Hungary May Be Forced Into Policy Turn to Avert Rating Slide

Hungary's Prime Minister Viktor Orban
Viktor Orban, Hungary's prime minister. Photographer: John Guillemin/Bloomberg

Hungary may have to change policies, such as steps that caused banking losses, to access international aid and avoid more debt downgrades, BNP Paribas SA, Brown Brothers Harriman & Co. and Takarekbank Zrt. said.

Prime Minister Viktor Orban shunned seeking International Monetary Fund aid since coming to power last year until the forint fell to a record against the euro this month. He may have to rethink some policies criticized by Moody’s Investors Service, which cut the country’s debt rating to junk last week, and Standard & Poor’s and Fitch Ratings, which rate Hungary at the lowest investment grade with negative outlooks.

Orban’s measures aimed at cutting public debt and narrowing the budget deficit without abandoning a campaign pledge to end five years of austerity. He levied crisis taxes on the banking, energy, telecommunications and retail industries, effectively nationalized private pension-fund assets and forced lenders to swallow losses on foreign-exchange mortgages.

“They might have to scale back their policies that they announced a few months ago,” Bartosz Pawlowski, a London-based strategist at BNP Paribas SA, said in a telephone interview today. “This is more focused on the banking and the mortgage story than anything else. This is already happening.”

Forint, Bonds, CDS

The forint appreciated 1.9 percent to 308.51 against the euro by 5:03 p.m. in Budapest after posting the biggest weekly slide since June 2010 last week, and paring its loss in the second half to 14 percent, still the world’s biggest decline.

The government’s benchmark 10-year debt rallied for the first time since Nov. 17, cutting the yield 38 basis points to 9.14 percent. Credit-default swaps, a measure of creditworthiness, fell to 624 basis points from a record 645 basis points on Nov. 25.

Hungary which aims to reach an IMF agreement in the “first months” of next year, lost its investment-grade rating at Moody’s after 15 years as the debt evaluator cited risks to budget-deficit and public debt targets. The foreign- and local-currency bond ratings were cut one step to Ba1 from Baa3 and the credit evaluator maintained a threat to lower the grade.

The forint, bonds and credit-default swaps are under a “speculative attack” and the downgrade by Moody’s isn’t justified by the economy’s “strong fundamentals,” Economy Minister Gyorgy Matolcsy said at a press conference in Budapest on Nov. 25.

‘This Is Necessary’

The government must reach an agreement with the IMF on a credit line, he said, adding that Hungary doesn’t plan to use any aid and wants to continue financing debt from the markets.

Orban and Matolcsy on Nov. 25 met with Hungarian economists including former central bankers Zsigmond Jarai, Peter Akos Bod, Gyorgy Szapary, Henrik Auth and Istvan Hamecz, as well as Gyorgy Barcza, the chief economist at K&H Bank Nyrt. The group recommended “seeking an alliance” with the IMF, the European Union and Hungary’s Banking Association, Matolcsy said.

The government and the economists “agreed that this is necessary,” he said. “Hungary simultaneously needs a new growth plan and a financial safety net that in this situation only the IMF and the EU are able to provide. At the same time, we need a smart cooperation with the Banking Association that doesn’t just involve foreign-currency borrowers.”

Lending Difficulties

Lenders that bankrolled eastern Europe’s boom before the 2008 credit crunch are squeezed by deteriorating loan quality and slowing economic growth. The region was the world’s worst-hit in the aftermath of the collapse of Lehman Brothers Holdings Inc. three years ago and faces the threat of the same fate as the euro area’s crisis spreads.

Hungarian banks, which are set to lose more than 100 billion forint ($435 million) on the early mortgage repayments based on client indications by the end of October, offered to book further losses in exchange for the government abstaining from further unilateral regulations.

Cooperation with the government may be undermined after the Competition Authority launched an investigation into possible cartel activity on the household mortgage market by seven banks, the Banking Association said last week.

Hungary is also cutting spending, including reductions in drug subsidies, and increasing taxes to meet budget goals. The Cabinet announced plans to cut expenditure by as much as $4 billion a year by 2013. The government also plans to raise taxes next year, including the value-added tax, a sales levy, and the excise tax.

Must Continue

The Moody’s downgrade shows that Hungary must continue its overhaul of areas including education, health care and pensions, Zoltan Csefalvay, a state secretary at the economy ministry, told lawmakers in Budapest today.

S&P on Nov. 24 said it’s keeping Hungary’s sovereign-debt rating on “CreditWatch with negative implications” for longer than the one-month period it originally planned after the country approached the IMF for assistance. S&P said it may make a decision by February 2012.

Fitch Ratings on Nov. 18 said an IMF agreement would reduce pressure on Hungary’s credit rating, adding that a deal remained a “long way” off and would carry “strict conditionality.”

“They have to adopt more sustainable policies,” Marc Chandler, the New York-based chief currency strategist at Brown Brothers Harriman & Co., said in a Nov. 25 telephone interview. “They have no other choice but negotiate those conditions with the IMF. They will be forced to adopt somewhat more orthodox policies.”

Debt Auctions Scrapped

Hungary, which on Nov. 17 said it would seek IMF assistance, scrapped two debt sales and reduced the size of another eight auctions in the past three months, including a Treasury bill sale today. Loan defaults are rising as borrowers struggle to repay foreign-currency mortgages, which account for more than two-thirds of housing loans, after a slump in the forint boosted repayments as the euro area debt crisis deepened.

The nation’s foreign-currency debt maturing next year will soar to 1.37 trillion forint, a 48 percent increase from this year. That will rise to 1.48 trillion forint in 2013 and peak at 1.65 trillion forint in 2014 as Hungary repays the 20 billion-euro ($26.5 billion) bailout. Hungary had $51.3 billion in foreign-exchange reserves at the end of September, according to Bloomberg data.

Debt, Deficit

The level of public debt may drop to 75.9 percent of GDP this year from 81 percent last year because of one-off revenue from nationalized pension assets before rising to 76.5 percent next year, partly as a result of a weakening forint, the European Commission said last month. The government aims for a budget deficit of 2.5 of GDP in 2012.

To stabilize the currency, the central bank will probably raise the benchmark two-week deposit rate to 6.5 percent from 6 percent tomorrow, after holding the two-week deposit rate unchanged since January, according to the median estimate of 23 economists in a Bloomberg survey taken after the downgrade.

“The government is flexible to a certain degree,” said Gergely Suppan, an economist at Takarekbank Zrt., in a phone interview. “It seems the government is ready to compromise. But it isn’t a solution on its own. We’d need to see that they manage to agree, which may prevent further downgrades.”

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