Reuters: US Dollar Report: CEE MONEY-Rate cuts a luxury in Poland, a dilemma in Hungary

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CEE MONEY-Rate cuts a luxury in Poland, a dilemma in Hungary Aug 30th 2012, 13:10 Thu Aug 30, 2012 9:10am EDT * Hungary, Poland both surprise with monetary easing * Rate policy decisions driven by growth concerns * Hungarian rate cut fuels concern over forint weakness * Polish economy still growing, can plan ahead By Karolina Slowikowska WARSAW, Aug 30 (Reuters) - Hungary and Poland both surprised markets this week by easing monetary policy to boost their economies despite high inflation rates, but for one it was a crisis measure while the other acted from a position of relative strength. The central bank in Budapest is walking a tightrope between trying to prop up its forint currency and exit recession, whereas its counterpart in Warsaw can afford to plan ahead as it assesses just how badly the debt turmoil to the west might damage its still robust economy. "The driver behind the decisions is the same - concern for the weakening economic outlook," said William Jackson, economist at Capital Economics. "But that's pretty much where the similarities between Poland and Hungary end." On Tuesday, the latter unexpectedly cut interest rates for the first time in more than two years, by 25 basis points to 6.75 percent and the governor of Poland's central bank changed a restrictive policy bias and signalled faster rate cuts. The shift shows policymakers in both countries are willing to put aside worries over high inflation and the potential depreciation of their currencies that lower rates could bring. In Poland, where base rates stand at 4.75 percent, the shift towards a looser monetary policy after 18 months of gradual tightening could help sustain healthy growth rates by taking pressure off the strong zloty. At first glance Hungary, one of the most vulnerable economies on the continent, might also benefit from the weaker forint that the rate cut brings, given the fall in demand from its main export market, the euro zone. INVESTOR CONCERNS But investors and ratings agencies have long been concerned by what they view as unorthodox policy moves in Budapest, including government attempts to challenge the independence of the central bank law that prompted the EU to launch legal action against Hungary earlier this year. Unless Budapest makes steady progress to seal an aid deal with the International Monetary Fund in the coming several months, the forint might come under pressure again, which could force the central bank to reverse Tuesday's cut. In Hungary, high levels of foreign currency loans and volatile investor sentiment make the interest rate premiums the forint enjoys crucial to propping up the currency. "At the turn of the year, controversies around the central bank law pretty much battered the forint. The forint rose from these bottoms and that's pretty good for Hungary," said Mateusz Szczurek, regional economist at ING Bank. It has outperformed other currencies in the region this year, firming as much as 13 percent this year, compared with the zloty's gains of about 10 percent. "While in Poland a weaker zloty could help a bit, in Hungary, a weaker forint could even do some harm," Szczurek said. The weaker the forint, the bigger the country's financing problems because much of its debt is held in foreign currencies. A weaker currency is also problematic for private Hungarian households, which are having to meet huge payments on mortgages denominated in the now soaring Swiss franc, posing a serious threat to financial stability. "We need to remember that the previous hikes in Hungary weren't exactly a response to an economic boom - they were a response to the fleeing capital and the weak forint," Szczurek added. STILL RECESSION-PROOF Poland, on the other hand, is the only European Union to avoid recession since Lehman Brothers collapsed in autumn 2008 and is still outperforming its neighbours. Its economy grew 4.3 percent last year. It has, however, been battling high inflation, which has been above the central bank's key 2.5 percent target for most of the last five year. In July it stood at 4.0 percent, two months after the central bank hiked rates by 25 basis points, citing price pressures and saying the country's economic slowdown was modest. But since then economic data has pointed to a faster downturn, reaching a climax on Tuesday with poor growth data. The economy expanded by 2.4 percent in the April-June period, far below forecast, and domestic demand contracted by 0.2 percent compared with a rise of 2.7 percent in the first three months of the year. Domestic demand was last in negative territory in 2009. Some economists now even fear that Poland could near a technical recession at the start of 2013 after uninterrupted growth for 20 years. Central bank head Marek Belka said it was too early to raise alarm bells, but his remarks on Tuesday clearly showed that rate-setters are now hedging against growing risks to growth despite high inflation levels. "Belka's remarks this week, following a series of softer activity data and culminating in the disappointing growth figures, reflect fears of a deeper economic slump than previously anticipated," said a London-based hedge fund strategist. "In such a situation, the growth argument is clearly winning over high inflation concerns." Link this Share this Digg this Email Reprints

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