the slowdown in the price dynamics of processed food contributed the most. Food price inflation slowed for the second consecutive month in February, reflecting a slight moderation in the annual index of both processed and unprocessed food. Inflation expectations continue to be elevated; however, corporate price expectations for retail sales and services have been below their peak values of last summer for several months.

In the coming months, the consumer price index is expected to decrease slowly at first, then at an increasingly rapid pace. Tight monetary conditions are expected to have broader disinflationary effects, leading to a substantial slowdown in inflation. There has been a significant decline in energy and commodity prices as well as in international freight costs, tensions in value chains have eased, and the slowdown in global economic activity has also acted as a restraint on external inflation. The decline in domestic demand has reduced companies’ room for manoeuvre regarding prices increases, and actions of the Hungarian Competition Authority acts in the direction of an increasingly disciplined pricing behaviour. The consumer price index will return to the central bank tolerance band in 2024. Inflation is projected to be 15.0–19.5 in 2023, 3.0–5.0 in 2014 and 2.5–3.5 in 2025.

Based on preliminary financial accounts data, the deficit target for 2022 was met. The fiscal deficit will continue to decline in the coming years. The fiscal deficit is projected to be 3.9 percent in 2023, while the plans for 2024 and 2025 are 2.5 and 1.5 percent, respectively. The decline in energy prices helps to contribute to meeting the deficit targets; however, tight budget management is necessary to achieve the targets. Based on preliminary data, the government debt ratio has decreased to 73.6 percent of GDP by the end of 2022, and it is expected to decline to 69 percent this year and close to 65 percent by the end of the forecast horizon. The current account deficit will decline steadily from 2023, it improved by EUR 0.9 billion in January 2023 from a low of EUR 1.7 billion last November, reflecting buoyant exports, the slowing growth in imports due to a slowdown in investment and consumption dynamics, in addition to an improvement in the energy balance driven by a decline in energy prices. In parallel with a normalising global economic environment and the utilisation of new export capacities built recently, the trade balance will continue to improve in 2024. As a result, the current account deficit will halve in 2023 and the country’s net lending will turn positive again towards the end of the forecast horizon.

Since mid-October 2022, the risk assessment of the Hungarian economy has improved. However, concerns about certain participants of the global banking system have increased uncertainty in international financial markets, which has led to strong volatility in emerging markets. The MNB closely monitors the extent and persistence of changes in the risk environment.

The capital and liquidity position of domestic banks are stable; banks continuously comply with regulatory requirements with robust buffers based on regularly performed stress tests and are able to meet the economy’s financing needs. Financial market turbulences were accompanied by a general decline in bank share prices around the world. However, the stability of the European banking sector has improved significantly in the past decade, due in part to much stricter regulation than before.

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.

The Monetary Council highlighted four alternative scenarios around the baseline projection in the March Inflation Report. The risk scenario featuring decelerating global economic activity presumes growth and inflation paths that are lower than the baseline scenario. The scenario presenting an increase in the risk of second-round inflationary effects presumes a higher inflation path and a somewhat higher growth path compared to the baseline scenario. In the alternative scenario presuming capital withdrawal from the emerging markets, higher inflation is accompanied by more moderate growth. As a result of the more cautious consumer behaviour, the risk scenario assuming lower consumption results in a lower inflation and growth path compared to the baseline scenario.

There has been a general and broad-based increase in the yield environment as a result of the MNB’s instruments introduced in last 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, and therefore, based on this positive experience, the MNB will continue to use these instruments in the next period in order to achieve the goal of price stability.

Consistent with its earlier announcement, the Monetary Council will further tighten the effect of required reserves on interbank liquidity by raising the reserve requirement ratio and changing its interest rate structure from 1 April. According to the January decision, the required reserve ratio will rise to 10 percent. In addition, pursuant to the Council’s February decision, a system of tiered interest rates will be applied to the reserve account, which encourages increase in the share of liquidity tied up on a long-term basis further enhancing monetary policy transmission.

In addition to strengthening monetary policy transmission, the MNB will use one-day deposit quick tenders and FX swap transactions in the coming period in order to ensure financial market stability. Furthermore, the Bank promotes financial market stability by using its euro liquidity providing swap instrument and its central bank discount bill with maturities extending through the end of the quarter.

In the Monetary Council’s evaluation, the euro swap instrument related to energy imports has contributed effectively to achieving stability in the foreign exchange market. The decrease in energy market prices in recent months results in a gradual improvement in the energy balance. In line with this, there has been a significant decline in energy importing companies’ need for foreign currency hedging. Taking into account the purpose of the instrument and financial market developments, the Monetary Council decided that the instrument will remain available until 31 March 2023. The Magyar Nemzeti Bank will closely monitor the effects of foreign currency conversions resulting from the coverage of energy imports and will be ready to use the euro swap instrument again if warranted.

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 Bank is closely monitoring the effects of increased uncertainty in international financial markets on the risk environment. The MNB will continue to take into account persistent changes 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 12 April 2023.

MAGYAR NEMZETI BANK
Monetary Council