WOOD Flash - Hungary macro: tough funding conditions should force wise policy decisions

The Monetary Policy Council (MPC) of the Central Bank of Hungary (MNB) has decided to increase the upper level of the interest rate corridor by 950bp to 25.0%, from 15.5% previously, to set a 1-day deposit rate of 18.0%, and to keep the base rate unchanged at 13.0%. These measures embolden the efforts to put real interest rates credibly into positive territory, and to tighten liquidity, such that the monetary transmission channel should improve.
Today’s announcements, together with growing evidence that the government is taking steps to address the European Commission’s (EC) concerns about the rule of law in Hungary, have led us to revise our assessment from a fundamentally negative-to-cautious stance, to a positive one: although not all the issues have been resolved, we are now reaching a critical mass of measures that indicate, to us, that Hungary should not enter a vicious spiral of suspended EU funds/potential loss of investment grade status and de facto severe political uncertainty. On the contrary, we believe that there has been a genuine improvement in some institutional weaknesses that have been increasingly clear in recent years. A significant reduction in the negative tail risk puts Hungarian assets back in a favourable position, but this should be a seen as an improved relative position in the context of a very negative global financial outlook (please see our 30 September flash for more details). Today’s steps also signal that Hungary is running out of options to convince both domestic and foreign investors that the institutional set-up is credible and trustworthy.