Hungarian central bank President Andras Simor comments on the risks of Hungary implementing unconventional monetary-policy measures under a new leadership at the Magyar Nemzeti Bank.
He spoke in an interview in Budapest yesterday.
On unconventional policy measures:
“What we need to emphasize is that the National Bank of Hungary has used extensive measures to lessen the impact of the crisis on the Hungarian economy.
‘‘We’ve used most of the measures that other central banks have used in the world and we’ve used significantly more than any comparable country, what I mean is countries in the region like Slovakia, Czech Republic, Poland, Romania.
‘‘We used measures to create more liquidity in the foreign- exchange markets, to lessen the volatility of the Hungarian forint so that foreign-currency lending to corporates primarily doesn’t dry up. The second area where we used non-conventional tools was to improve the liquidity of the forint market and to stabilize forint funding for domestic banks.
‘‘Thirdly, there were certain markets which didn’t function well at certain periods, like the government bond market and the mortgage bond market. We’ve intervened in both these markets for a limited period of time.
‘‘Our record when using so-called unconventional tools is excellent, we’ve done more than anybody in the region and we’ve tried all the tools that are possible to be used for a small, open, emerging-market economy.
‘‘We can go on to what we haven’t done or what is not worth doing in Hungary or in fact causes more harm than benefit. The first area is general quantitative easing. QE is essentially done by countries in situations where traditional monetary policy has run out of its effectiveness. In other words, where the base rate is already zero or near zero and monetary policy can’t loosen more by traditional interest-rate cuts. At the same time, monetary policy wants to loosen more because inflation on the monetary policy horizon is below its target or because the central bank has other goals, like the Fed has an unemployment goal.
‘‘Well, nothing of this applies to Hungary: inflation isn’t below the target on the monetary policy horizon, so there’s really no reason to loosen to start with. If it were below target and the central bank wanted to loosen, it could reduce interest rates.
‘‘So there’s absolutely no reason to use QE as such. QE took a number of forms, buying government bonds, making long- term commitments and keeping interest rates low. But these in the current Hungarian context make no sense at all.
‘‘I can’t think of any other measures that others would’ve used that we haven’t tried. Except maybe buying corporate bonds, but the simple reason is that there’s no corporate bond market in Hungary.”
On government comments on central bank:
“I consider” government remarks that the central bank could have done more for growth “totally baseless. It’s important to note that even with our normal monetary policy, we take significant account of what is happening in the real economy.
‘‘We aren’t aiming to achieve price stability in the short term, but we want to achieve it in the two-year horizon, which means we smoothed the effect on the real economy. If we have inflationary supply shocks, we always act only if we think that some of these measures have a secondary impact on price levels. We don’t want to compensate the primary impact on prices.
‘‘Forget the unconventional tools; during our normal daily operation we take a lot of regard of what happens in the real economy.’’
On inflation data published by the MNB:
‘‘Our experience going back to many years shows that underlying inflation trends should be around 1.5 percent to 2 percent for inflation to be realistically at 3 percent.’’
On recent rate cuts:
‘‘Not to create havoc on foreign-exchange markets is a necessary but not sufficient criterion of good monetary policy.
‘‘The most important goal of monetary policy is to achieve and maintain price stability. Of course, as a by-product you don’t want to cause a collapse in your currency. But just because the currency market didn’t collapse, that doesn’t mean that monetary policy has been taking the right steps.
‘‘It’s important to note that it’s not our fundamentals that have improved but the world has become a more benign place, which of course works to our benefit. That’s the reason why we were able to cut interest rates without a significant weakening of the forint.
‘‘From an inflation point of view, I’m convinced that these rate cuts have not been justified. Longer-term inflation trends don’t support these rate cuts.”
On central bank credibility:
“If you have inflation, which on a two-year horizon isn’t on target in analyst forecasts and the gap is significantly higher than we had ever before during the last 6 years, and at the same time you have interest-rate cut expectations, this tells me that the central bank has a credibility problem.
‘‘One of the most important problems of the Hungarian economy is that the predictability of economic policies and the regulatory environment is low. There’s a lot of uncertainty about the regulatory framework that the Hungarian economy is surrounded with and I think up until now the central bank has played a very constructive role in lessening this uncertainty by operating in a reasonably predictable way.
‘‘In an environment where there’s a problem with regulatory certainty and predictability, it’s very important that the central bank keeps this position because if central bank actions turned unpredictable, that would just make the situation significantly worse for the Hungarian economy.”
On the impact of rate cuts on growth:
“The question is: will lending increase as a result of these rate cuts? In the last five months, we haven’t seen any positive impact of the reduced rates on lending.
‘‘Our analysis shows is that the main bottleneck of lending on the retail side is that a lot of people have built up a significant amount of debt before the crisis, they’ve been hit by the devaluation of the forint, and they want to reduce their debt irrespective of what interest rates are. The second bottleneck for increased borrowing is the uncertainty about the economic outlook and uncertainty about future real incomes.
‘‘Investments have been shrinking for some time and our baseline scenario is that they’ll shrink further this year. The lack of investment has much more to do with the uncertain economic outlook rather than the interest-rate environment.
‘‘Foreign direct investment and foreign-currency corporate borrowing aren’t growing either and those aren’t constrained by high domestic interest rates.
‘‘Obviously, rate cuts should have some impact, but I think this doesn’t remedy the main bottlenecks that we have in the credit system.
‘‘About half of Hungarian household, corporate and government debt is in foreign currency. Rate cuts, all other things being equal, weaken the forint. A weaker forint means higher debt and higher installments for these borrowers. For foreign-currency debtors, rate cuts mean higher costs, all other things being equal.
‘‘In the case of forint debtors, what you have to look at is whether these rate reductions feed into the existing stock. On the retail side, because these loans aren’t priced to a reference rate, we haven’t seen any proof that they feed into the existing stock. On the corporate side they do and consequently they do reduce the cost of servicing existing debt, similarly to government forint debt.’’
On the forint rate:
‘‘The central bank has always said that it operates in a freely floating exchange-rate system, therefore we don’t comment on individual exchange rate levels. At the same time, we’ve also said in the past that there’re extreme levels, which might cause problems for financial stability reasons or extreme volatility, which might cause problems for economic agents in Hungary.
‘‘For quite some time, we haven’t seen these extreme levels and we haven’t seen extreme volatility either.
On the two-week bill facility:
‘‘I don’t like the level of interest rates in Hungary, I wish that we could lower it. However, neither our inflation goal nor the risk assessment of Hungary allow us to reduce it, in my view.
‘‘If we limited the amount of liquidity that banks can keep in our two-week bills, the consequence of that would be that they would keep that liquidity at the central bank but in other instruments. For instance, overnight instruments which have a lower interest rate.
‘‘Limiting the two-week bill facility therefore would be equal to a significant loosening of monetary conditions, it would have the same impact as if we reduced the base rate. I don’t think reducing the base rate would make sense, consequently I don’t think limiting the volume in two-week bills would make sense either.
‘‘Cutting interest rates, loosening monetary-policy conditions, with all other things being equal, weakens the currency.’’
On the biggest problem for the Hungarian economy:
‘‘I think it’s the uncertain, unpredictable economic policies and regulatory environment. That’s why a predictable and transparent central bank has an enormous role to play, especially these days.’’
On the budget:
‘‘When we looked at the budget at the end of last year, we haven’t taken every line in the budget at face value. That’s why we said that in order to achieve the target, all reserves need to be frozen. We still think the targets are achievable provided that all the reserves are frozen and not spent. It will also be very important to see how the economy will perform.
‘‘For the excessive-deficit procedure, three things need to be watched. Whether the deficit targets that have been set are achieved, that there’s a structural improvement and what is the outlook for 2014. All three will be taken into consideration by the when they make their decision. It’s possible’’ that Hungary will exit the EDP, ‘‘but further measures will be needed to achieve the deficit target in 2014.’’