## HUNGARY: STAFF REPORT FOR THE 2021 ARTICLE IV CONSULTATION (1hunea2021001) ## Source details **Canonical URL:** [HUNGARY: STAFF REPORT FOR THE 2021 ARTICLE IV CONSULTATION (1hunea2021001)](https://www.imf.org/-/media/files/publications/cr/2021/english/1hunea2021001.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2021/english/1hunea2021001.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2021/english/1hunea2021001.pdf.json) --- ### COVID-19 shock and immediate policy response - Pre-pandemic: growth above 4 percent on average during 2015–19; unemployment close to 3 percent; inflation broadly within tolerance band; external position stronger than warranted; financial sector sound. - Pandemic trajectory and health response: - First and second waves relatively mild; third wave severe with closures in March 2021. - By end-April 2021, Hungary had the highest reported number of Covid-related deaths-per-population ratio. - Vaccination: besides EU-procured vaccines, four other vaccines authorized (seven vaccines available); by end-May, close to half of the adult population had received at least one dose. - Economic impact in 2020: - Real GDP declined by close to 5 percent for the year. - Average inflation was 3.3 percent in 2020; core inflation was 4.1 percent (old definition), just above the central bank (MNB)’s tolerance band. - Unemployment rose modestly to 4.1 percent. - Tourism flows dropped sharply; exports declined; lower imports and reduced profit remittances helped keep the current account broadly balanced. - Policy response: - Fiscal deficit increased to 8.1 percent of GDP in 2020; public debt rose above 80 percent of GDP. - Government estimates overall fiscal response size: 12 percent of GDP (includes almost 4 percent from reshuffled budget allocations); staff estimates net fiscal impact of new measures at about 5 percent of GDP. - Two funds mobilized resources: Anti-epidemic Fund and Economic Protection Fund (incorporated the National Employment Fund). - MNB actions: ample liquidity, temporary easing and deferment of some capital requirements, expanded APP, FX liquidity swaps, enhanced lending facility, increased limits for large companies and SMEs. ### Near-term outlook and key projections - 2021 projections and drivers: - Growth projected around 6 percent in 2021 (staff expects about 6 percent in 2021), driven by net exports, recovering consumption supported by fiscal outlays, fast-growing private wages, and accumulated households’ savings. - Headline inflation projected to temporarily increase in short run before returning toward 3½ percent (staff also notes return toward 4 percent by year end in some sections). - Unemployment expected to gradually return close to pre-crisis levels. - Significant uncertainty; setbacks may warrant additional support. - Short-run inflation and labor market notes: - Headline inflation reached 5.1 percent in April 2021; core inflation at 3.1 percent in April 2021. - Published after mission: real GDP significantly exceeded expectations with 2 percent growth (q/q, s.a.) as industry and construction rebounded strongly. ### Fiscal policy assessment and recommendations - Fiscal outcomes (selected): - ESA fiscal deficit (accrual) increased to 8.1 percent of GDP in 2020 (target was -1 percent of GDP in initial 2020 budget). - Public debt rose by 15 percent of GDP to 80 percent of GDP in 2020. - Government issued €6.5 billion in external bonds in 2020 (around €1.7 billion were green bonds); FX borrowing increased to about 20 percent of total debt. - Short-run guidance: - Maintain flexibility in fiscal targets; regularly reassess budget composition given high uncertainty. - If growth outperforms budget projections (budget projection of 4.3 percent for 2021), save tax windfall and consider under-executing the budget to rebuild buffers and keep inflationary pressures in check. - If recovery falters, provide additional support for households and firms. - Continue lengthening public debt maturity and keep the share of FX-denominated debt relatively low. - Measures to minimize scarring: - Continued, well-targeted support to viable firms, especially SMEs. - Strengthen social safety nets and invest in infrastructure and human capital. - Move from blanket measures (e.g., tax holidays, loan moratorium) to targeted incentives (temporary investment tax credits, hiring incentives) and favorable financing for viable SMEs. - Consider further extension of broader wage support schemes if recovery falters. - Fiscal consolidation and efficiency: - Rebuild fiscal space by enhancing revenue and lowering current spending, including rationalizing public employment to reduce the public wage bill as a share of GDP. - Improve tax collection and reduce exemptions and preferential regimes; reconsider reintroduction of a temporary low preferential VAT rate on new home purchases. - Increase labor market participation of youth under 25 through targeted measures rather than a blanket income tax exemption. - Transparency and governance: - Transparency in the use of public funds is crucial; staff advised publication of all COVID-related procurement contracts, including beneficial ownership. - Participation in the Fund’s Public Investment Management Assessment could strengthen public investment efficiency. ### Public debt, gross financing needs (GFNs), and DSA findings - Key DSA baseline projections and assumptions: - Baseline projects public debt-to-GDP to decline from 80.4 percent in 2020 to 69 percent by 2026. - Baseline assumes real GDP growth of 6.2 percent in 2021 and 4.9 percent in 2022, GDP deflator reaching 4 percent in 2022 then converging to 3 percent, and primary balance improving from -5.8 percent in 2020 to 1.3 percent of GDP by 2026. - Cumulative contribution of the primary balance to debt path between 2021 and 2026: about +11 percentage points. - Cumulative contribution of the interest rate-growth differential between 2021 and 2026: -19 percentage points. - Gross financing needs forecast to drop from 25 percent of GDP in 2021 to 13 percent over the projection horizon. - Stress-test scenarios (selected outcomes): - Growth shock (one standard deviation decline): debt reaches 80 percent of GDP (about 11 percent of GDP above baseline in 2026); GFNs about 15 percent of GDP (about 2 percent above baseline). - Macro-fiscal shock (simultaneous shocks): debt-to-GDP reaches 90 percent at end of horizon; financing needs reach 19 percent of GDP. - Contingent liabilities shock (10 percent of financial sector assets): debt-to-GDP reaches 85 percent; financing needs reach 19 percent of GDP. - Unrealistic persistent-support scenario (primary deficit of 5.8 percent continued): public debt would reach 88 percent of GDP in five years; GFNs at 21 percent of GDP. - Risk assessment and mitigants: - Symmetric fan chart width estimated at around 20 percent of GDP. - External financing needs at the upper risk-assessment benchmark; public debt in foreign currency and debt held by non-residents have declined and are within benchmarks. - Mitigants include legal fiscal rules (SGP and national rules), dominant domestic investor base, and a cash cushion from €2 billion of external bond proceeds used to pre-finance 2021 budget. ### Monetary policy, MNB operational response, and APP - MNB liquidity and operational measures: - FX liquidity swaps and repo agreements established with ECB (€4 billion), BIS (€2 billion), Federal Reserve (US$1–2 billion); swap with People’s Bank of China (about €2.5 billion) already in place. - MNB increased limits under funding facilities, introduced collateralized long-term loans, broadened eligible collateral by almost 5.5 percent of GDP, reactivated Mortgage Bond Purchase Program, and used Funding for Growth and Bond Funding for Growth schemes. - Blanket payment moratorium (opt-out) since March 2020 benefited almost 1.6 million retail and 50 thousand corporate debtors. - Asset Purchase Program (APP): - Announced April 7; asset purchases began May 4. - From early May 2020 to early May 2021, purchases amounted to about 3.9 percent of GDP (mostly weekly tenders: 2.5 percent of GDP; rest bilateral trades). - In late summer 2020 scope extended to government-guaranteed bonds; envelope doubled; by April 2021 envelope increased to about 5.8 percent of GDP. - APP purchases aimed to mitigate market dysfunction and lower long-term interest rates; purchases conducted only in the secondary market and in longer maturities (staff noted corporate securities purchases should ideally be in secondary market). - Event studies suggest announcement and initial purchases lowered long-term yields; lasting impact uncertain. - Monetary policy guidance: - Monetary policy should be data-driven; some overshooting of the inflation band due to temporary shocks is acceptable. - At this stage, no more than a modest tightening will be necessary as long as inflation expectations remain well-anchored; conversely, easing may be needed if recovery falters. - Staff recommended MNB review the effectiveness and necessity of unconventional tools and consider tapering the still-growing APP as conditions normalize. ### Financial sector resilience, prudential guidance, and borrower relief - Banking sector buffers: - Banks’ capital positions strong; MNB assessed resilience to severe shocks. - MNB allowed temporary easing and deferment of some capital requirements in line with EBA guidance. - MNB stress tests indicate banking sector can withstand expected rise in NPLs as support measures wind down. - Aggregate buffers comfortable but unevenly distributed; continued supervisory vigilance warranted. - Borrower relief and credit dynamics: - Blanket payment moratorium benefiting almost 1.6 million retail and 50 thousand corporate debtors; credit to non-financial corporations and households continued to grow rapidly. - MNB adjusted microprudential measures (classification of restructured loans) and macroprudential ratios; temporary tightening of external funding prudential requirements early in crisis subsequently reversed. - AML/CFT: - Recent measures to strengthen anti-money laundering framework are welcome; staff noted amendments mandating creation of databases on beneficial owners and banking accounts; recommended continuation of AML/CFT improvements to meet Moneyval recommendations. ### External sector assessment and external balance analysis - 2020 external outcomes: - Current account remained broadly balanced in 2020. - Export volumes declined by about 7 precent; imports declined by about 4 percent. - Primary income fell by more than 1 percent of GDP due to reduced profit remittances. - NIIP improved to about -45.8 percent of GDP in 2020 from -49.3 percent in 2019. - International reserves increased by €5 billion to almost €34 billion by year end; reserves remain above Fund reserve adequacy metric and reserve coverage of short-term debt improved. - REER depreciated by 4.8 percent over 2019–20. - External Balance Assessment (EBA) model results (range of REER valuation estimates): - CA approach: exchange rate undervaluation of about 10 percent (using elasticity 0.38) and model current account gap 2.5 percent of GDP (2020) corresponding to a 6.6 percent undervaluation, of which 2.1 percentage points attributed to identified policies. - ES approach: exchange rate undervalued by about 6 percent. - Two EBA REER approaches: real exchange rate overvalued in range of 1-9 percent with a large residual (~15 percent) unexplained by policy variables. - Staff highlights significant uncertainty due to model limitations and large revisions to balance of payments data (errors and omissions: 1.3 percent of GDP in 2019; -1.9 percent in 2020 preliminary data). - Policy implication: - Structural reforms to encourage more investment (with attendant imports of investment goods) would help move external position closer to medium-term fundamentals; dominance of industrial exports from FDI may offset import increases and profit repatriation, keeping current account in small surpluses over medium term. ### Structural reform priorities, greening, and use of EU funds - Structural reform and labor market: - Support orderly corporate restructuring (revisions to bankruptcy framework, Act LXXIII of 2020); transposition of 2019 EU Directive on Preventive Restructuring Frameworks planned for 2022. - Strengthen safety nets, unemployment benefits, and increase investment in healthcare and life-long (re)training (spending below EU average; low training rates for 25-64 age group). - Increase youth labor market participation via targeted active labor market policies, training, and hiring subsidies rather than blanket PIT exemption. - Greening the economy: - Hungary aims for climate neutrality by 2050 relying on renewable and nuclear energy, recycling, and energy conservation. - Staff recommends higher carbon pricing to foster energy efficiency and innovation and to generate revenue for green investment and compensation to vulnerable users. - Given evolving EU framework, staff prefers incentivizing green investment through transparent fiscal subsidies (applying equally to self- and credit-financed investment) rather than prudential measures. - MNB initiative to lower Pillar 2 capital charge for green bank lending is well-intended; no surcharges currently in place for climate/transition risks. - EU Recovery and Resilience Funds (RRF): - Hungary expected to receive about €7.2 billion (5 percent of 2021 GDP) in grants over 2021–27 and is eligible for €10 billion (6.5 percent of 2021 GDP) in loans (not planning to utilize loans thus far); timing of EU fund delivery is uncertain. - Timely, transparent implementation of RRF and reform package important for levelling playing field for SMEs and improving governance and transparency. ### Key statistics and selected indicators (as reported; selected entries) - Real GDP growth (%): 2018: 5.4; 2019: 4.6; 2020: -4.9; 2021: 6.2 - Unemployment rate (average, %): 2018: 3.7; 2019: 3.5; 2020: 4.1; 2021: 4.1 - Inflation (average, %): 2018: 2.8; 2019: 3.4; 2020: 3.3; 2021: 4.1 - General government finances (% of GDP): - Revenue: 2018: 43.8; 2019: 43.6; 2020: 43.5; 2021: 42.6 - Expenditure: 2018: 45.9; 2019: 45.7; 2020: 51.6; 2021: 49.8 - Fiscal balance: 2018: -2.1; 2019: -2.1; 2020: -8.1; 2021: -7.1 - Primary structural balance (percent of potential GDP): 2018: -0.7; 2019: -1.1; 2020: -5.0; 2021: -5.1 - Public debt: 2018: 69.1; 2019: 65.5; 2020: 80.4; 2021: 78.3 - Gross financing need: 2018: 21.1; 2019: 23.5; 2020: 25.3; 2021: 20.5 - Money and credit (selected): - Broad money (percent change): 2018: 11.8; 2019: 8.1; 2020: 20.9; 2021 Est.: 12.7; 2022 Proj.: 10.2 - Credit to the private sector (flow based, % change): 2018: 10.6; 2019: 15.3; 2020: 11.8; 2021 Est.: 10.5; 2022 Proj.: 10.3 - External sector (selected): - Current account (% of GDP): 2018: 0.3; 2019: -0.5; 2020: 0.1; 2021: 0.5 - Reserves (percent of short-term debt at remaining maturity): 2018: 162.1; 2019: 163.6; 2020: 156.4; 2021: 152.6 - External debt (% of GDP): 2018: 78.9; 2019: 71.6; 2020: 78.6; 2021: 69.9 - Selected DSA baseline series (nominal gross public debt, percent of GDP): - 2019: 71.8; 2020: 65.5; 2021: 80.4; 2022: 78.3; 2023: 77.1; 2024: 75.5; 2025: 73.6; 2026: 71.6; 2026 (final cell shown): 69.0 - Public gross financing needs (percent of GDP, selected): - 2019: 19.6; 2020: 23.6; 2021: 24.9; 2022: 20.5; 2023: 18.3; 2024: 15.5; 2025: 15.8; 2026: 14.3; 2026 (final cell shown): 13.3 ### Risk Assessment Matrix — key risks and policy responses (selected) - Unexpected shifts in the COVID-19 pandemic (Likelihood: M; Impact: M) - Policy response: keep providing adequate health support; fully use available fiscal space; support households and businesses while encouraging reallocation. - Sharp rise in global risk premia (Likelihood: M; Impact: Medium) - Policy response: stand ready to implement further policy support; maintain flow of credit with targeted, effective financial policies. - Accelerating de-globalization (Likelihood: M; Impact: High) - Policy response: monetary and fiscal support; facilitate labor and capital reallocation through retraining and competitiveness reforms. - Faster implementation of competitiveness reforms (Likelihood: M; Impact: High) - Policy response: accelerate fiscal consolidation to reap benefits. ### Staff appraisal — summary conclusions - Authorities’ policy response was appropriately strong; fiscal response large and timely; MNB provided ample liquidity and adapted instruments effectively. - Monetary policy should remain data-driven to ensure inflation stays within target range; risks are mostly on the upside. - Prudential policies should mitigate immediate vulnerabilities with gradual withdrawal of support measures; aggregate buffers comfortable but unevenly distributed. - Structural reforms to support transformation: revise bankruptcy framework, strengthen social safety net, increase investment in human capital and healthcare, enhance life-long (re)training. - Greening: higher carbon pricing recommended; incentivize green investment via transparent fiscal subsidies given evolving EU framework. - Timely implementation of reforms, strengthened competition, governance and transparency, and judicious use of EU Recovery and Resilience Funds are key to a sustainable post-crisis path. *Source: IMF staff report for the 2021 Article IV consultation with Hungary (1hunea2021001).* ### 4.1 percent (old definition), just above the central bank (MNB)’s tolerance band. Partly owing ### HUNGARY: STAFF REPORT FOR THE 2021 ARTICLE IV CONSULTATION ### COVID-19 shock and immediate policy response - Pre-pandemic performance: growth above 4 percent on average during 2015–19; unemployment close to 3 percent; inflation broadly within its tolerance band; external position stronger than warranted; financial sector sound. - Pandemic trajectory: - First and second waves relatively mild; third wave severe with closures in March 2021. - By end-April 2021, Hungary had the highest reported number of Covid-related deaths-per-population ratio. - Vaccination pace accelerated; besides EU-procured vaccines, four other vaccines authorized (seven vaccines available); by end-May, close to half of the adult population had received at least one dose. - Economic impact in 2020: - Real GDP declined by close to 5 percent for the year. - Average inflation was 3.3 percent in 2020; core inflation was 4.1 percent (old definition), just above the central bank (MNB)’s tolerance band. - Unemployment rose modestly to 4.1 percent, remaining the lowest in the region. - Tourism flows dropped sharply, exports declined; lower imports and reduced profit remittances by large multinationals helped keep the current account broadly balanced in 2020. - Fiscal and policy measures: - Fiscal deficit increased to 8.1 percent of GDP in 2020 due to tax deferrals and increased spending. - Public debt rose above 80 percent of GDP. - The MNB provided ample liquidity and allowed temporary easing and deferment of some capital requirements; adapted monetary instruments and an expanding APP addressed market dysfunction. - Two newly created funds mobilized resources: - Anti-epidemic Fund: additional health-related spending, medical equipment, bonuses and wage increases for healthcare staff. - Economic Protection Fund: support to businesses and households, direct subsidies and targeted support to SMEs; incorporated the National Employment Fund. ### Outlook and near-term projections - 2021 projection and drivers: - Following first quarter outcome, growth is projected around 6 percent in 2021, driven by net exports as external demand improves, recovering consumption supported by fiscal outlays, still fast-growing private wages, and accumulated households’ savings. - Headline inflation is projected to temporarily increase in the short run before returning toward 3½ percent. - Unemployment is expected to gradually return close to pre-crisis levels. - Uncertainty remains significant; a setback in the recovery may warrant additional support. - Short-run inflation and labor market notes: - Headline inflation reached 5.1 percent in April 2021; core inflation at 3.1 percent in April 2021 was close to the MNB target. - Published after mission: real GDP significantly exceeded expectations with 2 percent growth (q/q, s.a.) as industry and construction rebounded strongly. ### Executive Board assessment and staff appraisal highlights - Overall appraisal: - Authorities’ policy response was appropriately strong; fiscal response large and timely. - MNB reacted swiftly to market pressures with ample liquidity and prudential adjustments. - Fiscal policy guidance: - Fiscal policy needs to flexibly balance support and medium-term sustainability. - With improved growth prospects, buffers can be rebuilt more rapidly by saving windfalls from higher revenues and, possibly, under-spending if less support is needed. - Conversely, be prepared to provide additional support if recovery falters. - Given high gross financing needs, debt management should aim at lengthening public debt maturity. - Transparency in the use of public funds is crucial. - Monetary policy guidance: - Monetary policy going forward should be data-driven to ensure inflation stays within the target range; risks are mostly on the upside. - Some overshooting of the inflation band due to temporary shocks is acceptable. - No more than a modest tightening will be necessary as long as inflation expectations remain well-anchored; conversely, easing may be needed if recovery falters. - As conditions normalize, MNB should review the effectiveness and necessity of unconventional tools and consider tapering its still-growing APP. - Prudential and supervisory guidance: - Prudential policies should focus on mitigating immediate vulnerabilities; withdrawal of support measures should be gradual. - Aggregate buffers of the banking system are comfortable but continued supervisory vigilance is warranted. - Recent measures to strengthen the anti-money laundering framework are welcome. ### Policy recommendations: minimizing scarring and enabling transformation - Near-term priorities: - Continued, well-targeted policy support to entrench the recovery; policies should remain flexible. - Targeted support to viable firms, especially SMEs, to minimize scarring. - Strengthen social safety nets and invest in infrastructure and human capital. - Fiscal consolidation and efficiency: - Rebuild fiscal space by enhancing revenue and lowering current spending, including rationalizing public employment to reduce the public wage bill as a share of GDP. - Improve tax collection and reduce exemptions and preferential regimes; reconsider the recent reintroduction of a temporary low preferential VAT rate on new home purchases. - Increasing labor market participation of youth under 25 should be achieved through targeted measures rather than a blanket income tax exemption. - Structural reforms and labor reallocation: - Support orderly corporate restructuring via proposed revisions to the bankruptcy framework. - Strengthen social safety nets, unemployment benefits, and increase investment in healthcare and life-long (re)training (spending in these categories is below the EU average). - Greening the economy: - Hungary aims to reach climate neutrality by 2050 relying on renewable and nuclear energy, recycling, and energy conservation. - Higher carbon pricing recommended to foster energy efficiency, innovation, and generate revenue for green investment and compensation to vulnerable users. - Given evolving EU framework, prefer incentivizing green investment through transparent fiscal subsidies (applying equally to self- and credit-financed investment) rather than prudential measures. - The EU Recovery and Resilience Funds can help leverage authorities’ efforts. - Governance and implementation: - Timely implementation of reforms within strengthened competition, governance and transparency frameworks is key to a more sustainable and resilient post-crisis path. ### Key statistics and selected economic indicators (as reported) - Real GDP growth (%): 2018: 5.4; 2019: 4.6; 2020: -4.9; 2021: 6.2 - Unemployment rate (average, %): 2018: 3.7; 2019: 3.5; 2020: 4.1; 2021: 4.1 - Inflation (average, %): 2018: 2.8; 2019: 3.4; 2020: 3.3; 2021: 4.1 - General government finances (% of GDP): - Revenue: 2018: 43.8; 2019: 43.6; 2020: 43.5; 2021: 42.6 - Expenditure: 2018: 45.9; 2019: 45.7; 2020: 51.6; 2021: 49.8 - Fiscal balance: 2018: -2.1; 2019: -2.1; 2020: -8.1; 2021: -7.1 - Primary structural balance (percent of potential GDP): 2018: -0.7; 2019: -1.1; 2020: -5.0; 2021: -5.1 - Public debt: 2018: 69.1; 2019: 65.5; 2020: 80.4; 2021: 78.3 - Gross financing need: 2018: 21.1; 2019: 23.5; 2020: 25.3; 2021: 20.5 - Money and credit: - Broad money (% change): 2018: 11.8; 2019: 8.1; 2020: 20.9; 2021: ... - Credit to the private sector (flow based, % change): 2018: 10.6; 2019: 15.3; 2020: 11.8; 2021: ... - Government bond yield (5-year, average, %): 2018: 2.2; 2019: 1.6; 2020: 1.5; 2021: ... - 5-year sovereign CDS (average in bps): 2018: 86.6; 2019: 80.4; 2020: 67.2; 2021: ... - External sector: - Current account (% of GDP): 2018: 0.3; 2019: -0.5; 2020: 0.1; 2021: 0.5 - Reserves (percent of short-term debt at remaining maturity): 2018: 162.1; 2019: 163.6; 2020: 156.4; 2021: 152.6 - External debt (% of GDP): 2018: 78.9; 2019: 71.6; 2020: 78.6; 2021: 69.9 - Exchange rate: - Exchange rate, HUF per euro, period average: 2018: 319.3; 2019: 325.2; 2020: 351.2; 2021: ... - REER (% change, "-" = appreciation): 2018: 1.8; 2019: 0.7; 2020: 4.8; 2021: ... *Source: IMF staff report for the 2021 Article IV consultation with Hungary.* ### 5. As a result, the fiscal deficit increased ### 5. As a result, the fiscal deficit increased ### Fiscal impact and deficit outcome - Government estimates the overall size of the fiscal response to the crisis was 12 percent of GDP. - The 12 percent of GDP estimate includes support that came from reshuffled budget allocations (almost 4 percent of GDP). - In December 2020, about 2 percent of GDP were transferred from the central budget to institutions in the broader public sector that did not use them in 2020; the funds remained with these institutions and are expected to be used in 2021. - Staff estimates the net fiscal impact of new measures at about 5 percent of GDP. - The ESA fiscal deficit (accrual) increased to 8.1 percent of GDP, compared to a target of -1 percent of GDP in the initial 2020 budget. ### Public debt, financing, and gross financing needs (GFNs) - Public debt rose by 15 percent of GDP to 80 percent of GDP in 2020. - The government issued €6.5 billion in external bonds in 2020, of which around €1.7 billion were green bonds. - FX borrowing increased to about 20 percent of total debt. - GFNs remained high, partly due to a previous debt strategy that reduced maturities. - Despite the increase in debt and the 2019 Article IV assessment that fiscal space was at risk, no adverse market reaction was triggered; staff is not revising that assessment given ample global and domestic liquidity. ### Monetary and liquidity response (MNB actions) - The MNB provided ample liquidity through FX liquidity swaps, an enhanced lending facility, and expansion of its asset purchase program (APP) including government, corporate and mortgage bonds, and adjustment of the policy rate. - It increased limits under funding facilities for large companies and SMEs. - To facilitate FX liquidity support and build a safety net, the MNB established repo agreements with: - the ECB (€4 billion), - the BIS (€2 billion), - the Federal Reserve (US$1–2 billion). - A swap agreement with the People’s Bank of China (about €2.5 billion) was already in place. - The MNB steered an increase in money market interest rates to react to initial pressures on the forint and adjusted support measures as conditions stabilized. ### Banking sector buffers and borrower relief - Banks’ capital positions were strong and assessed by the MNB to be resilient to even severe shocks. - The MNB allowed temporary easing and deferment of some capital requirements in line with EBA guidance. - A blanket payment moratorium (with an opt-out option) was in effect since March 2020, benefiting almost 1.6 million retail and 50 thousand corporate debtors. - The MNB adjusted microprudential measures (e.g., classification of restructured loans per EBA guidance) and macroprudential ratios (including a temporary tightening of external funding prudential requirements early in the crisis, subsequently reversed). - Credit to non-financial corporations and households continued to grow rapidly, in part due to the moratorium. ### External position and reserves - The 2020 external position is assessed as stronger than warranted by medium-term fundamentals and desirable policies. - Tourism flows dropped sharply and exports declined, offset by lower non-medical imports and profit repatriation by multinationals; the current account remained broadly balanced in 2020. - The forint reached historical lows without leading to a significant increase in vulnerabilities: - Most Hungarian banks hold net foreign assets. - Household debt is now mostly in local currency. - Most large corporations are naturally hedged. - International reserves increased partly due to Eurobond placements, and reserve adequacy improved. ### Outlook and risks - Staff expects growth to be about 6 percent in 2021, assuming vaccination keeps its current pace and significant disruptions in semiconductor supply do not reoccur. - Growth drivers: net exports as external demand improves and capacities increase; recovering consumption supported by fiscal outlays, still fast-growing private wages, and accumulated households’ savings. - Domestic private investment recovery may be protracted as businesses repair balance sheets, although new significant foreign investment projects (e.g., in electric vehicles) are expected to proceed as planned. - Uncertainty remains significant; recovery depends on global conditions and the race between the virus and vaccination domestically and globally. - Higher global risk aversion would increase financing costs, although domestic market opportunities may lower this risk. - A faster-than-expected pandemic control could boost investment and growth more rapidly than the baseline. - Hungary is expected to receive about €7.2 billion (5 percent of 2021 GDP) in grants from Next Generation EU funds over 2021–27 and is eligible for €10 billion (6.5 percent of 2021 GDP) in loans but thus far is not planning on utilizing them; timing of delivery of EU funds is a source of uncertainty. ### Policy discussions — Fiscal policy: support and medium-term consolidation - 2021–22 objectives: - Revised 2021 budget targets a 7½ percent of GDP deficit. - Authorities’ 2022 fiscal deficit target is 5.9 percent of GDP. - Staff recommendations and considerations: - Maintain flexibility in fiscal targets and regularly reassess budget composition given high uncertainty. - If growth outperforms budget projections (budget projection of 4.3 percent for 2021), save the tax windfall and consider under-executing the budget to rebuild buffers and keep inflationary pressures in check. - If recovery falters, provide additional support for households and firms. - Continue lengthening public debt maturity and keep the share of FX-denominated debt in total public debt relatively low. - Short-run measures to minimize scarring and support transformation: - Provide additional crisis support through greater spending on healthcare, family support, home-building program, tax relief, and more allocations to local governments. - Move from blanket support (e.g., tax rate holidays, loan moratorium) to more targeted measures such as temporary incentives to hiring or investing (e.g., temporary investment tax credits) and favorable financing conditions (e.g., grants to cover selected operational costs) for viable SMEs and micro firms. - Strengthen social safety nets, increase investment in human capital, and promote green investment. - Consider further extension of broader wage support schemes if the recovery falters. - Measures to create fiscal space over time: - Gradually reduce the public wage bill as a share of GDP by rationalizing public sector employment. - Improve tax collection, reduce exemptions and preferential regimes, and broaden the tax base. - Reconsider the reintroduction of a temporary low preferential VAT rate on new home purchases given housing market strength. - Address youth labor market participation through active labor market policies, training, and hiring subsidies rather than a planned blanket PIT exemption for income below the national average. - Transparency and governance: - Concerns raised about transfers of public universities’ and other State assets to public-interest foundations and a constitutional amendment redefining public money; staff stressed the importance of fiscal transparency. - Staff advised that all COVID-related procurement contracts, including beneficial ownership, should be made publicly available. - Participation in the Fund’s Public Investment Management Assessment could help identify ways to strengthen public investment efficiency. ### Authorities’ views on fiscal policy - Authorities view fiscal measures as instrumental in supporting the economy and reducing social and economic fallout. - They consider the revised 2021 deficit target provides needed support and is in line with EU average deficits. - Returning to deficits below 3 percent of GDP and bringing debt down remain key medium-term objectives. - The PIT exemption for youth aims to incentivize increased labor force participation. - Housing incentives are intended to address demographic challenges and encourage investment. - Authorities state a framework is in place to ensure transparency of public spending, including obligations for institutions carrying public policy to be transparent when using funds for that purpose. - The State Audit Office will carry out assessments of COVID-related spending as part of general budget auditing; law requires publication of certain public procurement contract data exceeding 5 million HUF. ### Policy discussions — Monetary and financial policies - The monetary policy response was appropriate to support price and financial stability and growth. - Core and headline inflation had been rising since 2016 but were broadly within the 2–4 percent tolerance band; headline inflation abated in 2020 while core inflation hovered around the upper limit. - Data-driven approach recommended to ensure inflation stays within the target range; current risks are mostly on the upside. - Baseline inflation outlook: - Headline inflation expected to temporarily increase in the short run (as seen in April) before returning toward 4 percent by year end. - Temporary increase reflects rising energy prices, recent increases in excises, exchange rate depreciation, and continued strong wage growth. - No more than a modest tightening of monetary conditions will be necessary as long as the negative output gap pushes inflationary pressures down and expectations stay anchored. - Risks and contingent responses: - Wage dynamics and strong Q1 activity require close monitoring; monetary conditions may need to be tightened more rapidly if inflation expectations become unanchored. - Should the recovery falter, monetary conditions might need to be further eased. - The MNB might have to increase interest rates and use other tools if new market turbulence threatens price or financial stability. *Source: 1hunea2021001 - 5. As a result, the fiscal deficit increased* ### 23. The operational ### 23. The operational framework for monetary policy needs careful monitoring ### Monetary operations and monetary policy stance - Monetary operations have effectively provided needed liquidity and addressed market dysfunction to date. - As global and domestic conditions normalize: - The MNB should continue to review the effectiveness and necessity of its unconventional tools. - The MNB should consider tapering its still-growing APP, also considering rising inflation risks. - Staff noted that APP in corporate securities should ideally only take place in the secondary market. - The MNB communicated in May that it is ready to tighten monetary conditions in a proactive manner to the extent necessary to ensure price stability and mitigate inflation risks. - A variety of instruments will continue to be employed in the conduct of monetary policy. - The purchase of government securities will be driven by an ongoing assessment of both global and domestic conditions, and with a view to preserving the stability and dynamism of domestic markets. - Policy implication: monetary policy should remain data-driven; some overshooting of the inflation band due to temporary shocks is acceptable. At this stage, no more than a modest tightening of monetary conditions will be necessary as long as inflation expectations remain well-anchored; conversely, further easing might be needed should the recovery falter. ### Prudential policies and banking sector resilience - Prudential policies should continue focusing on immediate vulnerabilities; withdrawal of support measures will need to be gradual as the recovery takes hold. - MNB stress tests indicate the banking sector should withstand the expected increase in nonperforming loans (NPLs) as support measures wind down. - Aggregate buffers of the banking system are currently comfortable but are somewhat unevenly distributed among banks. - Continued supervisory vigilance remains warranted. - Recent measures to strengthen the anti-money laundering framework are welcome; staff noted amendments that mandate, inter alia, the creation of databases on beneficial owners and banking accounts. - Recommendation: continue strengthening the anti-money laundering framework in line with international standards, including to address Moneyval recommendations. ### Preventing scarring and structural transformation (post recovery) - Authorities aim to strengthen Hungary’s medium-term growth prospects, with past strategy focused on attracting investment from large multinationals, especially in the automotive and electronics industry. - Recent priorities: improving the business environment, fostering labor participation, increasing efficiency of government services, digitalizing the economy, and enhancing the procurement system. - The crisis highlighted the need to strengthen the safety net and invest in human capital: - Share of spending on healthcare remains low compared to EU average; increased investment in health sector planned under the Recovery and Resilience Plan (RRP) is welcome. - EU estimates that increasing inequalities in the pension system are set to worsen. - Unemployment benefits are among the shortest in the EU; wage support was quickly discontinued for employees outside the most affected sectors. - Staff advocated reviewing the benefits structure, including the length of unemployment benefits, and enhancing (re)training programs and life-long learning — Hungary displays one of the lowest rates of training and education for people 25-64 years old. - Insolvency and debt recovery: - Number of bankruptcies has remained low given support and loan moratorium but are likely to increase as support is withdrawn and the economy adjusts. - Revisions to the bankruptcy framework were introduced in 2020 (Act LXXIII) to make it easier for companies to embark on efficient restructuring rather than outright bankruptcy. - Authorities preparing to transpose the 2019 EU Directive on Preventive Restructuring Frameworks to become effective in 2022. - Greening the economy: - Hungary intends to reach climate neutrality by 2050, relying on renewable and nuclear energy production, recycling, and energy conservation. - Staff advocated for increases in carbon pricing; the authorities are not considering additional carbon pricing beyond the existing EU framework. - Staff suggested incentives for green investment may be better embedded in fiscal policy than in the MNB’s prudential framework given absence of harmonized EU framework to evaluate green financial products. - The MNB’s initiative to lower Pillar 2 capital charge for green bank lending is well-intended, but no surcharges are currently in place to account for climate and transition risks. - Recommendation: incentivize green investment through transparent fiscal subsidies that apply equally to self- or credit-financed investment. ### EU Recovery and Resilience Funds (RRF) and reform implementation - The EU Recovery and Resilience Funds can play a key role in supporting the recovery and economic transformation. - Timely implementation of the reform package, with a focus on leveling the playing field for SMEs and improving governance and transparency, will be crucial for a strong recovery and a more sustainable path. - A judicious, transparent use of EU funds, supported by a strong RRP, could greatly help progress on these fronts. - Authorities’ view: investment in health will be a prominent part of the RRP; EU Funds expected to play a key role in improving demographics, skills, water management, green and sustainable energy and transport, circular economy, digitalization, and public infrastructure. ### Fiscal policy assessment and recommendations - Authorities’ crisis response: fiscal policy response was large and timely; deficit increased to 8.1 percent of GDP and public debt rose above 80 percent of GDP. - Fiscal policy needs to flexibly balance supporting the economy and preserving medium-term sustainability: - With improved growth prospects, buffers can be rebuilt more rapidly by saving windfall from higher revenues and possibly under-spending if less support is needed. - A setback in the recovery may warrant additional support for households and firms. - Given high gross financing needs, debt management policy should continue to aim at lengthening public debt maturity. - Considering the magnitude of fiscal spending, transparency in the use of public funds is crucial. - Recommendations to minimize scarring: - Targeted support to viable firms, especially SMEs, to facilitate reallocation and transformation. - Strengthen social safety nets and invest in infrastructure and human capital. - Create fiscal space by enhancing revenue and lowering current spending, such as further reducing the public wage bill as a share of GDP through rationalization of public employment. - Reconsider the recent reintroduction of a temporary low preferential VAT rate on new home purchases. - Increasing labor market participation of youth under 25 would better be achieved through means other than the planned blanket income tax exemption. ### Staff appraisal — key conclusions - The authorities’ policy response to the crisis was appropriately strong; the MNB provided ample liquidity and adapted monetary instruments effectively. - Monetary policy going forward should remain data-driven to ensure inflation stays within the target range; risks are now mostly on the upside. - Prudential policies should continue to mitigate immediate vulnerabilities with gradual withdrawal of support measures; aggregate buffers are comfortable but unevenly distributed. - Structural reform agenda should support transformation toward a more resilient economy: revisions to the bankruptcy framework, strengthened social safety net, higher investment in human capital and healthcare, and enhanced life-long (re)training are priorities. - Greening the economy is necessary for sustainable growth and should be supported by higher carbon pricing; given evolving EU framework, incentivizing green investment via transparent fiscal subsidies may be preferable at this stage. - The timely implementation of reforms, with strengthened competition, governance and transparency frameworks, and judicious use of EU Recovery and Resilience Funds is key to putting the economy post crisis on a more sustainable and resilient path. *Source: Chapter 23 of the IMF country report on Hungary (excerpts provided).* ### 41. It is recommended that the next Article IV consultation be held on the standard 12- ### 1hunea2021001 - 41. It is recommended that the next Article IV consultation be held on the standard 12-month cycle. ### Real economy and outlook - Real GDP (percentage change): 2016: 2.1; 2017: 4.3; 2018: 5.4; 2019: 4.6; 2020: -4.9; 2021 Est.: 6.2; 2022 Proj.: 4.9. - Total domestic demand (contribution to growth): 2016: 1.5; 2017: 5.3; 2018: 6.6; 2019: 5.7; 2020: -2.9; 2021 Est.: 4.7; 2022 Proj.: 4.5. - Private consumption: 2016: 2.4; 2017: 2.7; 2018: 2.7; 2019: 2.5; 2020: -1.6; 2021 Est.: 3.9; 2022 Proj.: 2.2. - Government consumption: 2016: 0.0; 2017: 0.3; 2018: 0.2; 2019: 0.5; 2020: 0.3; 2021 Est.: -0.0; 2022 Proj.: 0.3. - Gross fixed investment (contribution to growth): 2016: -2.4; 2017: 3.8; 2018: 3.6; 2019: 3.0; 2020: -2.0; 2021 Est.: 2.2; 2022 Proj.: 2.1. - Foreign balance (contribution to growth): 2016: 0.6; 2017: -1.0; 2018: -1.2; 2019: -1.1; 2020: -2.1; 2021 Est.: 1.5; 2022 Proj.: 0.4. - CPI inflation (average): 2016: 0.4; 2017: 2.4; 2018: 2.8; 2019: 3.4; 2020: 3.3; 2021 Est.: 4.1; 2022 Proj.: 3.6. - CPI inflation (end year): 2016: 1.8; 2017: 2.1; 2018: 2.7; 2019: 4.0; 2020: 2.7; 2021 Est.: 4.3; 2022 Proj.: 3.6. - Unemployment rate (average, ages 15-64): 2016: 5.0; 2017: 4.0; 2018: 3.6; 2019: 3.3; 2020: 4.1; 2021 Est.: 4.1; 2022 Proj.: 3.8. - Gross fixed capital formation (percent of GDP): 2016: 19.5; 2017: 22.2; 2018: 24.8; 2019: 27.2; 2020: 27.3; 2021 Est.: 27.6; 2022 Proj.: 27.9. - Gross national saving (percent of GDP, from BOP): 2016: 24.0; 2017: 24.2; 2018: 25.1; 2019: 26.8; 2020: 27.4; 2021 Est.: 28.1; 2022 Proj.: 28.7. ### Fiscal outlook and debt sustainability - General government overall balance (percent of GDP): 2016: -1.8; 2017: -2.4; 2018: -2.1; 2019: -2.1; 2020: -8.1; 2021 Est.: -7.1; 2022 Proj.: -5.8. - Primary balance (percent of GDP): 2016: 1.2; 2017: 0.2; 2018: 0.2; 2019: 0.1; 2020: -5.8; 2021 Est.: -5.1; 2022 Proj.: -3.8. - Primary structural balance (percent of potential GDP): 2016: 1.4; 2017: -0.3; 2018: -0.7; 2019: -1.1; 2020: -5.0; 2021 Est.: -5.1; 2022 Proj.: -3.9. - Public debt (percent of GDP): 2016: 74.9; 2017: 72.2; 2018: 69.1; 2019: 65.5; 2020: 80.4; 2021 Est.: 78.3; 2022 Proj.: 77.1. - Consolidated general government revenue (percent of GDP): 2016: 45.0; 2017: 44.1; 2018: 43.8; 2019: 43.6; 2020: 43.5; 2021 Est.: 42.6; 2022 Proj.: 42.5. - Consolidated general government expenditure (percent of GDP): 2016: 46.8; 2017: 46.5; 2018: 45.9; 2019: 45.7; 2020: 51.6; 2021 Est.: 49.8; 2022 Proj.: 48.3. - Key fiscal composition items (percent of GDP, selected): - Tax revenue: 2016: 25.3; 2017: 25.1; 2018: 24.7; 2019: 24.6; 2020: 25.0; 2021 Est.: 24.4; 2022 Proj.: 24.4. - Social contributions: 2016: 13.8; 2017: 12.8; 2018: 12.1; 2019: 11.8; 2020: 11.3; 2021 Est.: 10.8; 2022 Proj.: 10.7. - Capital expenditures: 2016: 3.0; 2017: 4.4; 2018: 6.0; 2019: 6.4; 2020: 7.4; 2021 Est.: 7.0; 2022 Proj.: 7.1. - Annex I summary findings: - Public debt rose by 15 percentage points of GDP in 2020 to reach 80.4 percent of GDP. - Baseline projects public debt-to-GDP to decline from 80.4 percent in 2020 to 69 percent by 2026. - Baseline assumes real GDP growth of 6.2 percent in 2021 and 4.9 percent in 2022, GDP deflator reaching 4 percent in 2022 then converging to 3 percent, and primary balance improving from -5.8 percent in 2020 to 1.3 percent of GDP by 2026. - Cumulative contribution of the primary balance to debt path between 2021 and 2026: about +11 percentage points. - Cumulative contribution of the interest rate-growth differential between 2021 and 2026: -19 percentage points. - Gross financing needs forecast to drop from 25 percent of GDP in 2021 to 13 percent over the projection horizon. - Authorities' debt management strategy targets average term to maturity of domestic debt above 4.5 years; limit share of foreign currency denominated debt within a 10–20 percent interval; keep share of fixed rate financing instruments between 70 and 90 percent; foreign currency obligations after swaps should be 100 percent in euros. ### Monetary and financial sector indicators - Money and credit (end-of-period): - Broad money (percent change): 2016: 7.1; 2017: 7.8; 2018: 11.8; 2019: 8.1; 2020: 20.9; 2021 Est.: 12.7; 2022 Proj.: 10.2. - Lending to the private sector, flow-based: 2016: 2.0; 2017: 6.5; 2018: 10.6; 2019: 15.3; 2020: 11.8; 2021 Est.: 10.5; 2022 Proj.: 10.3. - Central bank balance sheet (selected, in billions of forints): - Net foreign assets: 2016: 7,376; 2017: 7,112; 2018: 8,690; 2019: 9,168; 2020: 9,813; 2021: 11,047; 2022 Proj.: 11,424. - Base money (M0): 2016: 5,433; 2017: 6,300; 2018: 7,256; 2019: 8,177; 2020: 9,280; 2021: 10,422; 2022 Proj.: 11,393. - International Reserves (billions of Euros): 2016: 24.4; 2017: 23.4; 2018: 27.4; 2019: 28.4; 2020: 33.7; 2021: 35.9; 2022 Proj.: 36.7. - Monetary survey (selected, in billions of forints): - Broad money (M3): 2016: 21,264; 2017: 22,928; 2018: 25,637; 2019: 27,724; 2020: 33,508; 2021: 37,756; 2022 Proj.: 41,605. - Credit to the economy (gross): 2016: 13,134; 2017: 13,482; 2018: 14,942; 2019: 17,174; 2020: 20,087; 2021: 22,204; 2022 Proj.: 24,275. - Banking sector financial soundness indicators (2016–20): - Regulatory capital to risk-weighted assets: 2016: 18.0; 2017: 18.1; 2018: 18.5; 2019: 18.0; 2020: 18.3. - NPLs (90 days overdue) to gross loans: 2016: 7.4; 2017: 4.2; 2018: 2.5; 2019: 1.5; 2020: 0.9. - ROA: 2016: 1.6; 2017: 1.9; 2018: 1.9; 2019: 2.0; 2020: 1.0. - ROE: 2016: 16.7; 2017: 19.7; 2018: 19.4; 2019: 19.5; 2020: 9.8. ### External sector and balance of payments - Current account (billions of euros): 2016: 5.2; 2017: 2.5; 2018: 0.4; 2019: -0.7; 2020: 0.1; 2021 Est.: 0.7; 2022 Proj.: 1.3. - Goods and services (GS), net (billions of euros): 2016: 10.1; 2017: 8.7; 2018: 6.0; 2019: 4.1; 2020: 3.1; 2021 Est.: 3.9; 2022 Proj.: 6.0. - Exports (billions of euros): 2016: 100.5; 2017: 109.1; 2018: 114.0; 2019: 120.2; 2020: 108.3; 2021 Est.: 119.0; 2022 Proj.: 127.0. - Imports (billions of euros): 2016: -90.4; 2017: -100.4; 2018: -108.0; 2019: -116.0; 2020: -105.2; 2021 Est.: -115.0; 2022 Proj.: -121.1. - Gross external debt (percent of GDP): 2016: 95.5; 2017: 83.4; 2018: 78.9; 2019: 71.6; 2020: 78.5; 2021 Est.: 69.9; 2022 Proj.: 64.1. - Gross official reserves (billions of euros): 2016: 24.4; 2017: 23.4; 2018: 27.4; 2019: 28.4; 2020: 33.7; 2021 Est.: 35.9; 2022 Proj.: 36.7. - Net International Investment Position (percent of GDP): 2016: -59.2; 2017: -54.5; 2018: -51.0; 2019: -49.3; 2020: -45.8; 2021 Est.: -38.4; 2022 Proj.: -37.2. ### Policy recommendations and authorities' strategy (as reported) - Maintain the standard 12-month cycle for the next Article IV consultation. - Fiscal policy: - Gradual reduction in headline primary fiscal deficit starting 2021, with primary balance projected to improve from -5.8 percent of GDP in 2020 to 1.3 percent of GDP by 2026. - Rely on recovering growth, EU grants, and favorable financing conditions to support consolidation. - Debt management strategy: - Increase average term to maturity of domestic debt above 4.5 years. - Broaden domestic investor base and rely more on retail financing. - Limit share of foreign currency denominated debt within a 10–20 percent interval. - Keep share of fixed rate financing instruments between 70 and 90 percent. - After swaps, foreign currency obligations should be 100 percent in euros. - Risk assessment: - Projections are subject to high uncertainty related to the pandemic, scarring effects, and containment measures. - Under baseline and all but an unlikely stress scenario, public debt is projected to return to a downward path. *Sources: Hungarian authorities; IMF; Fund staff estimates and projections.* ### 6. The projections of public debt and gross financing needs are particularly sensitive to ### 6. The projections of public debt and gross financing needs are particularly sensitive to growth, combined macro-fiscal, and contingent liabilities shocks. ### Growth, macro-fiscal, and contingent liabilities shocks — key findings - Growth shock: - A decline in growth by one standard deviation would increase debt to reach 80 percent of GDP, i.e., about 11 percent of GDP above the baseline in 2026, but still on a downward path. - Under the same assumption, gross financing needs would reach about 15 percent of GDP, i.e., about 2 percent of GDP above the baseline by the end of the projection period. - Macro-fiscal shock (simultaneous shocks to growth, interest rate, and primary balance): - The debt-to-GDP ratio would reach 90 percent at the end of the projection horizon, but would stabilize. - Financing needs would reach at 19 percent of GDP. - Contingent liabilities shock (standardized shock of 10 percent of financial sector assets): - The debt-to-GDP ratio would reach 85 percent at the end of the projection horizon. - Financing needs would reach at 19 percent of GDP. - Government debt management agency (AKK) estimates: - AKK estimates the size of gross financing needs at 27.3 percent of GDP at the end of 2020. - Excluding the value of buybacks and switches, AKK estimates the gross financing needs at 24.9 percent of GDP. - Unrealistic persistent-support scenario: - If the unprecedented fiscal support of 2020 (primary deficit of 5.8 percent of GDP) continued for the rest of the projection horizon, public debt would reach 88 percent of GDP in five years and gross financing needs would be at 21 percent of GDP. - This scenario is considered very unlikely because revenue is projected to rebound and supportive measures are expected to unwind automatically with the projected recovery. ### Uncertainty and fan charts - The symmetric fan chart width is estimated at around 20 percent of GDP, illustrating the degree of uncertainty for equal-probability upside and downside shocks. - Assuming less favorable economic conditions than under the baseline scenario (upside shocks to growth and primary balance are constrained to zero), the central projection of public debt dynamics would return debt level just below 70 percent of GDP. ### Debt profile, vulnerabilities, and mitigating factors - Debt profile observations: - External financing needs are at the upper risk-assessment benchmark. - Public debt in foreign currency and public debt held by non-residents have declined considerably in recent years and are both within or below the risk-assessment benchmark. - Spreads are within the risk assessment benchmarks in line with favorable financing conditions and large investor base. - The share of short-term debt is projected to decline. - Risk mitigants: - Fiscal framework: - Hungary’s fiscal policy is bound by the European Stability and Growth Pact (SGP). - Authorities adopted strict fiscal and debt rules in 2008 and amended them in 2013. - Under current fiscal framework, the general government deficit must not exceed 3 percent of GDP (with SGP escape clauses). - Parliament may only adopt budget laws that result in the reduction of the government debt-to-GDP ratio, until this ratio falls to below 50 percent of GDP. The rule on debt reduction can be suspended when real GDP contracts. - With GDP growth projected to remain positive in the next five years as the economy recovers from the COVID crisis, debt is bound by law to be put back on a downward path. - Investor base: - Although the government reentered external bond markets for the first time since 2018, issuing €6 billion, debt continues to be held predominantly by domestic financial institutions and households. - Ample liquidity in the system has incentivized banks to purchase sovereign debt. - Buffers: - A part (€2 billion) of the external bond emission (€6 billion) was used to pre-finance the 2021 budget. - This cash cushion implies a lower public debt-to-GDP ratio on a net basis and is expected to help cover financing needs in 2021. ### Baseline projections and key statistics (selected entries from DSA table) - Nominal gross public debt: - 2019: 71.8 - 2020: 65.5 - 2021: 80.4 - 2022: 78.3 - 2023: 77.1 - 2024: 75.5 - 2025: 73.6 - 2026: 71.6 - 2026 (final cell shown): 69.0 - Public gross financing needs: - 2019: 19.6 - 2020: 23.6 - 2021: 24.9 - 2022: 20.5 - 2023: 18.3 - 2024: 15.5 - 2025: 15.8 - 2026: 14.3 - 2026 (final cell shown): 13.3 - Real GDP growth (in percent): - 2019: 2.6 - 2020: 4.6 - 2021: -4.9 - 2022: 6.2 - 2023: 4.9 - 2024: 3.8 - 2025: 3.2 - 2026: 2.6 - 2026 (final cell shown): 2.6 - Inflation (GDP deflator, in percent): - 2019: 3.0 - 2020: 4.8 - 2021: 5.7 - 2022: 3.8 - 2023: 4.0 - 2024: 3.7 - 2025: 3.5 - 2026: 3.2 - 2026 (final cell shown): 3.1 - Nominal GDP growth (in percent): - 2019: 5.7 - 2020: 9.6 - 2021: 0.5 - 2022: 10.2 - 2023: 9.1 - 2024: 7.6 - 2025: 6.8 - 2026: 5.9 - 2026 (final cell shown): 5.8 - Effective interest rate (in percent): - 2019: 5.5 - 2020: 3.5 - 2021: 3.6 - 2022: 3.0 - 2023: 2.9 - 2024: 2.6 - 2025: 2.9 - 2026: 3.1 - 2026 (final cell shown): 3.9 - Change in gross public sector debt (cumulative): - 2019: 1.1 - 2020: -3.6 - 2021: 14.9 - 2022: -2.2 - 2023: -1.2 - 2024: -1.6 - 2025: -1.9 - 2026: -2.0 - 2026 (final cumulative): -2.6 - Total cumulative through projection shown: -11.5 ### Stress tests and alternative scenarios — summary outcomes - Primary balance shock: - Shows larger public debt trajectories relative to baseline; detailed time-paths provided in figures. - Real GDP growth shock: - Under a lesser-growth path, debt rises relative to baseline; specifics summarized in the Growth shock bullet above. - Real interest rate shock and real exchange rate shock: - Modeled in Figure 4 with implied increases in debt and financing needs in stress scenarios. - Combined macro-fiscal shock: - Debt reaches 90 percent of GDP and gross financing needs reach 19 percent of GDP (see Macro-fiscal shock bullet above). - Contingent liability shock: - Debt reaches 85 percent of GDP and financing needs reach 19 percent of GDP (see Contingent liabilities bullet above). - Constant Primary Balance Scenario: - Assumes Primary Balance of -5.1 in 2021–2026; alternative composition and debt outcomes shown in Figure 2. ### Public DSA risk assessment and indicators - Risk-assessment thresholds used: - Gross financing needs benchmark: 15 percent of GDP. - External financing requirement benchmarks: 5 and 15 percent of GDP. - Bond spread thresholds: 200 and 600 basis points. - Public debt held by non-residents benchmarks: 15 and 45 percent. - Foreign-currency debt share benchmarks: 20 and 60 percent. - Change in share of short-term debt: 0.5 and 1 percent. - 2020 indicators (selected): - EMBIG (3-month average, 3/18/2021 - 5/18/2021): 98 bp. - External Financing Requirement (in percent of GDP): 12. - Annual Change in Short-Term Public Debt: 5 (units as displayed). - Public Debt in Foreign Currency (in percent of total): 15%. - Public Debt Held by Non-Residents (in percent of total): 12%. ### Annex II — Monetary Policy Measures (summary) - MNB operational overhaul during the pandemic: - Initially kept official policy rate unchanged; increased FX liquidity swaps and introduced collateralized long-term loans with 3-month to 5-year maturities at the policy rate. - Broadened eligible collateral by almost 5.5 percent of GDP to include performing corporate bank loans, with a haircut of 30 percent, irrespective of maturity and currency. - Introduced regular auctions of 1-week deposits at the policy rate to absorb excess liquidity. - Increased overnight overdraft rate, making the interest corridor symmetrical around the base rate, enabling higher money market rates while containing exchange rate volatility without initially changing the policy rate. - Adjustments to unconventional tools: - Funding for Growth Scheme: - Envelope increased, maximum maturity doubled to 20 years, maximum loan amount per borrower increased to about €55 million. - By late 2020, over half of new bank loans to SMEs were funded via this scheme. - Mortgage Bond Purchase Program: - Reactivated after the pandemic; purchases from May to November 2020 amounted to about 0.6 percent of GDP. Program paused in November 2020 until readiness to purchase green-mortgage bonds. - Bond Funding for Growth Scheme: - Conditions eased and size increased to about 1.6 percent of GDP. - From May 2020 to April 2021, MNB’s purchases under this program amounted to about 0.9 percent of GDP, of which almost 0.7 percent of GDP were in the primary market. - Liquidity impact sterilized through a preferential deposit facility at the MNB. - Asset Purchase Program (APP) announced April 2020: - Aimed to mitigate market dysfunction and lower long-term interest rates. - Purchases conducted only in the secondary market and in longer maturities. - Initial per-issue limit of 33 percent was increased and eventually abolished in March (year shown in source context). *Source: IMF staff (as presented in the chapter).* ### 2021. In late summer 2020, the scope was extended to government-guaranteed bonds and the ### 1hunea2021001 - 2021. In late summer 2020, the scope was extended to government-guaranteed bonds and the ### Asset Purchase Program (APP) and pandemic-era central bank measures - Timeline and scale - From early May 2020 to early May 2021, purchases amounted to about 3.9 percent of GDP, mostly through weekly tenders (2.5 percent of GDP) and the rest as bilateral trades. - In late summer 2020, the scope was extended to government-guaranteed bonds and the envelope was later doubled. - In April 2021, the envelope was increased to about 5.8 percent of GDP. - April 7, Asset purchase program announced; May 4, Asset purchases begin. - Effects on yields and spreads - Event studies suggest that both the announcement and initial purchases lowered long-term yields. - Whether the APPs have a lasting impact on yields remains to be seen. - The spread between the Hungarian and the Czech 10-year benchmark bonds declined after the announcement of the APP, but it recently increased again and remains higher than before the pandemic (the Czech Central Bank did not introduce an APP). - In January 2021, the MNB announced reliance more on its APP and a scale down of its collateralized long-term extended loan facility to provide liquidity. - Other points - The APP and other measures appear to have contained the financial turbulence triggered by COVID-19. - After initial modest bond purchases, the programs were paused, but intensified in late 2020. - The purchased government bonds of the MNB are now broadly at par with Croatia and Poland. ### Asset purchases by central banks during the pandemic (comparative) - Asset Purchases by Central Banks During Pandemic (Percent of 2020 GDP; end-February 2020 to end-March 2021) - Note: The market value of securities purchased by the Croatian National Bank is 5.5 percent of GDP. - Sources: Haver; IFS; national central banks; and IMF staff calculations. ### Hungary — interest rates, exchange rate, and bond yield dynamics (2020-21) - Hungary: Interest Rates and Exchange Rate, 2020-21 (In percent) - Series shown include 15-Year Gov. bond, 10-Year Gov. bond, 5-Year Gov. bond, 3-Year Gov. bond, 1-Year Gov. bond, 3-Month T-bill, and HUF/EURO (RHS). - Sources: Central Bank of Hungary (MNB) and Haver Analytics. - Spreads of 10-Year Government Bonds, 2020-21 (In percentage points, spread between Hungarian and selected countries' 10-Year bond yields) - Note: The Central Bank of the Czech Republic did not have an APP. - Series and timing highlight: Dec-19 through Apr-21 evolution, with markers at April 7 (MNB's asset purchase program announced) and May 4 (MNB's asset purchases launched). ### External Sector Assessment — current account, NIIP, reserves, REER - Current account and trade effects in 2020 - Hungary’s current account remained close to balance in 2020. - Export volumes declined by about 7 precent due to supply chain disruptions and lower global activity. - Imports declined by about 4 percent. - Primary income fell by more than 1 percent of GDP, driven by the reduction in profit remittances by large multinationals. - Net international investment position (NIIP) - The NIIP increased to about -45.8 percent of GDP in 2020 from -49.3 percent in 2019, largely driven by increase in Hungarian companies’ assets abroad and an increase in international reserves. - It is expected that bond flows will moderate as government borrowing concentrates on domestic markets in 2021 and beyond. - International reserves and adequacy - International reserves increased by €5 billion to almost €34 billion by year end on account of large government forex bond issues, and EU funds inflows. - Reserves remain above the Fund’s reserve adequacy metric. - Reserve coverage of short-term debt further improved and continued to provide a comfortable cushion. - Reserves are expected to increase by about €2.2 billion with the approval of the expected SDR allocation in 2021. - Exchange rate and REER - The real effective exchange rate (REER) depreciated by 4.8 percent over 2019–20, despite high inflation. - The forint depreciated in nominal terms against both the dollar and the euro. ### External position assessment and EBA model results - Overall assessment - Hungary’s 2020 external position is assessed to be stronger than warranted by medium-term fundamentals and desirable policies. - EBA model outcomes (range and specifics) - The EBA models yield mixed results, pointing to a range of estimates for the valuation of the REER of about -10 percent (CA approach) to +9 percent (REER-level approach). - CA approach: - Estimates a current account gap of 3.9 percent of GDP when accounting for COVID-related adjustments to shocks on oil (-0.6 percent of GDP), tourism (1.1 percent of GDP), shift to tradable (-0.7 percent of GDP), medical goods imports (1.9 percent of GDP), and retained earnings (-0.3 percent of GDP). - Applying an estimated elasticity of 0.38, this implies an exchange rate undervaluation of about 10 percent. - The model current account gap is 2.5 percent of GDP (2020), which corresponds to a 6.6 percent undervaluation, out of which 2.1 percentage points are attributed to identified policies. - External Sustainability (ES) approach: - Suggests an exchange rate undervalued by about 6 percent based on stabilizing Hungary’s net borrower position (NFA/GDP) at its recent level, consistent with a medium-term current account deficit of 2.3 percent of GDP. - Two EBA REER approaches: - Suggest the real exchange rate was overvalued in the range of 1-9 percent with a large residual (about 15 percent) that is not explained by the policy variables. - Uncertainties and data issues - Estimates are marred by significant uncertainty linked to inherent limitations of the models and frequent and large revisions of balance of payment data in Hungary. - Errors and omissions in the balance of payments amounted to 1.3 percent of GDP in 2019 and -1.9 percent of GDP in the 2020 preliminary data. - Policy implication - Structural reforms that encourage more investment (with attendant imports of investment goods) would help move the external position closer to the level consistent with medium-term fundamentals and desired policy settings. - However, expected dominance of industrial exports because of abundant recent FDI is expected to offset the increase in imports and profit repatriation, keeping the current account in small surpluses over the medium term. ### External Balance Assessment table highlights (selected figures as presented) - CA balance: 0.1 - Cyclically-adjusted CA: 0.4 - Model CA norm (percent of GDP): -2.1 - CA-stabilizing NFA at 2019 level: -2.3 - Model CA gap: 2.5 (CA approach); 2.4 (REER-level) - Temporary COVID-related adjustment: 1.7 - Temporary COVID-related adjustment (staff): -0.3 - CA gap, staff-adjusted: 3.9 - Semi-elasticity of CA/GDP to REER: 0.38 - Exchange-rate gap (percent): -10.3 (CA); 8.5 (REER-level); 1.4 (REER-index); -6.3 (ES) ### External indicators and flows (figures and trends) - ETF and Mutual Funds Bond and Equity Flows, 2020 (In percent of GDP): end-Feb to end-Apr and since end-Apr totals shown for a set of countries including Hungary and peers; data sources: EPFR; and IMF WEO. - Current Account Balance (Percent of GDP): time series from 2009–2020 showing goods net, services net, primary income net, secondary income net, and current account balance (Sources: Haver Analytics and IMF staff calculations). - International Investment Position (Percent of GDP): assets, liabilities, and net assets time series (Sources: Haver Analytics and IMF Staff Calculations). - External Debt by Sector (Percent of GDP): Central Bank, Financial Sector, General Government, Nonfinancial sector; sectoral debt excludes intercompany/direct investment instruments (Sources: Hungarian National Bank/Haver Analytics; and IMF staff calculations). - Financial Account Components, Net (Percent of GDP): Direct Investment, Portfolio Investment, Financial Derivatives, Other Investment, Reserve Assets, Financial Account (Sources: Haver Analytics and IMF staff calculations). - International Reserve Cover (Reserves as a percentage of metric): projections for 2021-26 and suggested adequacy range based on IMF, 2015, "Assessing Reserve Adequacy-Specific Proposals" (Sources: Hungarian National Bank; and IMF staff calculations). ### Risk Assessment Matrix — key risks, likelihoods, impacts, and policy responses - Unexpected shifts in the COVID-19 pandemic - Likelihood: M - Impact: M - Risk narrative: - Downside: disease proves harder to eradicate (e.g., new virus strains, short effectiveness of vaccines, widespread unwillingness to take them), requiring costly containment and prompting persistent behavioral changes rendering many activities unviable; prolonged support exacerbates stretched asset valuations and financial vulnerabilities for countries with policy space; insufficient support for EMs with limited space. - Upside: pandemic contained faster than expected due to rapid vaccine production and distribution, boosting confidence and activity. - Outcome examples: Medium: Demand in contact intensive services remains low and travel restrictions stay in place longer for longer. Financial markets reassess real economy risks leading to a repricing of risk assets. Vulnerabilities worsen, affecting banks. High: Strong confidence impact in the near term; activity recovers faster than expected over the medium term and limits scarring. - Policy response: Keep providing adequate support to the health system; fully use available fiscal space to support households and businesses overcome liquidity needs while encouraging necessary reallocation of resources. - Sharp rise in global risk premia exposes financial vulnerabilities - Likelihood: M - Impact: Medium - Risk narrative: Reassessment triggers a widespread risk-off event; risk asset prices fall sharply and volatility spikes; significant losses in major non-bank financial institutions; higher risk premia generate financing difficulties for leveraged firms and households; wave of bankruptcies erode banks’ capital buffers. - Outcome: Pressure on bank capital adequacy triggering credit tightening; highly indebted corporates come under pressure; adverse spillovers to other (viable) sectors. - Policy response: Stand ready to implement further policy support; maintain flow of credit by ensuring financial policies are adequately targeted and effectively deployed. - Accelerating de-globalization - Likelihood: M - Impact: High - Risk narrative: Geopolitical competition and fraying consensus about benefits of globalization lead to further fragmentation; reshoring and less trade reduce potential growth. - Outcome: Higher barriers to trade—particularly those on Hungary’s automotive sector—would dampen exports and investment and weaken growth. - Policy response: Provide monetary and fiscal support; facilitate sectoral reallocation of labor and capital through retraining; faster implementation of competitiveness reforms. - Faster implementation of competitiveness reforms - Likelihood: M - Impact: High - Outcome: Higher potential growth; GDP growth above the baseline with a lower inflationary impact; exports more competitive, but investment and consumption imports may increase. - Policy response: Accelerate fiscal consolidation. *Source: 1hunea2021001 - 2021. In late summer 2020, the scope was extended to government-guaranteed bonds and the* ### Annex V. Authorities’ Response to Past IMF Policy ### Annex V. Authorities’ Response to Past IMF Policy ### Fiscal Policy - IMF 2019 Article IV recommendation: Implement a mix of growth-friendly revenue and expenditure measures. - IMF 2019 Article IV recommendation: Rationalizing public sector employment. - Authorities’ response and outcomes: - The implementation of the recommendations was delayed by the crisis. - No progress since abolishing “ghost” positions a few years ago. ### Structural Reforms - IMF 2019 Article IV recommendations: - Reduce the large number of taxes and phase out the sector-specific taxes. - Ensuring transparent and competitive procurement processes. - Improve the oversight of risks emanating from the SOEs. - Offer more opportunities for adult education and vocational training opportunities. - Increase the number of daycares. - Reduce Public Works Scheme (PSW) participation. - Authorities’ response and outcomes: - The number of taxes were reduced to 54. - Accelerated depreciation of investments and introducing group taxation, was implemented. - The implications of a recent constitutional change that redefined the concept of “public money”, aimed at clarifying that public money is “income, spending, and receivable of the State”, remain to be fully understood. - No progress on ensuring transparent and competitive procurement processes. - There was an overhaul of the vocational training system in 2020, establishing several layers of vocational training and engaging private sector in the process. - The number of daycares continued to increase towards the objective of 70 thousand and public funds are being allocated for this purpose. - The employment in PWS decreased from 101k in 2019 to 89k in 2020. ### Micro-Financial Issues and Financial Sector Reform - IMF 2019 Article IV recommendation: Market-based consolidation of the banking system. - Authorities’ response and outcomes: - The second largest banking group in Hungary was created with the merger between two private banks (MTB and MKB) and state-owned Budapest Bank. - IMF 2019 Article IV recommendation: Further improvements to insolvency legislation. - Authorities’ response and outcomes: - Revisions to the Bankruptcy framework were introduced through the two temporary government decrees and Act LXXIII of 2020. ### AML/CFT and Legal Framework - IMF 2019 Article IV recommendation: Continue their AML/CFT efforts. - Authorities’ response and outcomes: - The AML law has been amended to address several Moneyval recommendations. ### Fund Relations (selected items) - Membership Status: Joined on May 6, 1982; Article VIII. - General Resources Account (SDR Million; Percent Quota): - Quota 1940.00 100.00 - Fund holdings of currency (Holdings Rate) 1640.76 84.58 - Reserve tranche position 299.24 15.42 - SDR Department (SDR Million; Percent): - Net cumulative allocation 991.05 100.00 - Holdings 2.42 0.24 - Outstanding Purchases and Loans: None - Latest Financial Arrangements (type, date of arrangement, expiration date, amount approved (SDR Million), amount drawn (SDR Million)): - Stand-By Nov 6, 2008 Oct 5, 2010 10,537.50 7,637.00 - Stand-By Mar 15, 1996 Feb 14, 1998 264.18 0.00 - Stand-By Sep 15, 1993 Dec 14, 1994 340.00 56.70 - Projected Payments to Fund (forthcoming): Charges/Interest: 0.39 0.51 0.51 0.51 0.51; Total: 0.39 0.51 0.51 0.51 0.51 - Safeguards assessment: - Finalized on January 28, 2009 for the Magyar Nemzeti Bank (MNB). - Found that the central bank had a relatively strong safeguards framework in place; recommended measures to improve the process of program data reporting to the Fund and to strengthen audit oversight. - Note: In recent years the central bank law was subject to numerous changes; going forward it is critical to avoid undue changes to the MNB’s legal framework and to ensure that the law continues to support MNB’s operational and legal independence. - Exchange Rate Arrangements: - De jure: free floating. - De facto: floating, effective November 1, 2008. - Hungary has accepted the obligations of Article VIII. ### Technical Assistance (FY2010–2019) — departments and selected purposes - MCM: Banking Supervision (June 2009); Financial Stability (July 2010); Monetary and Foreign Exchange Policy (June 2011; November 2011); Financial Stability (November 2010). - LEG: Bank Resolution Framework (September 2009); Bank Resolution and Crisis Management (November 2013); VAT Fraud and Anti-Money Laundering Activities (January 2013). - FAD: Expenditure Policy (October 2009; June 2010); Expenditure Policy (June 2010); Fiscal Federalism (October 2011); Workshop on Revenue Forecasting and Micro-simulation Analysis (January 2016); PIT and CIT Micro-Simulation (January 2018); VAT Gap Analysis (February 2018). - Other: Operational Aspects of Establishing an Asset Management Company (January 2015 and June 2015). ### Statistical Issues and Data Adequacy for Surveillance - General assessment: Data provision is adequate for surveillance. - Government Finance Statistics: - Authorities compile and disseminate comprehensive general government annual and quarterly accrual based data according to the ESA 2010 methodology. - Data include non-financial accounts, financial accounts, and financial balance sheet. - Data are bridged into the GFSM 2014 framework and provided to the Fund through Eurostat for the IFS and GFS yearbooks. - Room for further improvement: automatic provision of central government revenue and expenditure arrears data, local government revenues and expenditures, and financial statements of state-owned enterprises would facilitate monitoring on an accrual basis. - Monetary and Financial Statistics: - Monthly monetary data (central bank and other depository corporations) accord to the IMF’s Monetary and Financial Statistics Manual and are reported by STA in the International Financial Statistics. - Source data obtained through a gateway arrangement with the European Central Bank based on the ECB framework. - Hungary reports several Financial Access Survey indicators, including commercial bank branches per 100,000 adults and ATMs per 100,000 adults. - Financial Sector Surveillance: - Hungary reports all 12 core Financial Soundness Indicators (FSIs) on a quarterly basis. - External sector statistics: - Frequent and large revisions of balance of payment data generate uncertainty when assessing Hungary’s external sector position. - Data Standards and Quality: - Subscriber to the Fund’s Special Data Dissemination Standard (SDDS) since May 1996 and met all SDDS requirements on January 24, 2000. - Hungary published its original ROSC Data Module in 2001; updates available on the IMF website. The latest update is Hungary: Report on the Observance of Standards and Codes—Data Module, 2004 Update (July 2004). ### Table of Common Indicators Required for Surveillance (as of May 31, 2021) — selected entries - Exchange Rates: Date of latest observation 04/30/2021; Date received 05/03/2021; Frequency of Data D and M; Frequency of Reporting D and M; Frequency of publication D and M. - International Reserve Assets and Reserve Liabilities of the Monetary Authorities: Date of latest observation March 2021; Date received 04/30/2021 (Preliminary); Frequency of Data M; Frequency of Reporting M; Frequency of publication M. - Reserve/Base Money: March 2021; 04/30/2021; Frequency M. - Broad Money: March 2021; 04/30/2021; Frequency M. - Central Bank Balance Sheet: March 2021; 04/30/2021; Frequency M. - Consolidated Balance Sheet of the Banking System: March 2021; 04/30/2021; Frequency M. - Interest Rates: March 2021; 04/30/2021; Frequency M. - Consumer Price Index: April 2021; 05/03/2021; Frequency M. - Revenue, Expenditure, Balance and Composition of Financing – General Government: 2019; 10/30/2020; Frequency A. - Revenue, Expenditure, Balance and Composition of Financing – Central Government: March 2021; 04/30/2021; Frequency M. - Stocks of Central Government and Central Government-Guaranteed Debt: December 2020; 04/30/2021; Frequency Q. - External Current Account Balance: Q4 2020; 03/30/2021; Frequency Q. - Exports and Imports of Goods and Services: Q4 2020; 03/30/2021; Frequency Q. - GDP/GNP: Q4 2020; 03/30/2021; Frequency Q. - Gross External Debt: Q4 2020; 03/30/2021; Frequency Q. - International investment Position: Q4 2020; 03/30/2021; Frequency Q. *Source: Annex V. Authorities’ Response to Past IMF Policy — HUNGARY, staff report informational annex (June 3, 2021).* --- _Source: https://www.imf.org/-/media/files/publications/cr/2021/english/1hunea2021001.pdf_