IMF Survey : Lack of Growth Hampers Hungary’s Economy

March 29, 2013

  • Government should improve policies to support investment, growth
  • Banking system stable, lack of credit undercuts recovery
  • High external and public debt, low growth leave country vulnerable to shifts in markets

Hungary managed to navigate a challenging financial year and maintained economic stability in 2012, but the economy slipped into its second recession in four years and GDP declined by 1.7 percent.

Shopping in the Nagycsarnok Market, Budapest, Hungary: government policies have attempted to cushion the impact of the crisis on households (photo: Richard Nebesky/Corbis)

Shopping in the Nagycsarnok Market, Budapest, Hungary: government policies have attempted to cushion the impact of the crisis on households (photo: Richard Nebesky/Corbis)


In its latest annual check-up of the Hungarian economy, the International Monetary Fund said it expects real GDP to remain broadly flat in 2013 due to weak domestic demand moderated by net exports which remain the only source of growth.

In the medium term, the IMF cautions that weak business environment, poor investment climate, and low labor participation are likely to keep growth subdued.

“Hungary has been plagued by low growth and high debt for much of the last decade,” said Thanos Arvanitis, an Assistant Director in the IMF’s European Department and mission chief for Hungary. “Weak growth in recent years has been due to an adverse external environment, structural factors, such as the ongoing balance sheet adjustment in the economy, and policy missteps by the government. Hungary needs a different mix of policies to jump start growth and increase employment.”

Government policies have attempted to cushion the impact of the global crisis on households and rein in fiscal deficits and boost employment. However, the state has also increased its interference in the economy through frequent and unpredictable policy changes. Together with a weakening of domestic institutions, this has hurt the investment climate.

Investment in the country has dropped to a 10 year low. A more business friendly set of policies is key to revive the economy, according to the IMF. Higher growth would also help with the orderly reduction of public debt.

Hungary's high level of government debt, close to 80 percent of GDP, and its corresponding large financing needs make the country vulnerable to financial market volatility.

Fiscal policy must refocus on quality

The government’s commitment to keep deficits below 3 percent of GDP is welcome, but recent fiscal consolidation has relied excessively on controversial tax measures. Rebalancing the adjustment toward durable spending consolidation, while better protecting low income groups, will open the way to rationalize the tax system. This will improve investment, employment, and growth prospects, according to the IMF.

The IMF suggested the following measures to improve fiscal policy:

• Reduce the cost of central government bureaucracy and rationalize spending at the local government level

• Restructure loss making state-owned transport enterprises

• Better target social benefits to vulnerable groups

• Gradually eliminate sectoral taxes and streamline the corporate tax regime

• Increase incentives to work through personal income tax reform

• Reduce tax expenditures and adopt more comprehensive approach to tackle Value Added Tax fraud.

Banks hold steady but conditions for financial intermediation should be improved

Banks have been under pressure from the weak economy and rising non performing loans, and a heavy tax burden. Banks have tightened lending standards and are less willing to expand lending in the corporate sector, particularly to small and medium-sized enterprises. Domestic deleveraging has accelerated beyond the pace seen in most countries in the region. Unless the operational environment for banks improves, lending will continue to suffer, putting a lid on growth.

Monetary policy: exercise caution

After a number of cuts in the central bank’s interest rate, the IMF said Hungary should pause for now. Policy rate cuts cannot substitute for other policies to jump-start growth, particularly given the impaired credit channel. Further monetary easing would be supported by a sustained moderation of inflationary pressures, stronger policies, and lower risk premia. In this regard, ensuring the legal and operational independence of the central bank would be of paramount importance for the credibility of the inflation targeting regime, the IMF said.

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