Hungary vows to maintain market trust as deficit edges higher

Hungary's Economy Minister Marton Nagy projects the country's budget deficit will widen to 4-4.5% of GDP this year, and around 4% in 2025, driven by anaemic European growth and increased pre-election government spending. This revised outlook, alongside a growth forecast cut to 1%, intensifies scrutiny on Hungary's investment-grade credit rating, with S&P maintaining a negative outlook on its BBB- rating. The government aims to balance electoral commitments with fiscal responsibility to avoid a downgrade, supported by the central bank's 6.5% interest rate addressing 4.7% inflation and a strong forint.

Analysis

Hungary's fiscal outlook is deteriorating due to a combination of external and internal pressures, creating significant risk for its investment-grade credit rating. Economy Minister Marton Nagy has revised the 2024 budget deficit forecast upward to a range of 4.0% to 4.5% of GDP, from a prior 4.1%, while slashing the economic growth forecast from 2.5% to just 1%. This dual revision is attributed to anaemic European growth and substantial pre-election government spending, including tax cuts and pension hikes, ahead of a challenging election. With a debt-to-GDP ratio near 75%, the country faces critical reviews from S&P, Moody's, and Fitch in the coming months. S&P's existing 'negative outlook' on its BBB- rating places Hungary on the brink of a downgrade to 'junk' status, a risk the minister acknowledges while expressing confidence in maintaining market trust. In response to persistent inflation, projected at 4.7%, the central bank is maintaining a restrictive monetary policy with the EU's joint-highest interest rate at 6.5%. The government is also endorsing a strong forint to curb import costs, viewing it as more advantageous than detrimental despite the potential drag on exports.

Key Decisions for Investors

• Investors in Hungarian sovereign debt should exercise extreme caution and closely monitor the upcoming rating reviews in Q4, particularly S&P's review in October, as a downgrade to sub-investment grade would significantly reprice government bonds.
• For currency traders, the Hungarian forint presents a high-risk carry trade opportunity, supported by a 6.5% policy rate, but this yield is counterbalanced by the significant downside risk from potential fiscal slippage and a sovereign credit downgrade.
• Equity investors should be wary of exposure to Hungarian domestic-focused sectors, as the combination of weak economic growth, high interest rates, and fiscal uncertainty creates a challenging operating environment, despite potential short-term boosts from pre-election stimulus.