Rating action

Scope Ratings GmbH (Scope) has today affirmed Hungary’s long-term local- and foreign-currency issuer and senior unsecured debt ratings at BBB. Scope has furthermore affirmed the short-term issuer ratings at S-2 in local and foreign currency. All Outlooks remain Stable.

Summary and Outlook

Hungary's credit ratings are supported by: i) a strong track record of robust growth, bolstered by substantial foreign investments and significant EU funding, fostering high-value job creation and enhancing Hungary's competitiveness; and ii) the robust structure of its external and public liabilities and an improved external position, enhancing the country’s resilience to external shocks.

Hungary's credit ratings face constraints due to: i) an elevated public debt burden with heightened borrowing costs; and ii) weak governance metrics, limited policy predictability and lingering uncertainty regarding the inflow of substantial EU funds.

The Stable Outlook reflects Scope’s view that risks to the ratings are balanced over the next 12 to 18 months.

The rating/Outlook could be downgraded if, individually or collectively: i) Hungary’s GDP growth prospects and/or external metrics worsened materially, for example, due to significant cuts in the disbursement of EU funds and/or notably constrained energy supplies or supply chain disruptions; ii) the fiscal outlook deteriorated, for example, due to elevated fiscal deficits; and/or iii) governance and/or political risks increased affecting the quality and predictability of policymaking.

Conversely, the rating/Outlook could be upgraded if, individually or collectively: i) medium-term growth prospects improved, supported by strengthened external metrics; ii) public finances improved, resulting in a significant reduction in public debt over the medium term; and/or iii) governance and/or political risks eased, improving the quality and predictability of policymaking.

For the updated report accompanying this review, click here.

Rating rationale

Hungary's ratings are underpinned by a strong track record of high economic growth, primarily driven by foreign investment and EU funding. Pre-pandemic, the nation sustained an average annual output growth of 4.1% from 2015 to 2019, attributed to heightened investment and structural enhancements. Despite Hungary’s vulnerability due to its reliance on energy-intensive businesses with complex value chains and Scope’s expectations of subdued economic activity among Hungary's main trading partners, the offsetting impact of major capacity-expanding foreign direct investment is projected to sustain growth.

After contracting by an estimated 0.6% last year, Scope expects real output will recover robustly, with forecasted real growth rates of 2.4% this year and 3.1% in 2025. The recovery will be supported by improvement in real income as inflation recedes. Following three consecutive quarters of contraction between Q2 2022 and Q1 2023, amid weak private demand and lower exports, the economic momentum improved over the course of 2023, with quarterly growth reaching 0.9% in Q3 2023. The prospect of receiving Cohesion Funds for the 2021-2027 period enhances macroeconomic stability.

Recent months have seen a rapid decline in inflation, decreasing to 5.5% year-on-year in December, marking a significant decline from its peak at 25.7% in January 2023. The swift reduction in inflation has enabled the Magyar Nemzeti Bank (MNB) to implement interest rate cuts; however, the effectiveness of interest rate transmission remains hindered by factors such as the availability of subsidised credit and caps on mortgage rates, and the large footprint of the state in Hungary's economy. The MNB reduced the central bank base rate by a cumulative 225 basis points from September to December 2023, bringing the rate down to 10.75% in December.

Hungary's long-term growth, which Scope estimates at around 3.5%, is sustained by significant foreign investment in the automotive sector, fostering the emerging electric vehicle industry and supporting broader environmental goals. Substantial foreign investments in battery production are expected to attract more investment, enhance job creation, technological advancement, and bolster exports. However, a declining working-age population and a tight labour market present growth challenges.

Hungary's BBB credit ratings are further bolstered by the robust structure of external and public liabilities and an improved external position, enhancing the country's resilience to external shocks.

The current account is estimated to shift from an 8.0% deficit of GDP in 2022 to a 1.3% surplus in 2023, driven by reduced imports in energy and consumer goods, and increased exports. Scope expects a sustained, albeit more modest, current account surplus of 0.5-1.0% in 2024 and 2025, as the negative impact of increased household consumption is balanced by the positive contribution of higher exports facilitated by the development of new export infrastructure.

Most of Hungary’s external liabilities consist of foreign direct investment and equity rather than debt, thereby mitigating risks associated with the country's external debt burden (88.0% of GDP in July 2023 compared to 94.7% in July 2022). The net international investment position improved from around -90% of GDP in 2013 to -47% of GDP in Q3 2023. This structural trend was driven by private-sector deleveraging, a rise in Hungarian companies' assets abroad, and sustained current account surpluses. Adequate international reserves also contribute to enhance external resilience.

Finally, Hungary's public debt profile also supports external resilience due to its emphasis on domestic financing. This is reflected by substantial ownership of government debt by domestic institutions (37% in 2023) and households (24% in 2023) through a robust domestic retail programme, thereby reducing dependency on external sources. In addition, the decline in foreign currency-denominated central government debt, from 33.5% in 2015 to 26.9% in 2023, continues to fall below the debt management agency's target of 30%. The average term to maturity for debt issuance in HUF was maintained at five years, while for debt denominated in foreign currency, it increased to 9.2 years in 2023.

Despite these credit strengths, Hungary’ long-term ratings see important credit challenges.

First, elevated public debt poses a weakness to the credit rating. After the debt-to-GDP ratio decreased to 70.2% in the previous year, Scope projects a very modest decline to 69.0% in 2024 and further to 68.0% in 2025. The declining trajectory is primarily driven by a strong nominal growth outlook, accompanied by rising interest payments and a gradual enhancement in the primary balance, which is expected to improve from an estimated -2.9% of GDP in 2023 to -0.7% in 2025.

A growing interest-payment burden due to higher domestic interest rates is exerting pressure on the budget deficit. Scope projects Hungary's net interest-payment burden to increase from 5.5% of government revenues in 2022 to 7.5% in 2024, reaching a peak of 7.8% of government revenues in 2025, or about 3.3% of GDP in 2024. This implies the need for Hungary to achieve a primary surplus in the medium-term to avoid an Excessive Deficit Procedure, following the reinstatement of the EU’s fiscal rules. However, the increase in interest expenditures, particularly directed towards payments to households and domestic institutions, has the potential to contribute positively to economic growth. Notably, recent reductions in domestic interbank yields and short-term government bond yields align with the interest rate cuts implemented by the MNB.

Hungary’s budget deficit for 2023 deviated from the government target. In October, the government revised the deficit upwards to 5.2% of GDP from 3.9%, due to shortfalls in VAT revenues given macroeconomic developments in 2023 and an increase in interest expenditures. Scope expects a budget deficit of 5.7% in 2023, projecting a gradual reduction to 4.5% in 2024 and further gradual improvement to 3.6% in 2025. Although Scope expects fiscal consolidation to spread over a more extended period, it will support a gradually declining trajectory of the debt-to-GDP ratio in the medium term.

In 2024, existing taxes targeting extra profits from 2022 and 2023 will be maintained, contributing positively to tax revenue. An increase in excise duties on fuels, in line with the EU minimum level, and the social contribution tax on interest incomes will also bolster revenue. Scope expects the global minimum tax to have a significant impact from 2026, following an initial 18-month grace period. Still, the elevated deficits in 2023 and 2024 will prevent a significant reduction of Hungary’s debt trajectory at a time when nominal growth is high, constraining the upside potential of the credit rating.

Second, Hungary's credit ratings are further constrained by weak governance metrics, limited policy predictability and lingering uncertainty regarding the inflow of substantial EU funds.

Hungary has addressed some issues impeding the inflow of substantial EU funds. Given the European Commission's acceptance of the fulfillment of conditions related to the judicial reform by the end of last year, Hungary can begin the drawdown of EUR 10.2bn in 2021-2027 cohesion funds. The exact timing however and the extent to which these funds will be disbursed over coming years, are uncertain at this point. Still, following approvals from both the European Commission and ECOFIN for Hungary's Recovery and Resilience Plan's REPowerEU chapter, the country has received pre-financing of EUR 920m in two installments in January 2024. EU payments to Hungary from the Cohesion Policy Funds for 2021-2027 amount to 5% in January, higher than its peer countries.

To access the remaining recovery and cohesion funds (around EUR 21bn), Hungary must fully implement 27 ‘super milestones’ set by the Commission. Scope expects that the EU funds allocated to Hungary in the 2021-2027 Multiannual Financial Framework and the Recovery and Resilience Facility (RRF) will be maintained at current levels. However, the disbursement process is expected to be prolonged, with the timing and utilisation of these funds influencing government indebtedness, budget balance and economic growth in Hungary. Significant delays in the disbursement of EU funds would thus be credit negative.

Finally, Hungary's deviation from EU sanctions on Russia and high dependence on Russian gas introduce uncertainties. With 40% of energy consumption tied to Russian gas, Hungary stands out among its peers. This raises concerns about potential risks of supply cuts and their potential impact on industrial output. Despite a temporary reduction in immediate risks, Hungary's position on politically sensitive issues, including on energy and foreign policy as well as the ongoing war in Ukraine, may continue to complicate Hungary's relations with the EU. In addition, the frequent use of state-of-emergency measures, extended since 2020, may lead to less transparent, centralised decision-making, eroding the quality and predictability of policymaking.

Core variable scorecard (CVS) and qualitative scorecard (QS)

Scope’s core variable scorecard (CVS), which is based on the relative rankings of key sovereign credit fundamentals, provides an indicative rating of ‘bbb’ for Hungary. This indicative rating can be adjusted by the qualitative scorecard (QS) by up to three notches depending on the size of relative qualitative credit strengths or weaknesses against a peer group of countries.

For Hungary, the following relative credit strength has been identified: i) external debt structure. Relative credit weaknesses are: i) vulnerability to short-term shocks; and ii) governance factors.

Combined relative credit strengths and weaknesses generate no adjustment via the QS and signal a ‘BBB’ sovereign rating for Hungary.

A rating committee has discussed and confirmed these results.

Factoring of environment, social and governance (ESG)

Scope explicitly factors in ESG sustainability issues during its ratings process via the sovereign methodology’s standalone ESG sovereign risk pillar, with a significant 25% weighting under the quantitative model (CVS).

In terms of environmental factors, Hungary has a high CVS score due to low natural disaster risk and a surplus in biocapacity. The country faces transition risks due to the transformation of its coal region and energy-intensive industries, with electricity consumption expected to rise. Hungary relies on Russian fossil fuel imports, posing a significant exposure to energy supply shortages amid uncertainty surrounding the Ukraine conflict.

Concerning social factors, Hungary scores low on its old-age dependency ratio. Despite improvements in the labour market, employment gaps persist. Housing inadequacy and a shortage of affordable rental housing hinder social mobility. Educational outcomes are below the EU average, and adverse demographic trends pose challenges to long-term growth prospects.

On governance factors, Hungary scores poorly relative to peers in Scope's CVS per the World Bank’s governance indicators and in addition receives a 'weak' QS adjustment. Hungary's ranking in Transparency International's Corruption Perceptions Index is the lowest among EU members, reflecting governance issues related to the rule of law and judicial independence. These factors have also resulted in the delay in the disbursement of certain EU funds. In addition, the recurring deployment of state-of-emergency measures, extended since 2020, has the potential to result in more centralized and less transparent decision-making, undermining the quality and predictability of policymaking.

Rating Committee
The main points discussed by the rating committee were: i) public finances including budget performance and outlook; ii) growth and inflation prospects; iii) external environment, financial stability and macroeconomic sustainability; iv) energy security and v) institutional developments. 

Methodology
The methodology used for these Credit Ratings and/or Outlooks, (Sovereign Rating Methodology, 27 September 2023), is available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
The model used for these Credit Ratings and/or Outlooks is (Core Variable Scorecard Version 2.1), available in Scope Ratings’ list of models, published under https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://scoperatings.com/governance-and-policies/regulatory/eu-regulation. Also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
The Outlook indicates the most likely direction of the Credit Ratings if the Credit Ratings were to change within the next 12 to 18 months. 

Solicitation, key sources and quality of information
The Credit Ratings were not requested by the Rated Entity or its Related Third Parties. The Credit Rating process was conducted:
With Rated Entity or Related Third Party participation   NO
With access to internal documents                                NO
With access to management                                         NO
The following substantially material sources of information were used to prepare the Credit Ratings: public domain.
Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting these Credit Ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Ratings and/or Outlooks and the principal grounds on which the Credit Ratings and/or Outlooks are based. Following that review, the Credit Ratings and/or Outlooks were not amended before being issued.

Regulatory disclosures
These Credit Ratings and/or Outlooks are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and/or Outlooks are UK-endorsed.
Lead analyst: Jakob Suwalski, Senior Director
Person responsible for approval of the Credit Ratings: Alvise Lennkh-Yunus, Managing Director
The Credit Ratings/Outlooks were first released by Scope Ratings in January 2003. The Credit Ratings/Outlooks were last updated on 24 February 2023.

Potential conflicts
See www.scoperatings.com under Governance & Policies/Regulatory for a list of potential conflicts of interest disclosures related to the issuance of Credit Ratings.

Conditions of use / exclusion of liability
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