Fiscal medicine heals Hungary’s economy

THE Greek debt crisis has had some unexpected consequences. For example, it has highlighted the relative stability of the economies of Eastern Europe. Hungary, which went through its own debt crisis in October 2008 and required a €20bn bailout by the IMF and the EU, has since been on a fiscal road to recovery and tough austerity measures are starting to bear fruit.

Last year Hungary’s debt was 3.9 per cent of gross domestic product; this looks like a paragon of fiscal virtue, especially when compared to Greece, Italy, Portugal and Spain. Its fiscal situation had improved by the end of last year, so much so that Hungary was able to forgo the last instalment of its IMF bailout loan.

The relative economic calm has helped Hungary’s currency, the forint, to stabilise against the euro. After trading in a range against the single currency in recent months there is room for further appreciation. “The forint should outperform the euro this year as its economic growth out-paces that of Europe’s,” says Mark O’Sullivan, director of dealing at Currencies Direct.

In February, economic indicators reached a 17-month high, which has gone some way to vindicate the Hungarian government’s decision to update its economic forecast for growth in 2010; it now expects the economy to contract by 0.2 per cent this year, an improvement on the 0.3 per cent contraction predicted at the end of 2009.

Since currencies are sensitive to interest rates, the forint should benefit from a large interest rate differential with the Eurozone; currently interest rates in Hungary are 5.75 per cent, compared with 1 per cent in the Eurozone.

Next month’s general election has caused some jitters among investors. But this could be unwarranted. Opinion polls currently point to a victory for the conservative Fidesz party. Although the party has pledged to create one million jobs and cut income taxes, forex traders should not be worried that Hungary’s fiscal plans will go off the rails. The IMF imposed strict fiscal rules when it gave Hungary a loan back in October 2008, and the fiscal situation should remain stable.

The biggest risk to forint appreciation is the prospect of a prolonged double-dip recession. For investors worried about a double-dip then the best way to trade the forint is a relative value Eastern European currency trade. BNP Paribas, the French investment bank, recommends a long position in the Hungarian forint against a short position in the Czech koruna. The Hungarian central bank has been more hawkish than its Czech counterpart, and the interest rate differential between the two countries (currently at 4.75 per cent) is forint-positive.

For those who have been scared off smaller European economies in recent months, the forint is a glimmer of hope.