National Bank of Hungary Review: Season finale with a cliffhanger

The cautious and patient easing of monetary conditions in Hungary continued in June. The National Bank of Hungary (NBH) cut its key interest rate by 25bp to 7.00% on 18 June. As a fun fact we share, this is the first time since July 2013 that the central bank has used a standard size rate cut. Back to the boring facts, besides the base rate, the central bank maintained the symmetry of the interest rate corridor with 25bp cuts at both ends. Given that 80% of the market (based on a Bloomberg survey) was expecting exactly this outcome in the rates complex, we can hardly call this outcome a surprise.

Not only the rate decision itself, but also the subsequent communication (press statement and briefing) was in line with our expectations. This means that the National Bank of Hungary delivered a hawkish cut. The focus of the communication is the new forward guidance. While the previous one highlighted the possibility of “further reduction in the base rate in a cautious and data-driven manner”, the new one clearly states that the Monetary Council “will take decisions on the level of the base rate in a cautious and data-driven manner”. In practice, the NBH now focuses on the level rather than the delta.

With this restructuring of the forward guidance, the central bank has introduced a pause as a future option. Deputy Governor Virág emphasised the change in guidance several times, but in the end he explicitly mentioned the pause as an option during the Q&A session. It now appears that there is very, very limited room for further easing in the coming months, with the possibility of a pause.

It's important to clarify that – as we understand it – while every meeting from now on is a live meeting and the NBH may pause the rate-cutting cycle or make small cuts, this does not mean that the central bank's intention is to cut at every meeting. Rather, the label “live” is there to emphasise the pause itself. In this sense, a live meeting means that a pause is definitely an option and a cut is not a given.

Among the central bank's key messages, we found at least six red flags, or rather supporting factors, for our long-standing hawkish call for no change in rates in the second half of the year.

The most obvious, of course, is the change in tone and wording of the forward guidance. But beyond that, the central bank has emphasised the "higher for longer" external interest rate environment several times. Turning to the inflation outlook, the most glaring issue on our side is the rising core inflation, which will reach 5% by the end of the year according to the central bank's new forecast. Our forecast is for core inflation to reach 5.3% by December 2024.

But it is not only the inflation outlook that justifies a hawkish stance, as household inflation expectations have started to drift higher recently and show signs of becoming unanchored. There has also been a shift in the risk assessment. While in March the central bank saw more downside risks to inflation, now two of the three main alternative scenarios are pro-inflationary (further Fed-ECB divergence, stronger real wage growth). Regarding the latter risk, the central bank stressed that the labour market remains strong and that wage growth has recently surprised on the upside, which could pose a problem for already high and sticky services inflation.

We still believe that the policy rate cannot go any lower after June. The central bank wants to control both the short and the long end of the curve, and the best tool to have a lasting impact on the long end is to be as hawkish as possible. In this respect, we expect a prolonged pause by the NBH, which in turn would maintain a positive real interest rate in a rising inflation environment and keep some risk premium over regional rates, supporting HUF assets.

Nevertheless, we see downside risks to our view, as the central bank has not completely closed the door to further easing later this year. In the like of a favourable turn of events, such as a further cooling of US inflation, lower reflationary prospects in Hungary, a dovish shift in the regional monetary policy outlook and/or a material improvement in the global risk sentiment, we could see the NBH continuing the rate-cutting cycle.

In this context, we would expect two more rate cuts of 25-25bp over the rest of the year, the timing of which is highly uncertain. However, we would rather see the possibility of the easing being linked to meetings that provide new forecasts. Against this backdrop, if there is any room for easing, it would be in September and December, with the policy rate alternatively moving to 6.50%.