The forint hit a losing streak this week, weakening to a two-month low against the euro, as investors got jittery over Hungary’s deteriorating finances and the central bank’s loosening monetary policy. Further interest rate cuts may add fuel to the fire, analysts warned.
The Hungarian currency’s losses accelerated against the euro this week as markets are assessing the impact of Hungary’s deteriorating public finances and recent cuts to the main overnight interest rate. In addition, the European Commission released a report on the rule of law in Hungary, which expressed serious criticism.
The forint embarked on a gradual weakening against the euro and by the second part of the week, investors went on a selling spree, sending the Hungarian currency on a more serious slide. Over the last week, the currency fell by 3.3%, reaching levels last seen at the end of March, and depreciating the most among 23 emerging-market currencies after the Russian ruble. The forint weakened past 380 against the euro, a level considered a strong resistance by currency traders.
The currency posted its longest losing streak in almost three years, showing that investors are increasingly worried about Hungary’s fastest inflation in the European Union and signs of a hard landing for the economy.
Hungary’s economy has been in recession since the second half of last year and forecasts show that inflation is set to remain above 20%.
The forint was an underperformer in the region in recent days, as the Polish zloty weakened 0.8% and the Czech crown 0.6% against the common European currency. This shows that the underlying factors behind the weakening cannot solely be attributed to international market sentiment, domestic developments are also fueling the selloff.
Analysts believe that the Hungarian central bank’s rate cuts are making the forint less attractive at the time when Hungary’s economic fundamentals are weak. The central bank has lowered the key overnight deposit rate by 200 basis points from its 18% peak.
At the same time, the Finance Ministry is working on an overhaul of social spending, including spending cuts, as mounting fiscal pressures and the absence of fresh European Union funds are turning the fiscal outlook bleak. The government announced on Thursday that it regrouped nearly HUF 190 billion from funds designed to maintain favorable retail energy prices. The move is testament that Hungary’s household energy price scheme is proving increasingly unsustainable. OTP Bank's recent forecast predicts a budget deficit of 6% of GDP for this year, which surpasses the government target of 3.9% by a large margin.
The budget deficit reached 9.8% of GDP in the first quarter, pushing the government to cut spending and extend special taxes across industries, including banking and energy. Budget revenues are particularly hurt by the declines in retail sales, which has cut value-added tax revenue. Domestic consumption has plunged as inflation cut disposable incomes.
Currency traders are blaming Hungary’s fiscal worries as one of the main reasons working against the forint.
The central bank will hold its next interest rate decision on July 25, which will provide clues whether the easing cycle slows or even pauses in the face of the weaker forint.
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