BUDAPEST/PRAGUE (Reuters) – Central Europe’s rate setters for the most part look set to weather a looming spike in inflation and let their economies rebound with a vengeance from the COVID-19 shutdown, propelled by strong domestic demand, investments and European Union funds.
The EU’s eastern members, whose job markets and wage growth have remained buoyant, are facing higher inflationary pressures than others in Europe.
It comes as their economies only begin to recover from the pandemic – which has led to the world’s highest COVID-19 per capita death toll in Hungary and the Czech Republic – and governments seek to reopen shops, restaurants, and other services as fast as possible to limit the fallout.
Headline inflation, though, is seen spiking to around 5% in Hungary in the second quarter and running above target in Poland. In the Czech Republic, price growth is on the rise again after easing back towards its target earlier this year.
But of those countries, analysts only tip the Czech National Bank to begin rate hikes in 2021. Its governor, Jiri Rusnok, told Reuters last week a debate could begin as early as August. But the bank, too, has said it would not rush to hike.
Peter Virovacz, an economist at ING Bank in Budapest, said in the case of Hungary and Poland, authorities are more willing to let inflation run hotter.
“There is a great chance that neither the Hungarians nor the Poles want to put brakes on growth so we will see high-pressure economies in CEE after the pandemic,” he said.
“Fast growth, high investment rates, with authorities boosting potential GDP growth rates – at the price of higher inflation and a deterioration in competitiveness which can be offset with a weaker forint.”
He added, though, that the Hungarian bank might still have to raise its one-week deposit rate if the forint weakens too much.
Hungary and the Czech Republic have also raised their budget deficit targets to give room for more fiscal stimulus, adding to robust monetary stimulus across the region that used to produce the EU’s fastest growth rates before the pandemic.
“We have modified the 2021 budget so that it could better serve the restart of the economy as we launched huge home renovation and home building programmes,” Hungarian Prime Minister Viktor Orban told state radio on Friday.
Nationalist Orban, who faces a tough re-election challenge in early 2022, has long relied on the economy as a major vote-winner. His government has provided strong financial support for families in the past decade.
Hungary, which has been at the top of the EU’s vaccination drive with almost 38% of its population inoculated, has already opened all shops and restaurant terraces and plans to reopen hotels and most services in the coming days.
It is targeting a budget deficit of 7.5% of economic output now, up from 6.5% previously, while the Czech government forecasts a budget gap of 8.8% of GDP, up from 6.6%, as past spending promises like state wage hikes and a new record income tax cut add to pressure on the budget.
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Meanwhile, central banks are still in easing mode, shrugging off the risks of reflation.
The National Bank of Hungary, facing an overshooting of its 2-4% target range, left interest rates on hold on Tuesday.
The bank considers a jump in inflation temporary but said it would closely monitor it for any possible second-round effects. It also extended its huge open-ended QE programme.
Also on Tuesday, however, the central bank urged the government to reduce the budget deficit faster next year, in order to prevent further inflation risks.
In Poland inflation is also expected to go above the upper limit of the central bank’s target range of 2.5% plus or minus one percentage point in the coming months, but governor Adam Glapinski said rates will probably stay on hold until his term ends in 2022 in order to support the economy.
The bank says the inflation rise would be temporary and fuelled by factors that monetary policy cannot influence.
Employment is already improving in the region that suffered from substantial labour shortages before the pandemic, while wage growth has kept up at a solid pace although not double-digits as before the pandemic.
Households have piled up savings and there is considerable pent-up demand which could contribute to a fast recovery.
“We are relatively optimistic for the growth prospects (in CEE) in 2021 and 2022, particularly in 2022, and this is despite the third wave. We expect economies have adapted quite well and we expect external demand to also recover reasonably well,” said Arvind Ramakrishnan, an analyst at Fitch Ratings.
While growth in the first quarter probably contracted due to the lockdown, Hungary’s government projects 4.3% growth for this year, and said growth could exceed 5% in 2022.
Poland projects 4% growth this year. The Czech economy is seen recovering slower, at a rate of 3.1%, according to the finance ministry. The Czech Republic plans to reopen shops, markets and some services from next Monday, while Poland will also reopen its shopping centres next week.
(Additional reporting by Alan Charlish in Warsaw; editing by David Evans)