Inflation Kicks Off Race for EU’s First Rate Hike This Year

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Accelerating price growth is underpinning bets that the European Union’s first interest-rate increase this year will come from its eastern wing.

Inflation quickened more than estimated in Hungary and the Czech Republic in April, and while policy makers in Budapest saw inflation spike to a nine-year high, investors are betting that their counterparts in Prague will lead the way in tightening monetary policy.

InflationAprilEstimateMarch
Hungary5.1%4.8%3.7%
Czech Republic3.1%2.7%2.3%

The two nations of roughly 10 million people each have been among the world’s hardest hit by the Covid-19 crisis in terms of deaths per capita.

But they’ve maintained among the lowest unemployment rates in Europe and are enjoying generous budget spending that has propped up consumer demand. Similar to trends across the world, rising commodity prices and supply-chain disruptions are also pushing inflation expectations higher.

Go Long CZK/HUF on Hungary Central Bank Lagging CPI Jump: Citi

The Czech National Bank last week increased its projections for price growth and said fading risks of a longer pandemic-induced economic downturn will allow them to raise rates, possibly in the summer. The derivatives market is showing bets on a full rate hike within three months, and at least one more within half a year.

“The current inflation developments and outlook will solidify the CNB’s view that there is a need to start raising interest rates,” said Radomir Jac, chief economist at Generali Investments CEE in Prague, the country’s biggest asset manager. He expects the first rate hike in August.

Inflation Kicks Off Race for EU’s First Rate Hike This Year

Hungary’s inflation was the fastest in Europe and the highest since 2012, though core inflation, which strips out volatile food and energy prices, rose only 3% in April, the lowest in two years. Policy makers have been in wait-and-see mode, forecasting that the acceleration in price growth will temporarily peak at around April’s levels before slowing to within the 2%-4% tolerance range in the summer.

Money-market traders boosted bets for a rate increase and now expect an almost 20 basis-point hike via the central bank’s most-influential one-week deposit rate in the next three months. The yield on the benchmark 10-year government bond rose and the forint weakened 0.2% to 358.6 per euro, still far from the 370 level strategists have cited as a potential trigger for monetary intervention.

“The Hungarian central bank has room to wait with rate hikes because of the relatively low core inflation level,” said David Nemeth, a Budapest-economist at KBC Group NV.

That calculus may change though, as the government plans to expand a fiscal stimulus program through 2022, an election year, which has sparked central bank concerns that it may drive price growth higher. Government spending will be a “major obstacle” for the central bank, according to Raiffeisen Bank economist Zoltan Torok.

“If market players look at the short-run, there are reasons not to be worried, however, the longer-term outlook is less reassuring,” he said in a report.

©2021 Bloomberg L.P.

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