Orban's Hungary stares into the abyss

(BUDAPEST) - Investors are ringing the alarm bells over Hungary, sending the EU member's currency to record lows and borrowing costs soaring to leave ordinary Hungarians facing a bleak new year.

Prime Minister Viktor Orban meanwhile is refusing to do the one thing that could relieve some pressure -- alter a new central bank law that is holding up financial assistance from the International Monetary Fund and European Union.

Orban's Fidesz has a two-thirds majority in parliament and the changes are part of a raft of legislation rubber-stamped by MPs in December that the prime minister's growing army of detractors at home and abroad say undermine democracy.

Other laws, part of a new constitution, increase government control over the judiciary, alter the electoral system in Fidesz's favour and curb media freedom, they say. Tens of thousands of people demonstrated in Budapest last Monday.

But unlike in these areas, it is with the central bank legislation that the European Union is best able to exercise leverage on Orban.

Members of the government "know that there is no other alternative to financing the country than the IMF bailout," Erste Bank analyst Zoltan Arokszallasi told AFP.

The European Commission says that the legislation risks undermining the independence of the central bank, a feature enshrined in EU law and considered vital not just for former communist Hungary but for the whole bloc.

"If one (central bank) is perceived as not being fully independent this would create a problem for the whole EU," the EU executive's spokesman Olivier Bailly said in Brussels last week.

But Orban, who won a second term in mid-2010 after eight years in opposition, sees things differently.

"We have adopted 13 and a half of 15 recommendations by the European Central Bank, which could easily be a European record, and we continue to be cooperative," he said defiantly on Friday.

"The central bank act itself declared the independence of the institution."

Either way, investors are spooked.

Last week Hungary's currency, the forint, which in the last quarter of 2011 slumped 20 percent against the euro, fell to a new record low of 324 against the single currency on Thursday.

The cost of insuring against default has hit new highs, the yield on 10-year bonds went over 10 percent -- when anything over 6.0 percent is unsustainable for long -- and Hungary last week experienced another difficult bond auction.

"Right now, financing our debt is possible. But such rates are unsustainable," said renowned Hungarian economist and former finance minister Laszlo Bekesi.

"Without a deal with the IMF, we will have to offer even higher yields, nobody will want (the bonds) because no one will believe we can pay them back."

On Friday, Fitch joined the other two main credit rating agencies, Standard & Poor's and Moody's, in downgrading Hungary's debt to "junk" status.

Fitch said Hungary's future prospects had worsened due to "unorthodox economic policies which are undermining investor confidence and complicating the agreement of a new IMF/EU deal."

These policies include taxes on certain industries and a scheme to help homeowners with foreign currency mortgages that has cost banks, many of them foreign-owned, 540 million euros, figures showed last week.

The effect of this, in turn, is expected to be weak growth this year, with some economists expecting a recession -- especially if a deal with the IMF takes much longer to agree.