Hungary’s Crisis: Nowhere To Turn But The IMF
As many readers will have observed over the past few weeks, Hungary has become the focus of attention in Central & Eastern Europe (CEE), and for all the wrong reasons. The country finds itself caught in a financial storm equivalent in magnitude to that witnessed in late 2008, with the forint trading close to its all-time low against the euro, and credit default swaps now more expensive than at the height of the global financial crisis. As government borrowing costs have similarly soared to unsustainable levels, we have been arguing that a new IMF/EU Stand-By Arrangement is the only option left available to the country to avoid financial catastrophe. However, this in itself will most likely result in a new set of problems for the ruling Fidesz administration.
How Did We Get Here?
Hungary’s economic problems are well documented. Legacies from the previous crisis, namely a large stock of foreign currency-denominated debt and an overleveraged banking sector, have been exacerbated as, respectively, the forint has come under severe pressure and Western parent banks have hinted that they are seeking to limit credit exposure to the weakest economies in CEE.
Compounding matters, Hungary is – by some measures at least – the CEE economy that is the most heavily exposed to trade and investment with the eurozone. This supports our view that Hungary’s economy will be the only one in CEE to contract over the course of 2012.
On the political front, the situation has been no better. The government has been branded as increasingly authoritarian and erratic by both investors and credit rating agencies alike. Legislation to change the nomination structure within the central bank has been likened to a curbing of its independence, while there have also been attempts to diminish the influence of the judiciary and the independent media. As a result, the three major credit rating agencies have dropped Hungary to junk status, and investors have flocked out of all major asset classes.
How Will It All Play Out?
There is no question that Hungary’s only real escape from its current economic mess rests with a new IMF/EU deal. But there is potential for negotiations to prove volatile and protracted in the meantime, given that Hungary will prove loath to give into external demands. In the meantime, should markets continue to come under duress, we cannot rule out the central bank aggressively hiking interest rates to help stem capital outflows, by as much as 100-200 basis points, as it did back in late 2008.
Ultimately, with the economy heading back into recession, and Fidesz likely to lose face as it is forced to backtrack on major legislative moves, public support should begin to shift away from the centre-right party, potentially yielding a rise in the far-right’s popularity. At the same time though, financial markets could offer attractive entry points as terms of the IMF deal become more concrete. The forint and government bonds in particular look ripe for a bounce.
January 11th, 2012 at 5:18 pm
I think the most disturbing trend currently taking place in Hungary is the removal of a lot of central bank protections. Reminds me of Argentina’s mess circa 2001 w/ the dollar- (in this case euro-) dominated debt.