"Positions are very underweight relative to Hungary's small imbalances and high yield,", London-based analysts for JPMorgan said in a Q2 global economic outlook published on Friday.

"However, we are not currently recommending bullish HUF positions as there is a risk of some pullback ahead of next month’s elections," the analysts added.

Nevertheless, JPMorgan projects EUR/HUF at 250 by end-2011.

Hungary’s main centre-right opposition party Fidesz, which is widely tipped to win in a landslide against the Socialists in the general elections in April, has said Hungary's budget deficit could reach 7.5% of GDP in 2010, well over the 3.8% target, because the government failed to include certain items, such as losses of state-owned enterprises.

JPMorgan said there is a clear risk that the next government will revise the 2010 deficit goal sharply upward. It said the consolidation of SOEs debts could blow up the full-year gap up to 7.0% of GDP.

The analysts said, however, that the experience of Greece would "make the government reluctant to indicate any relaxation in the structural deficit or to recognize these debts fully in 2010."

JPMorgan’s analysts confirmed their previous view that Hungary would be able to join the euro zone at least one year ahead of other euro applicants in CEE, because Hungary has "the strongest incentives" to adopt the single European currency and also because the country has a "fiscal head start".

The backlog Hungary has in terms of real economic growth in the region is primarily caused by tight lending conditions and a relentless fiscal tightening, in JPMorgan’s view. As a result, Hungary’s position is unique, i.e. when upturn begins it will not need to curb its structural budget deficit. Therefore, the country’s medium-term growth outlook is "exceptionally favourable" and by 2011 its growth will catch up with its regional peers.

JPMorgan’s analysts expect economic growth to pick up from the second half of the year and they see GDP up by 0.5% in 2010.

Not all London-based analysts are of this view, though.

In its European Economic Monitor published on Friday, UBS has even lowered its GDP growth projection for Hungary. While it previously expected GDP contraction of 0.3%, now it sees economic output falling by 0.5% this year. UBS has also cut its 2010 GDP estimate for the Czech Republic, but raised it for Poland.

Hungary’s GDP shrank by 6.3% in 2009 as a result of fiscal tightening (around 3pps of GDP), aggressive destocking (-5.7pps) and a collapse in export demand. Due to weak domestic demand, imports fell more than exports and thus net trade contributed positively to the 2009 GDP (+5pps), UBS summed up the recent developments.

The pace of GDP decline slowed considerably to just -0.4% q/q seasonally adjusted in Q4-09 from -2.3%q/q in Q1-09. Sentiment indicators and PMI levels have been increasing in January-February 2010 and confirmed the improving outlook.
György Kovács, research analyst at UBS in London, expects a sluggish recovery in 2010-11.

"The ongoing deleveraging need and the underlying structural problems are likely to make Hungary’s recovery rather sluggish," he said.

Kovács has trimmed his 2010 GDP forecast to -0.5% from -0.3% previously "on the back of a downward revision in Eurozone import demand in 2010."

"The main driver of growth should be exports, as poor labour market conditions and the leveraged banking system will constrain domestic demand. In the absence of structural reforms we believe that Hungary’s growth potential is low and foresee only a modest recovery to 2% GDP growth in 2011," the analyst added.

Rate outlook depends crucially on the new government’s economic policies

Hungary will hold a general election in April 2010 (the first round on 11 April and the second on the 25th).

Kovács believes that the likely Fidesz-led government "will put more emphasis on economic growth and competitiveness and not focus purely on a rapid fiscal consolidation. Hence, it might take longer to cut the budget deficit below 3% of GDP and the 2010 budget deficit is likely to be revised upward to c5.5% of GDP (from the 3.8% target), mainly due to consolidating past losses of state companies. In exchange, Fidesz is likely to pursue economic reforms."

The analyst noted that a key test of these policies is whether the IMF would be willing to endorse them.

As a base case he expects no more rate cuts from the central bank (NBH) in 2010, but due to our revised ECB call Kovács sees only 50bps of rate hikes to 6.25% in 2011.

"The risk in 2010 is skewed towards additional rate cuts if there is a positive market reaction to the election results and policy manifesto," he added.

JPMorgan expects another 25-bp rate cut this year, noting that if the forint strengthens further, the next monetary easing step may be put off to after the elections."

Source: Portfolio Online Financial Journal