Prospects for 2021-2022: rapid growth, high inflation
In our previous quarterly forecast, published in July, we wrote of the unusually high degree of uncertainty for this year, naming Covid, inflation and the prospective access to EU funds as the related main factors. Since then, uncertainties have decreased in a moderately positive way regarding Covid, and in a negative way regarding inflation, whereas they remained unchanged at a high level as to the availability of EU funds.
In general, growth has proven to be stronger than expected this year and it will probably continue largely the same way in 2022, due to the Fidesz government’s generous fiscal measures ahead of the April election. On the other side, inflationary pressures also appear markedly stronger than expected, because of both external and domestic factors. In the latter area, the MNB is seen delivering its promises to substantially tighten policy, but fiscal and central bank policies are likely to work against each other in 2022. As a consequence, we are predicting inflation to remain at materially above-target levels next year, although probably decreasing somewhat from the nine-year highs of late this year.
Regarding growth, the key driving force should increasingly be the strengthening of consumer demand. On the supply side, services are likely to recover, whereas the industrial sector will likely become less of a predominant contributor, especially as the global shortage of semiconductor components is expected to contain manufacturing further. The labor market has recovered almost fully after Covid, and as the domestic supply of labor keeps decreasing due to demography, wage growth must remain significant. The latter problem will be most likely aggravated by high inflation and a prospective increase of the minimum wage, the latter being an important part of Fidesz’s campaign plans.
On fiscal policy, a key thing to observe is that the prospective forceful campaign spending should not necessarily lead to a growing fiscal deficit. However, the fiscal impulse to growth is still likely to become stronger, as the structure of spending is shifting to support domestic demand much more powerfully than so far. Our main scenario remains that the fiscal deficit and the debt ratio will be kept on a decreasing trend next year. The key risk to this is not so much campaign spending but the looming threat that EU funds may become inaccessible due to rule-of-law concerns. Another risk of growing importance is the dismal state of European gas prices, which is a threat to the budget and to price stability alike, despite the existence of mitigating factors.
By now, the MNB has proven that its commitment to tightening is serious. Unlike previously, we expect its current tightening course to continue at least until the end of next year. This should mean raising interest rates and slowing down quantitative easing, although the direct purchases of government and corporate bonds will be most certainly continued. The efficiency of MNB tightening is likely to be limited by the government’s contrary actions between now and the election in April, the existing policies to isolate borrowers from the impact of MNB base rate hikes, and the prospect of the BOP's turning into a significant deficit on fundamental items in 2022.
Recently, there has been a worrying calm around RRF talks with the EU Commission. The government keeps asserting that this is only a temporary delay, but communication from the other side suggests differently. The EU Court has indeed started to discuss the fiscal rule-of-law mechanism, and its decision regarding the latter’s legality is expected now to arrive by December. Meanwhile, the European Parliament continues to put pressure on the Commission, which repeatedly assures Parliament that it is going to activate the rule-of-law mechanism within a few weeks’ time.
We still expect Fidesz to narrowly win the April election, but uncertainty is significant in this regard, as the united opposition remains quite popular according to opinion polls. The opposition primaries have been a great success as an opportunity for participants to demonstrate themselves and to occupy the relevant media, but some of their internal conflicts and policy inconsistencies have also come to surface. At any rate, it is a risk factor that should they win, opposition leaders are planning to declare the existing constitution invalid and demolish the institutional system based on it, even if that requires means that are, strictly speaking, illegal. Their further key purpose is to take the current political leaders to court, with a view to sending them to jail for alleged corruption. We are aware that much of this may be no more than loose campaign talk, but even so, such a scenario cannot exclude the risk of a constitutional crisis.
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