Sharply falling GDP, rising inflation, mixed financials
The domestic Covid-19 situation remains outstandingly favorable in a global and even in a European comparison, but the earlier steady improvement has clearly stalled recently. The daily number of new infections and the stock number of active cases have both started to rise moderately in recent weeks. Apparently, this is driven by increased human turnover during the summer holiday season and follows the prevailing regional and continental trend.
In response, the authorities have decided to cancel earlier plans to loosen safety measures further in August. Moreover, border restrictions have been moderately tightened recently. Meanwhile, various health care officials keep stressing publicly that a further rise in infections and even the arrival of a second wave of Covid-19 is likely to happen soon. The purpose of this propaganda may be to maintain public risk awareness ahead of the reopening of schools in September and the return of colder weather a few weeks later on. At any rate, consumer confidence appears to be reacting negatively to this kind of talk.
Despite all the negative developments regarding Covid-19, the authorities are not planning to reimpose lockdown measures on a nationwide basis. Instead, the current plan is to treat the situation at infection hotspots promptly and locally, the same strategy as the one followed in most European countries.
Q2 GDP ended up worse than expected, falling very substantially but by a bit less than the EU/Eurozone average. However, the outcome was just a little worse than our guesstimate, and so it does not require a revision of our annual forecast. A significant recovery took place in June, but most activities are still markedly below pre-Covid levels. A special case is all hospitality industries and their related areas, where the year-on-year setback continues to be dramatic. The government claims that the employment situation has started to improve slowly since July.
The balance of payments situation still looks quite all right. Even though exports were hit hard by Covid-19 consequences, recently imports have fallen back by more, due to the setback in domestic adsorption. This looks to us as the manifestation of the usual small open economy model, the relevance of which we stressed in earlier reports.
The central government’s cash deficit still looks ugly, but at least the earlier steep rise in the cumulative deficit ratio stopped in July. Stabilizing this ratio at the January-July level would result in a highly above-target annual fiscal deficit by ESA-2010 methodology, but also one that would fall very close to our long-standing forecast for this year.
The consequences of the EU budget deal reached at the European summit in July are not entirely clear yet in every respect. Our preliminary estimates show that at comparable prices, Hungary’s net transfers from the EU will likely shrink in 2021-2027 by about 10% from 2014-2020, whereas total gross transfer quotas will remain largely unchanged.
More importantly, all of the remaining allocations for 2014-2020 are likely to be disbursed by end-2020, and for 2021-2022, only grants from the Next Generation EU instrument will be available for domestic distribution. This means roughly the halving of the current rate of disbursement over the next two years, although in terms of the actual utilization of EU funds by domestic recipients, comparison with current conditions may end up looking significantly better.
Data for July revealed a surprising and completely unseasonal jump in CPI-inflation, which pushed core inflation measures above the central bank’s 4% tolerance ceiling. There were a number of contributing factors, but the overall rule seems to be that in the preceding months, Covid-related lockdown circumstances generally depressed consumer prices, and this trend simply was reversed after the reopening in late spring and early summer.
This jump in inflation has put central bank policy in a new light. For a while, we thought that the forint’s return to EURHUF 345, essentially the same level at which June’s loosening measures took place, might provoke the MNB to loosen again, to weaken the currency and help GDP growth. However, having core inflation outside the tolerance range is unlikely to allow further loosening until a correction has been achieved in that respect.
On August 14, both Fitch Ratings and S&P had pre-announced review dates on their BBB/Stable sovereign ratings. As expected, no rating action was announced. We believe the existing ratings will most likely remain in place for a relatively long while, depending, of course, on how the government handles the Covid-19 crisis.
Following the eventful European Council summit in July, EU politics has become temporarily calmer from Hungary’s point of view. But pressure on the Fidesz government is likely to intensify again in the runup to the next summit in mid-October, as EU leaders will have to return to the rule-of-law mechanism attached to the common budget, and as the German presidency will want to speed up the ongoing Article 7 procedures against Poland and Hungary. The government is buying a big amount of weaponry from the US, in part most likely to please the US government on NATO affairs and to counteract the negative consequences of a potential Democrat win in the US presidential election.
In domestic politics, Fidesz has continued its long-standing strategy of destroying potential opposition strongholds in recent weeks, by demolishing the country’s most read and largely independent online newspaper, and by taking over the management of the University of Theatre and Film Arts in Budapest. This was probably the last moment before the 2022 election that these actions could be implemented without running major political risks.
On the opposition side, the Democratic Coalition and Momentum, the two leading forces, have run into a noisy local conflict. Both parties appear to be fighting for a leading role in an opposition alliance in 2022. However, the six most relevant opposition parties have just announced that they will run against Fidesz jointly in the next election, setting a common candidate in each constituency. They will do so in an interim election for a single parliamentary seat in early October, a vote that will decide if Fidesz can formally restore its constitutional majority in the National Assembly.
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