IMF urges Hungary to reduce state debt further

“Hungary has achieved several years of strong growth and substantially reduced its external debt. However, the public debt ratio has come down only to a limited extent. With economic expansion well entrenched, now is the time to do more to reduce this vulnerability and create space for policy to be able to react again when new shocks hit,” the IMF staff said in the concluding statement of their 2018 Article IV mission, cited by national news agency MTI.

“Rebalancing the policy mix and advancing structural reforms would also help moderate the reduction of the external current account surplus that is being driven by strong domestic demand,” they added.

The IMF staff put Hungaryʼs GDP growth this year at “around 4%,” supported by private consumption and European Union-funded investments. The output gap has closed and will turn positive over the medium term, they added, projecting a gradual deceleration of growth starting in 2019 as absorption of EU funding tapers off, “unless substantial structural reforms are implemented to boost productivity and potential growth.”

“Downside risks have increased with tightening global financing conditions, recent developments in capital markets, and growing trade tensions,” the staff warned. They noted that the general government deficit target of 2.4% of GDP in this yearʼs budget is almost half a percentage point over the 2017 target, while conceding that the governmentʼs 2019 budget draft, which targets a 1.8% deficit, is “an important step in the right direction.”

The staff recommended a set of “growth-friendly fiscal measures” that would achieve smaller deficits starting in the second half of 2018 and continuing over the medium term. They also suggested phasing out remaining sectoral taxes, broadening the tax base, further improving tax administration, “modernizing” property taxes, reforming public administration, and eliminating generalized subsidies, while protecting the poor via targeted measures. They said incentives that stimulate housing demand, “especially the reduced VAT on new dwellings,” should be phased out.

The IMF staff said monetary policy stimuli would need to be gradually scaled back once inflation approaches the upper half of the 3%+/-1% tolerance band of the National Bank of Hungary (MNB) in a sustainable way. They welcomed the MNBʼs recent communication, “which emphasizes the commitment to its inflation target and keeps the options open to take any action to achieve it.”

The IMF also welcomed the MNBʼs continued enhancement of supervisory practices and guidelines, in line with EU requirements, noting that the central bank has preemptively tightened macroprudential rules to reduce risks, while encouraging fixed-interest mortgage lending. In the banking sector, they acknowledged profitability and strong capitalization, increased private sector lending, including to SMEs, and a decline in the stock of non-performing loans (NPLs).

The staff welcomed the establishment of the Competitiveness Council, a body of business leaders and experts established to make recommendations to the government, and the implementation of some of those recommendations. To further improve the business environment, the IMF said it is important to address challenges in the areas of obtaining construction permits and electricity connections, ease of paying taxes, and perceived corruption, as well as leveling the playing field for all investors by reducing red tape and simplifying the regulatory environment.

The IMF staff team, led by Khaled Sakr, visited Budapest on June 14-26. They met with Ágnes Hornung and Péter Benő Banai, state secretaries at the Ministry of Finance, as well as with MNB Deputy Governor Márton Nagy and other senior officials and representatives of the private sector and think tanks.