Hungarian short economic analysis 2007

There is no current version of the ”Marketing Bible for Hungary” this year, and the new updated version is scheduled to 2008. The main reasons are lack of financial support to cover printing costs and the high level of uncertainty, unrest and economic turmoil affecting the whole region.

Information is collected from many sources during my visits in Hungary during 1990-07. It is based on both objective and subjective data, but it’s difficult to get correct and accurate figures.The economic continuity transparency and information during the last years has been uncertain and difficult to follow, some was straight misleading. After the 2006 elections there is a higher then usual uncertainty and mistrust surrounding politics and economics.

The main reason for the distrust is the political incomprehesive measures during the last decade, both under the present and former government’s mismanagement, resulting in black market, a huge budget deficit, a current account deficit and high debt burden.

Hungary, a former East European satellite, is today together with most COMECON countries a full member of the EU and Europe both politically and economically. It is a free and democratic country difficult to distinguish from other western states. This doesn’t mean that the past is forgotten, but the new development is definitive, it’s now a democratic state, has a multi-party election system, a market economy and it’s a full member and integral part of EU and Nato and cooperates with the World Bank.

Apart from all internal economic difficulties it exist a huge confidence crisis, the whole population distrust in political parties and political leadership is total. Most people was unaware of the of gravity of the economic crisis due to lack of communication, they was unable to create a realistic and transparent policy over party lines, the leadership bogged down in party infights instead of working together to develop the country, its economy and future.

Lack of will to compromise, they have partly created and worsened the present crisis, they had always promised too much and then been unable to deliver. The overall view is that all politicians only want to fill their pockets, they are less interested to rise standard of living and to develop the country. The 2006 September turbulence showed that the population is deeply divided in a huge gap between the two big blocs, frontally opposing each-other resulting in a deadlock. This makes ruling and planning chaotic, it results in confidence loss and makes information evaluation difficult.

A consequence of the recent economic slowdown, local and global uncertainties and the election of new EU-members (Romania and Bulgaria) have resulted in that Western investors are more careful when it comes to long term investments, but investment climate is still favourable. A tendency to move some production to cheaper countries is present (to the new EU-members and to Far East). These negative effects have affected Hungary less then the other former East-European countries, but the tendency is clear.

The global economic slow-down starting late in year 2000 has only slowly affected the economy. GDP growth has diminished from 4,8% in 2001, to 3.5% in 2002, to 2.9% in 2003, to 4% in 2004, and to 4.2% in 2005. Results for 2006 shows a 3.9% rise in GDP and the forecasts for 2007 is 2.4%, 2008 2.6% and for 2009 they expect 4%.

During the last decade the budget deficit has slowly risen to 9.5% in 2006, witch coupled with the high foreign debt burden reached critical level, witch made big savings and hard budget cuts necessary, if not rising inflation and rising debts should make the country insolvent. The Gyurcsány Government s new economic (Convergence) program main goal is to stabilise the situation (by fiscal measures) and reduce the huge budget deficit and foreign debt.

With the economic situation near meltdown, EU was formally complaining in February 2006, the new government had few choices. As bankruptcy was ruled out only harsh budget cuts and raised tax and tariffs remained, extremely difficult to explain to the voters due to all parties political election promises that they would rise living standards. The Hungarian voters are used to that all election promises are unfulfilled, but this was too much to take!

Unrest and wide protest followed by some chaos on the streets, and both the new government (Gyurcsány/MSzP) and distrust in politicians reached all time low. The losing party (Orbán/Fidesz) of course blamed the government for everything but was unable to offer a realistic alternative. Most people except the mob were wiser then the politicians, violent protest stopped from spreading due to lack of mass support, but naturally they don’t like it.

Part of the reason for this violent reaction was that the government was unable to explain the grave economic realities to the people and distrust in politicians is huge. Of course these harsh economic cuts cannot be made without someone paying the bill. The new government rises all taxes and tariffs, cut all subventions and reorganise the administration to save the situation, these measures hit people hard some (the poorer) disastrously. Economically it’s resulting in a BNP cut for the people in 2-3% (during 2006-07) resulting in a 3 hard years. Unfortunately it’s the only realistic way out of the crisis.

The global economy is favourable, with the US economy considerably risen during the last years, with this support one expects a full recovery in Europe. The big question is how soon and which impact it will have on the European economies as a whole. Since EU and CEFTA absorb 80% of the Hungarian export which in turn generate more then half of the GDP, it has a direct and deep impact on development. Germany is the biggest trade partner and there the economic development has only slowly recovered from a former standstill.

Another important issue is if the government hard economic policy can and will be continued due to internal problems, provided the international economic development continues and local political stability is not on risk. Natural disasters and internal political problems had worsened the situation the last years. Increasing number of questionmarks, lower standards of living and social unrest make the economic outlook very fragile. The distribution of profits are unequal, some people get a lot, other nothing. Due to this unequal distribution of means and rising political mistrust, the overall social situation is very tense, near but not yet critical.

Present development figures contrary to former ones shows deterioration, development rate is down to the average compared to the other East European countries. The country former stability is now questionable, but they still have an well-educated and trained workforce. Hungary is NATO-member since 1999 and EU-member from 2004 together with the other 9 new ones.

What can be expected in the economic development area during 2007? The main issue is how soon and how fast the global economics recover. The most probable scenario implies that the leading economic powers will be unable to reach a full agreement about the reform of the global economic institutions, due to clash of interests. US economy is still acting as a dynamic motor to the rest of the world but for how long?

My personal view is that the former recession has only limited impact on the development in the EU and Europe, with a rise in economics from late 2005. In that case the Hungarian government if they are able to follow the Convergence programme, with a strict fiscal and monetary policy, the currency high and realistic interest rates then its possible to succed.

If the government is able to carry out the present hard (and unpopular) economic policy, and the opposition realises that support is better for the country future than a short term opposition resulting in a pyrrus-victory, then its realistic to expect a 2.5% GDP growth (down 2%), a 7% inflation and a budget deficit of 7% for the year 2007. These results will save the Hungarian economy in the short term. There was many ifs and nothing is certain in this turbulent situation.

The economic development in 2001 was good; it dropped slowly during 2001-03 with some recovery from late 2004. The Budapest share index (BUX) rose from 7.500 it has now reached 25.000 (all time high). The former stock exchange collapse did not affect property, which is a clear sign and proof that the economy is basically sound. The estate market has former been in focus of small investors as the effect of the volatility and uncertainty of the stock exchange. After the 2002-04 the estate prices has stabilised and from 2005 its full speed ahead.

The former Russian crisis affected some exporting companies, but for the economy as a whole this had little impact. Those companies targeting this rising market (huge and interesting, but uncertain) operate in a shaky sometimes chaotic environment, with high credit risks, slow or late payments and frequent business failures. These markets take time, but it’s huge and interesting, with large present and future potential for Hungarian exports.

The development during 2004 showed a weak economy not yet recovered, a slowly recovering during 2005, a slow growth during 2006 expected to continue in 2007. But it is difficult to speed up the economy and share it equally without rising inflation and unemployment. Unequal tax revenues and big black market problems are still unsolved. Due to the huge drop in standards of living during 2006-2007 the people are much more careful, real income and domestic sales has dropped sharply, domestic sawing rose.

Unfortunately the 2002 elections resulted in huge overall wage rises, followed by strong expectations of a GDP rise, together with promises for better living conditions. With the 2006 election it’s the same problems again, with big (political) unrealistic promises. The Hungarian exports rose slower than imports, turism revenues fell and budget deficit rose.

There are still big internal problems, mainly with low domestic demand, high unemployment level, payment rises, the big budget deficit and current debt. They got serious critics from EU before 2006 elections about the slow economic reforms and high budget deficits left unattended. The IMF view is to speed up economics and investments and to continue the present hard fiscal policy (reduce budget deficit), but this rises black economy and is deeply impopular at the voters.

The forecasts for 2007 prognoses a 6.6% budget deficit (Convergence programme), it was rushed in after the 2006 elections, totally in opposition to former irresponsible politicians on both sides’ promises ” vote on me” disregarding costs. Due to this and other irrealities voter’s trust dropped to all time low, as standard of living dropped and government fails to deliver.

The connection with the EU is somewhat tense after that serious economic critics was ignored early 2006. The new Convergence programme was accepted by EU, but due to the political and economic turbulence, delays in the long overdue necessary organisation reforms it slowed down and the transfer to Euro is postponed by 5 years.

That the former communist party right wing came to power in 2002 does not change the facts that the democratic process is irreversible. They defeated the right-wing coalition lead by Orbán (MDF). The Socialist coalition also won the 2006 election with a new leadership (Gyurcsány) with minimal difference, but the elections showed also the split in the voter’s views in two equal sized big blocks, making governing difficult, as will to compromise over the blocs are lacking.

Why this change on the political map to the left from 2002 some ask? The former right-wing coalition (Viktor Orbán leading the Civil Party, the Democrats and the Independent Smallholders) was unable to carry through their very optimistic election promises. As a result the voters were dissatisfied, their trust in politicians are very low, but a more realistic economic program was not released. The same scenario has happened in other East-European countries several times in the last decade.

The new (Gyurcsány/MDF) government’s goal is to make possible a long time economic growth and still maintaining equilibrium, and on the same time cut budget deficit and lower foreign debts. At the same time they will implement big infrastructure reorganisations, reduce administration costs and rise effectivity. All this measures at the same time, it will be difficult if the opposition is unwilling to carry part of the burden and compromise. Only time will tell if the plan is realistic and the political price will be high.

It will be a period of rapid expenditure reductions and revenue increases implanted simultaneously. The Convergence plan is divided in two main periods. The first during 2006-09 with huge cuts in expenditure, reorganisation and big budget cuts to reduce deficit, resulting in a temporary decline in standard of living with 3% during 2007-08 it will result in a small rise in living to 2009. In short a real income decline in 2007, stabilise in 2008 and increase in 2009.

The second phase during the years of 2009-11 resulting from rising in effectivity shall result in economic growth and rising standards, with a growth in employment, real wages and real income. During this period there will be huge reforms in public administration, health care, education and pension areas (mainly cuts in price subsides and risen efficiency).

With the present long-term economic slowdown in the EU over, the Hungarian exports rose again, important since 80% of the export goes there. The regression starting in 2002, with a turbulent 2003-04, but results for 2005 showed a recovery since USA economics speeded up. The figures show a positive development in 2006 and predictions say that EU-economy (total) speeding up with 3% during 2007. This is also a prerequisite for the success of the new Convergence Programme, as the Hungarian economy needs all support it can get during this difficult period.

It seems quite sure that the present long and deep global economic regression has ended. The Japanese crisis is over and minor problem areas in Southeast Asia and South America are now recovering. The huge Chinese expansion is the bright spot at the moment, but on long term they will take over a lot of production (and then exports) in the future, taking over western markets.

All foreign investors prefer to work in a secure and business friendly environment. Hungary is not the cheapest country in Eastern Europe, but other factors and higher security compensate. They still in a leading position and they have the highest share of total foreign investments in the area, but today investment dynamism is dropping. Of total foreign investments in Eastern Europe some 30-35% is invested in Hungary. About 1.5 billion USD is invested yearly (30 billion total) mainly in the 25.000 foreign owned companies.

Most of the company profits are reinvested locally, but some of the companies has cashed in and left during 2004-06, mowing to cheaper countries in Eastern Europe and Asia. But most of the other investors still value the availability of skilled labour and worker’s motivation high and stayed put. On the contrary to the foreign owned companies Hungarian own companies R&D budgets are generally low, due to lack of capital. Long term planning and investment is low or missing.

The whole structure of production, services, consumption and export has changed considerably during the 1990s. The economy today is quite stable and is considered to be in reasonable good shape compared with other East European countries, but former advantages are diminishing and due to the present turbulence confidence is falling. The short-term economic growth is no longer the highest in the Eastern Europe with the present uncertain period and economic slowdown.

Hungary’s economy was formerly on top in Eastern Europe with a GDP growth of 4% for 2004, 4.2% in 2005 and 3.9% in 2006, but expectations for 2007 are only 2.4% and forecasts for 2008 is 2.6% and for 2009 a rise to 4% is expected. Today most other East European countries are able to show better development figures during this period, but if the Hungarian government predictions are right is this slowdown only temporary.

Unemployment has risen to 7% (from 6%, big area differences) and inflation rose to 8% (from 6%), the household consumption is down to 2.5% (both in 2007 and 2008). The domestic markets are weak, people are more careful, this slowing down investments and now all government spending and corporate investments are cut back.

To deal with the big budget and current account deficit the new Gyurcsány government rises all possible revenues. They focus on cut down administration, to hold down wages level in the public sector, the long overdue health care reform is started and to rationalising (or sale) small and medium-size government owned companies.

The budget deficit in 2005 was higher then planned (7-8%), mainly do to the big wage-rises and dropping revenues, in 2006 it rose to 9.5% (it was an election year). Hungary has a long and difficult way to go to reach the EU recommended (3%) budget deficit level, it will take more than 3 years and Brussels is clearly irritated at Hungary lack of delivery.

A growth of only 4% in 2005 resulted in a productivity drop due to export sales difficulties and rising imports. Expensive election promises and a strong HUF has during 2006 deteriorated competitiveness by 10% and this tendency continues in 2007. The foreign debt level is high, but under control due to repayments and big reserves. They cover 5-month imports.

Foreign investors desire to take risk has diminished, the vulnerability of HUF assets has further increased. During the last decade has Hungary’s competitiveness slowly deteriorated, so strong measures must be taken quickly to correct it during 2007. Internationally Hungary’s credit rating is still positive but also slowly deteriorating, with Moody´s A1 (negative outlook) and Standard & Poor´s A= (outlook stable), JCR downgrade (A-). NBH has stated that its main interest is to check inflation, budget balance are government problems. Of these the first one is working the second is a failure.

The country got EU-membership in May 2004, but joining the Euro currency is postponed to 2012 (was planned for 2007), one can only hope that they will be properly prepared then, today they are not. The necessary changes in state present organisation, the health care area, the agriculture support size and free movement of workers (within EU) are the most difficult areas today.

The political and economical differences within Eastern Europe are slowly increasing with the Poles trying to get a better deal, the Czechs economics dropping behind (political stalemate), Slovakia slowly rising from a low level (drop due to incompetence of former leadership).

Of the new EU-members Romania is near economic crisis (reforms are lacking and political crisis) but foreign (western) investments are now rising. Bulgaria is bankrupt but there also some foreign investment (rising from a low level) a big support. Ukraine is deep in a political and economical chaos (internationally isolated) and former Yugoslavia is still on the brink of a civil war (with or without international involvement) with the Kosovo-question still unsolved and rising nationalism.

Russia has a lot of border and minority problems and is clearly weakened but its economy is recovering (due to high energy prices). The Baltic States orient to the west and get a lot of support from the Scandinavian countries. However it is a quality mark that these local East-European problems has not affected the Hungarian political stability nor its economic development. And it is not less then a miracle that all these dramatic changes the last decade in Eastern Europe have been possible without bloodshed.

Stockholm March 2007.

Robert Bakonyi

Phil. kand. Economics

Matilda Jungstedts väg 6

121 33 Enskededalen

Stockholm Sweden

tel. 08 / 39 39 28

robert@osser.se