At its today's rate setting meeting, the monetary council cut the base rate by 50bp, to 7.50%. The decision did not come as a surprise, as it was in line with both our expectation and the market consensus. According to statement of the council, the economic growth is expected to resume in the middle of 2010. The medium-term inflation outlook is seen as favorable. The statement mentioned that due to weak demand, companies were not able to pass the higher VAT on to consumers totally. They warned however that the upward shocks to inflation (due to tax changes) could lead to an increase in inflationary expectations. The ongoing improvement in the economic balance situation has again been mentioned. As for the global market environment, global risk appetite has increased further which has supported domestic markets. The forint exchange rate has fluctuated in a lower range and the risk premium on Hungarian sovereign debt returned to levels seen before the failure of Lehman Brothers. The council added however that the fragility of international capital market conditions gives reasons for cautiousness.

Compared to the previous month, a new element of the statement was a paragraph on wage formation. According to the council, wages have grown at high rates in recent months relative to the performance of the economy. Wage moderation may help improve the profitability of the corporate sector, thus it may contribute to maintenance of employment and generate a faster economic recovery.

At the press conference, Governor Simor said that the council discussed 75bp and 50bp reductions in the base rate. The final decision (50bp cut) had an overwhelming majority. The importance of moderate, disciplined wage deal in the private sector for 2010 has also been emphasized at the press conference. As for the future rate path, governor Simor said that they will decide on rates month by month and will reduce rates if inflation outlook and risk assessment allow this. It practically means that future's rate reductions will remain basically dependent on the international market environment and changes in global risk appetite. We maintain our 7% prediction for the year-end base rate, with risks rather on the downside.