How to prevent a financial crisis in Hungary that would lead to serious financial contagion in Emerging Europe
I recently spent a few days visiting Hungary, a country that is now at the center of financial pressures in emerging markets. In recent weeks the stock market has sharply fallen, interest rates have increased, the currency has weakened and financial institutions have suffered of shortages of liquidity. A fully fledged currency and financial crisis can still be avoided with appropriate and coherent policy actions but the financial pressures have intensified in the last week.
The macro, financial and policy weaknesses of Hungary – in many ways similar to those of many other countries in the Emerging Europe region – are not new; here at RGE we covered them as early as June 2006 in two analyses about vulnerabilities in Hungary and in Emerging Europe. But the global financial crisis has been the external trigger that has led now to a liquidity and credit crunch, the risk of a sudden stop and of a reversal of capital inflows.
The vulnerabilities of the economy include a large current account deficit, a still excessive fiscal deficit, a partially overvalued currency, serious maturity and currency mismatches in the financial system, the household sector and the corporate sector, low stock of foreign reserve and high level of short term foreign currency debt that is at risk of a roll-off. Mary Stokes, RGE’s analyst on Emerging Europe, has recently well analyzed and summarized these vulnerabilities:
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