Central Bank’s Base Rate Cut Higher than Expected

The Monetary Council of the Hungarian National Bank (MNB) cut the base rate by 75 basis points to 12.25 percent at its decision meeting on Tuesday, and lowered the two sides of the interest rate corridor by the same amount. Accordingly, the lower edge of the interest rate corridor, the overnight deposit rate, was reduced to 11.25 percent, while the upper end, the overnight lending rate, was reduced to 13.25 percent.

As Hungary Today reported yesterday, analysts were expecting a cut of 25 or 50 basis points. Finally, by more than expected, MNB cut the base rate by 75 basis points yesterday. The bank has cut the base rate after a long period of time; the last time it did so was three years ago.

The MNB explained that

the strong disinflation and the reduction in the country’s vulnerabilities allow the MNB to continue to tighten monetary conditions by reducing the base rate, while the rising external risks justify maintaining a cautious approach and continuing to cut interest rates at a slower pace than before.

With disinflation accelerating, the domestic real interest rate moved into positive territory in September and is expected to rise gradually until the end of the year, with inflation falling dynamically, they wrote.

They added that both the risks surrounding global disinflation and the volatility of international investor sentiment warrant prudent monetary policy. The Council will continue to assess incoming macroeconomic data, the inflation outlook, and developments in the risk environment, and will decide on further changes to monetary conditions in the coming months on the basis of these assessments.

Barnabás Virág, deputy governor of the MNB, gave a detailed explanation in a background briefing after the decision. He said that the strong disinflationary trends in the Hungarian economy and the reduction in the country’s vulnerability had made the interest rate cuts possible.

He stressed that the central bank had slowed down its previous pace of interest rate cuts (100 basis points) in response to rising external risks, and called investors’ expectations of a base rate of around 11 percent by the end of the year a realistic scenario.

He pointed out that inflation had fallen by 14 percentage points since the January peak by September and that this disinflationary path would continue in the period ahead, with year-on-year inflation likely to fall into the single digits by the end of the year. The deputy governor called it a major economic achievement that the annual index could move from 20 percent to below 10 percent on a sustained basis within a year. After four quarters of decline (on a quarterly basis), domestic economic performance has started to gradually recover, with the economy emerging from recession in the third quarter, he said.

Also, he noted that risk aversion in global financial markets has increased, while rising yields in developed markets and widening geopolitical conflicts have combined to dampen investor sentiment. The world’s leading central banks are aiming for persistently high interest rates to achieve their inflation targets, and after a decade of positive real interest rates in the world’s economic power centers – the U.S., the Eurozone, China – positive real interest rates have returned, leading to capital outflows from emerging to developed countries.

These effects can also be dampened by emerging economies by creating a positive real interest rate environment, which is both a global financial market feature and a necessary condition for the continuation of the disinflationary path,

he underlined.

Over the past six months, external imbalances have improved rapidly and significantly, supported by a lower energy balance, so that, on an annual basis, the risks to the current account have strengthened in the positive direction, he said. Following the simplification of the monetary toolkit, the overnight deposit facility previously used was discontinued from October and the main sterilization tool became the reserve account balance, he noted.

Via MTI, Featured image: Wikipedia