A Hungarian rhapsody, not Greek tragedy

By bne IntelliNews July 23, 2010

Rob Smyth in Budapest -

Hungary has won plaudits over the past few years for the courageous and painful steps it has taken to right its listing economy, raising hopes it wouldn't end up as "the next Greece," as some have been warning. However, if the Fidesz government, which swept to power in the April elections pledging good times ahead, gets too cocky with the unforgiving markets, it still might just.

The new Hungarian government probably assumed upon taking office that the country had already done its fiscal hard time and was deserving of early parole, with a bit of cash in the pockets to send the economy on the strait and narrow. To some, therefore, it wasn't too much of a surprise when talks between the International Monetary Fund (IMF) and EU and the government over the terms of Hungary's bailout loans broke down on July 17, two days ahead of schedule, with the sticking point believed to be the government's failure to commit to the stipulated budget deficit target of 3% of GDP in 2011.

"The failed talks about the country's loan programme, which represents a crucial policy anchor for Hungary, has increased uncertainty about the authorities' determination to restore fiscal sustainability in the near term," says Dietmar Hornung, the lead analyst for Hungary at Moody's Investors Service. Accordingly, Moody's announced July 23 that it's putting Hungary's 'Baa1' local and foreign currency government bond ratings on review for a possible downgrade. This caused the forint to fall further and it's now the world's worst performing currency against the euro in the past three months, having lost 7.7% against the single currency.

The government may be willing to rile the markets in the short term because it's wants to successfully negotiate local elections on October 3 before it commits to the 2011 budget deficit target and any associated further austerity measures. "Politically speaking, with local elections coming up, the government can't afford to talk about more fiscal tightening at the moment. However, it appears they have no other choice than to accept the target sooner or later," reckons Balint Torok, an analyst at BudaCash brokerage.

The next meeting with the IMF/EU just so happens to be scheduled for October. Analysts at Equilor in Budapest note that an agreement between the sides should occur in October at the latest and this breakdown in talks was a move planned in advance by the Hungarian government. "Analysts expect that the cabinet would announce another set of austerity measures after the elections, which would result in the government coming to an agreement with the IMF and the EU," Equilor says in a note.

Torok goes as far as saying that the Hungarian government was within its rights to not yet commit to the 2011 budget deficit target, as it's unreasonable to expect a relatively new government to have prepared its budget proposal yet. "It should be ready by the end of August," he estimates.

Halfway there

Until the breakdown in talks, Hungary looked in decent shape after it agreed in June to adhere to the 2010 budget deficit restrictions laid down by the IMF/EU. The new government's decision to play ball with the demands of the markets, EU and IMF in accepting a budget deficit target of 3.8% of GDP for 2010, plus the associated continued tight fiscal policy, was strongly welcomed by analysts. "This represented a fundamental change concerning fiscal policy and eased fiscal concerns considerably," he says. "In addition, the new tax on financial institutions worth HUF200bn (€718m) and some other measures should serve to fill the gap between the planned budget deficit and the current one."

The acceptance of the 2010 target had showed that the short-term fiscal goal of the new government was very similar to that of the previous government - a relief to investors, since the new populist-tinged centre-right government had been expected to at least partially undo the good, albeit painfully austere, work of fiscal tightening started by the previous Socialist-led government in a bid to improve economic growth. Hungary's longest-serving post-communist PM, the otherwise much-maligned Ferenc Gyurcsany, is credited with having acted swiftly and decisively in calling on a $25.1bn IMF-led credit facility in autumn of 2008. "The previous government was able to carry out the necessary consolidation to stabilize the economy. Hungary cannot be compared to Greece now, perhaps it could have been two years ago, though it has always had a lower level of indebtedness," says Janos Samu, an analyst at Concorde Securities.

Thus, what at the time made Hungary look like a desperate borrower calling in a last line of credit, served actually to stop the rot before a "Greek tragedy" scenario could unfold. "Hungary really had no alternative but to take out the IMF loan, although it got the loan on good terms with interest repayments below the market rate," explains Samu. When Greece finally secured its much larger financing package, it did not obtain such preferential terms as Hungary did.

Lowering expectations

Analysts had expected that Hungary would be able to meet the deficit target of 3.8% of GDP necessary to fulfil the IMF requirements in 2009, so the 3.6% of GDP it actually realized saw the country do better than expectations for once.

This improved outlook contrasted sharply with the situation in early June when the forint slid dramatically, plummeting to 287.46 to the euro on June 7 from 274.03 on June 3. This happened in the wake of comments from officials suggesting that Hungary's finances were comparable to those of near-bankrupt Greece. Interestingly, the offending remarks did not come from ministers, but by the prime minister's spokesman and a deputy head of the PM's Fidesz parliamentary party. Many saw this scaremongering as preparing the country for further austerity rather than the good-time economics that Fidesz had been voted in on.

In the wake of the comments, policymakers and analysts rallied behind Hungary, dismissing any comparison with Greece. BNP Paribas slammed the government for the irresponsible rhetoric, dismissing the Greek comparison out of hand, but recognising the aim of making the case against fiscal loosening and ultimately praising the decision not to loosen the purse strings. "Prior to the comments, Hungary was starting to again become attractive to investors, who viewed the debt reduction as positive. Then the optimism, perhaps over optimism, was scaled back to neutral and now negative after the breakdown in talks with the IMF/EU," says Samu.

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