Falling FX Reserves, Stable HUF
The surprising weakness of manufacturing in Q1 was due mainly to a setback of output at Audi Hungária, which seems temporary. Already, substantial positive correction of industrial output was seen in April. Nonetheless, earlier stellar growth rates of the car industry are unlikely to return. The situation of construction industry and fixed investment still looks far worse than this, as the distribution of funds under EU-backed development programs is running at only one-third of the level seen last year. A major recovery in that area should not be expected before early 2017.
Positively for GDP, consumer demand keeps strengthening, driven by unusually high, and recently accelerating, growth of real wages. The latter is mainly driven by government measures, but an increasingly serious shortage of labor is also an important factor. By pushing up wages, the government’s aim is to maintain positive GDP growth and to improve its political standing, as shown by a recent agreement on a major correction of health care sector salaries.
So far, the weakness of export-driven manufacturing, the strength of import-intensive consumption and the drying up of EU transfers have not reduced Hungary’s sizable external income surplus by any significant amount. A key role in this was played by a big terms of trade gain in Q1, caused by low commodity prices. The overall balance was substantially negative, but the forint did not suffer, as the MNB provided FX to banks and the ÁKK, where the big outflows occurred. Official FX reserves have fallen markedly, but the MNB keeps claiming that it is a part of its de-sterilization program and the level of reserves continues to be higher than adequate.
The MNB’s policy to keep the forint stable – also through cutting interest rates but announcing the end of its recent loosening series in late May – helped year-on-year CPI-inflation to turn negative and core inflation to moderate again in May, despite the recovery of fuel prices. But base effects also played an important role in this. Despite the momentary calm, risks are significant, in view of high wage growth, strengthening consumption, rising oil prices, and the prospect of looser fiscal policy as the election in 2018 is getting closer.
But so far, fiscal data have not shown any sign of becoming looser. The government sector reached full balance in Q1, just as the central government in January-May, which is unprecedented. This fiscal strength must have contributed to an upgrade by Fitch Ratings, and may lead to a similar measure by Moody’s in early July. But it is unlikely to remain, given recent government and parliamentary decisions on the fiscal framework for 2016-2017.
Politics have calmed greatly in the past month. The dust around corruption matters has settled, though probably just temporarily. Fidesz keeps its solid first place in the polls, and it is hard to see how it could be different with booming wages, rising employment and zero inflation. Teachers continue protests but have not reached a critical mass. The recent agreement on health care wages is likely to support social peace. PM Orbán is doing reasonably well on European matters as well, as the Commission’s latest proposal on refugee policies has proven widely unpopular, and as the EU is apparently focusing on far greater problems than that of Hungary.
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