Central bank outlines economic challenges

The study says risk to Hungary's adoption of the euro should be reduced through further product and labor market reforms to create a competitive economy with high employment and increasing productivity, allowing the country to take full advantage of the euro. Though it notes that these reforms should be implemented regardless of the aim to join the euro-zone.

The fiscal consolidation is, in contrast, closely connected with euro accession, the study says. Hungary must continue its fiscal consolidation even after it reaches the 3% of GDP deficit threshold for adopting the euro, because it must achieve a budget position that allows it to manage possible economic shocks with only fiscal tools after giving up monetary tools with its euro-zone accession. The consolidation should continue until Hungary reaches its mid-term goal of a 0.5% of GDP deficit ratio. The study says that legislation on public finances - legislation that enjoys broad support in Parliament - would help the process of fiscal consolidation.

The sustainability of the fiscal consolidation will be endangered if it has adverse effects on long-term growth, the study warned.

The study's authors therefore urge growth-friendly measures, such as the reduction of payroll taxes and the elimination of regulations that at present discourage people from taking jobs. These measures would not only spur growth, but also boost the chance for the long-term success of the country's budget consolidation. The challenge is to take these steps strictly in keeping with the path set in Hungary's convergence program, they said.

Hungary's GDP growth slowed to 1.3% in 2007 from 4% in 2006 after the government introduced a fiscal adjustment program in the autumn of 2006.

The study was published just a few days after Standard and Poor's said tax cuts planned by the government for 2009 were “ill-timed” and further demonstrate Hungarians' fading appetite for consolidation in its announcement of a downgrade of the outlook for the country's sovereign rating to negative from stable.

The government is drawing up several scenarios for the tax changes - among them reductions to payroll taxes - and discussing them with experts. Though Finance Minister Veres said on Tuesday that rising yields will likely reduce the tax savings from the changes from an earlier projected Ft 200 billion – Ft 250 billion. (MTI-Econews)