The IMF and EU suspended on Saturday a review of Hungary's funding program, set up in 2008 to save the country from financial meltdown, saying it must take tough action to meet targets for cutting its budget deficit.
Suspension of talks means Hungary will not have access to remaining funds in its $25.1 billion loan package, created by the International Monetary Fund and European Union and which it now uses as financial safety net, until the review is concluded.
Negotiations with the lenders had been expected to finish early next week. Analysts said the forint currency could fall sharply when financial markets reopen on Monday due to uncertainty over the international safety net for Hungary, which has financed itself from the markets since last year.
In an environment of heightened market scrutiny of government deficits and debt levels, the fiscal deficit targets previously announced -- 3.8 percent of GDP in 2010 and below 3 percent of GDP in 2011 -- remain an appropriate anchor for the necessary consolidation process and debt sustainability, and should be adhered to, but additional measures will need to be taken to achieve these objectives, the IMF said.
Sustainable consolidation will require durable, non-distortive measures, which the authorities need more time to develop, it said in a statement.
HITTING WHERE IT HURTS MOST
Hungary's new center-right government, which swept to power in April elections, has said it wanted to extend its current financing deal with lenders until the end of 2010 and seek a precautionary deal for 2011 and 2012.
The IMF also said that while there was much common ground with the Hungarian government, several issues remain open.
The EU issued a separate statement saying the conclusion of the review had to be postponed and further talks should be held at a later stage.
Hungary has returned to a positive economic growth path and now has one of the lowest budget deficits in the EU. I welcome the authorities' commitment to the 2010 deficit target, said Olli Rehn, Commissioner for Economic and Monetary Affairs.
However, the correction of the excessive deficit by next year will require tough decisions, notably on spending.
Hungary needs the IMF/EU safety net to keep the trust of investors from whom it borrows. But the country remains vulnerable due to its high public debt, which is equal to 80 percent of GDP, and its strong reliance on foreign financing.
If we do not have the safety net of international lenders, that hits us where it hurts most, said MKB Bank analyst Zsolt Kondrat.
One would definitely expect a weakening forint on Monday. A 10-forint weakening (versus the euro) is quite plausible, and nobody knows how nervous the market's reaction might be.
The forint traded at around 282 to the euro on Friday.
Neighbouring Romania had to take tough steps last month to secure the release of its IMF aid and reassure investors.
(Reporting by Krisztina Than/Marton Dunai; editing by David Stamp)