Finance Outlook of Hungary

The central bank turned more cautious in December. While it continued to ease, it reduced the margin of its latest rate cut, reflecting concern over enduring economic, financial and political risks. But stock prices rocketed over the past month, while the forint gained ground on the euro and the dollar.

• The Budapest stockmarket rocketed to its cyclical peaks during the latest rally, commencing in mid-December. The BUX index rose to 23,000 in the second week of January.

• The forint strengthened against the euro in late 2009, trading on the stronger side of the Ft270:€1 rate in early 2010. As a result, it reversed an earlier softening trend vs. the greenback and entered 2010 below Ft190:US$1, compared to nearly Ft195:US$1 in mid-December.

The central bank cut its rates by a lower margin than analysts had expected, easing by just 25 basis points and bringing its benchmark rate down to 6.25% in late December. Forint-denominated government bond yields have declined, with the two-year note now approaching 7.4%.

Hungarian financial markets have re-established their stability, following the carnage wrought in late 2008 as the currency plunged and the domestic bond market seized up. However, the economy continues to suffer and risks remain substantial. Wary of its risks, the National Bank of Hungary (NBH, the central bank) eased on the gas pedal in the second half of December. It still reduced its key monetary policy rate, but by a smaller margin than analysts had expected. The rate was cut by 25 basis points (bp), rather than 50 bps, and now stands at 6.25%. Inflation remains elevated, measuring 5.2% year on year in November, and continues to run ahead of economists' forecasts. Still, while easing more slowly, some central bank officials predicted further rate cuts in nearby months, with the base rate falling to 5.5% before mid-year. The forint has also showed signs of strength, especially against the euro, which could help the central bank combat inflationary pressures. The currency stood at Ft267.3:€1 and Ft184.3:US$1 on January 13th.

The economy has been among the hardest hit in the EU, probably contracting by 6.7% in 2009. This year, while most of the rest of the world is expected to resume economic growth, the Economist Intelligence Unit is forecasting a further 1% decline in Hungary's GDP. The jobless rate rose to a fresh record in November, and now measures 10.5%. In the manufacturing sector, the purchasing managers' index showed some improvement in December. The measure gained 0.8 point from November and stood at 48.5. However, it is still below the 50 line which separates expansion from contraction--at a time when manufacturing activity in Europe and the United States picked up markedly.

Another major concern for investors is the country's political situation. The current centre-left government remains extremely unpopular and faces an imminent defeat in April. The right is not only certain to return to power when the general election is held, but it may garner a constitution-changing majority in parliament. Some observers fear drastic changes in the country's political system. Nevertheless, both the forint and the stockmarket have performed strongly in recent sessions. The BUX index of the Budapest bourse rocketed in late December and reached a cyclical peak of above 23,000 on January 11, although two days later it had eased back to 22, 735.