Many questions remain despite the bail-out
Overview:
For many years Hungary ran very loose fiscal policy and accumulated huge current account deficits but was insulated from the full economic consequences of its weak policies by easy access to credit on the international capital markets. It is, perhaps, ironic then that after finally enacting a serious fiscal package in 2006/2007 a severe reduction in risk appetite on the global financial markets should now be the catalyst for a severe sell-off in Hungarian equity, foreign exchange and government bond markets. While the international community has been quick to respond with a large bail-out package of EUR20 billion, significant policy adjustments are nonetheless long overdue. Despite this fiscal adjustment, the Hungarian economy has continued to suffer from huge debts and to be characterised by rampant foreign-currency denominated lending. These weaknesses form the root of the present crisis.
Recommendation:
With inflation in Hungary falling, any improvement in the global appetite for risk could allow the forint to strengthen somewhat and interest rates to be cut from current high levels. There are considerable question marks, however, over the medium-term outlook. Even with full implementation of the announced economic package large gross external financing needs remain and debt ratios will at best stabilise at very high levels. Moreover, although the current sense of financial crisis should deliver policy compliance in 2009 it is less obvious that this discipline can be maintained further out with a parliamentary election due in 2010. The economy will, by then, likely have suffered three years of below par economic growth and wage restraint. We are underweight on Hungarian assets.