Flirting with the IMF

There is much at stake in the early stages of a relationship: it is when the parties decide whether it is worth continuing or not. But what happens when one keeps leading on the other, leaving them unsure about their real intentions?

One year after it first raised the possibility of an IMF loan, Hungary has not struck a deal yet. Last week, however, the prime minister said the country was very close to an agreement. The PM’s remarks came after the European Commission (EC), in its fall forecast, set Hungary’s deficit below 3% of the GDP in 2013. This may lead to a breakthrough in the talks with international lenders, Viktor Orbán said commenting on the figure.

Talks on a potential IMF deal have been going on for more than a year and the parties have exchanged information several times, but no real progress has been made. A major barrier in the way is that the Hungarian government is not being offered what it has asked for, the government says. Hungary needs a ‘credit’ that helps shield the country against the repercussions of the crisis, Mihály Varga, minister without portfolio responsible for IMF negotiations said last week in an interview on national television. What the IMF is offering is a loan with binding obligations concerning the country’s economy, he added. Many of the terms set by the IMF-EC mission such as a cut in pensions, or the launch of a property tax, are out of question, Varga said, explaining why the talks have not gone further.

Progress has also been hampered by some of the government’s economic measures. Last December talks broke down over a proposed central bank law that international lenders regarded as endangering the independence of the National Bank of Hungary (MNB) and set its amendment as a precondition to continue.

The government was presented with the conditions of the deal in late July and August, and sent its response to the European Commission in September. There has been no step forward here, either. Still, with the Commission forecasting a lower-than-3% budget deficit for 2013, the PM claims the major obstacle has been removed.

“Budget deficit has never been a precondition for a potential IMF deal”, said Zsolt Szarvas, analyst of Brussels-based think-tank Bruegel. However, the expert believes it is quite a recognition that the EC projects a 2.9 %figure for next year, even if it means the government has to use the budget reserves to plug the holes. What is even more significant is that Hungary’s structural deficit, an indicator of real deficit, has been improved by 0.5% of GDP for 2013, Darvas added. Better figures will certainly help negotiations on a mid-term program. Yet the 2014 projections are not that bright: assuming that the government continues with its current economic policy, the Commission forecasts a higher deficit and a 1.5% drop in structural deficit to 2.6%.

As there is no budget for 2014, figures will likely change, the government claims. The expected discrepancy between official figures as well as the proposed economic measures already questioned by the EU will be a topic of future debates. This will probably not calm the markets, which is one of the reasons why an IMF agreement would benefit the country, Darvas claims. “The deal would set a transparent macroeconomic and structural path for the country that would be easy to follow and would improve investors’ confidence.”

Hungary’s fiscal position may have improved in the past two years, but consumer activity remains very weak, with retail sales volumes shrinking on a monthly basis. The government cut its GDP forecast to a contraction of 1.2% this year from 0.1% growth and predicts an expansion of 0.9% in 2013, compared with a previous forecast of 1.6%, which adds to uncertainty.

The government’s rhetoric does not help the country’s image, either. The Orbán regime has many times been accused of inconsistent communication on the negotiations. In part this has to do with politics: at home, the government tries to please voters by saying no to something that may bring more austerity. It also justifies the righteousness of its policy.

“The government has laid a number of cornerstones such as boosting childbirth or improving the social net and family security, and does not want to go back on those. It will stick with its predefined economic strategy,” said Gergely Kitta, senior researcher of Hungarian think tank, Századvég. “The deal would undoubtedly limit the country’s economic sovereignty. But considering the market’s perception of Hungary’s unorthodox economic policy, it may be wise to take it,” said Péter Krekó, an analyst at Political Capital, a think tank based in Budapest. “The percentage of those who agreed with the government resuming talks with the IMF in 2011 and 2012, even among Fidesz voters, is more than 50%,” said Krekó citing a study by Medián “which may explain the recent anti-IMF campaign.”

Last month, the Hungarian government ran a media campaign explaining to people how a deal pushed by the IMF could harm the country’s interests. The campaign served as a prelude to Fidesz’s future election campaign and was meant to evoke hostile feelings against the IMF, and indirectly, Gordon Bajnai, who will be positioned as the “PM candidate of the IMF”, Krekó holds. Varga said the campaign intended to discuss a significant issue that concerns the general public.

The government’s unwillingness to strike a deal under international lenders’ terms is understandable up to a point. The IMF does not have an excellent track record: the deal it brokered with Greece has a long way to go before delivering results. Other countries pressured into a deal so far, such as Ireland or Portugal, have seen a serious deterioration in the standard of living, though overall economic figures have improved. That may also account for a more flexible approach the organization has adopted. This IMF is no longer defined by restrictive tax policies set in the Washington treaty, and the fund is now more about advancing deals that focus on growth and development.

But is not the IMF that sets the terms exclusively. “It is the Commission that issues reports and initiates non-compliance procedures against the country, the IMF only reacts to these,” Kitta noted. There are growing complaints in Europe that the Commission’s approach casts doubt on the Washington-based organization’s apolitical status. Even within the two organizations, differences of opinion on how to best induce growth in crisis-stricken countries abound.

The government says the country needs the credit to fend off worsening external conditions, say, if liquidity problems arise and big states like Spain will have priority. If the global environment stays stable until the middle or the end of 2013, the country may not need external financing at all. “But why finance the debt from 6% interest rate loans when we could reach 3% rates with the deal,” asks Darvas. Hungary may not need to withdraw from the market entirely: financing half of its debts from loans would help too, the expert added.

“Until it reaches the verge of default, the government will not agree on a package,” Krekó said. The overall goal is to retain cohesion funds, worth close to HUF 2,000 billion. “Should these funds get frozen, it will hurt not just the economy but also the interests of domestic businessmen the government is relying on.”

Will the country reach an agreement with the IMF anytime soon? As anyone who has ever dated knows, the answer depends on whether the government really wants to commit. Or not.

Timeline:

1945: The International Monetary Fund is established. Its aim is to support countries facing economic difficulties financially and help development and growth by enforcing reforms.

1982: Hungary becomes a member of the International Monetary Fund.

1996: Hungary applies for a loan. The measure comes as the aftermath of the Bokros-package, a set of austerity measures named after the then-finance minister of the country. The loan was repaid in 1998.

2008: Ten years after paying off the previous loan, Hungary applies for another. The deal is struck in less than a month:  Hungary receives a €12,5 billion emergency bailout in the immediate aftermath of the financial crisis, with funds from the IMF, the EU and the World Bank.

11/2011: News of a potential new deal appear in the Hungarian media. The government highlights that it has not applied for a loan, but rather for a precautionary credit line that would help shield Hungary’s markets against turmoil in the euro zone and rein in borrowing costs. The forint strengthens on the news.

12/2011: Preliminary talks between the country and the European Commission and the IMF are suspended when the EC delegation leaves the country. Representatives suspended talks due to a proposed amendment in the bill regulating the central bank that could jeopardize the bank’s independence, EU Monetary Affairs Commissioner Olli Rehn’s spokesman in Brussels said later. The Hungarian forint hits a record low (HUF 320=€1) on the back of the news.

The country has one week to withdraw the central bank law. In a radio interview the PM says the central bank law may change, but other pieces of legislation are domestic issues.

Commissioner Rehn announces that Hungary has not taken sufficient measures to adjust its excessive deficit in a sustainable manner.

01/2012: National Economy Minister György Matolcsy participates in a committee meeting where the budget is discussed. The IMF publishes a report on Hungary’s outlook citing domestic economic policy as one important contributor to poor macroeconomic performance and economic uncertainties surrounding the country. Bond yields climbed more than 10% on worries that in the midst of the financial turmoil hounding much of Europe, Hungary may fall short of financing its debt load

02/2012: The volume of safety measures could be anywhere between €15-20 billion, says Mihály Varga, minister responsible for the talks.

 07/2012: Following a nearly six-month halt, talks restart. The IMF presents its deal to the Hungarian government. 

08/2012: The Commission also hands its set of terms over to Hungary.

09/2012: After studying the conditions set by prospective lenders, the Hungarian governments sends it response to Brussels. It says it will not allow wage and pension cuts or launch a property tax – reforms should strictly concern economic issues, not social ones.

10/2012: The government runs a media campaign on the risks involved in accepting a deal by the IMF.  

11/2012: One year into the talks

After the EC’s fall forecast is released, the PM says the main obstacles have been removed and there is nothing in the way of negotiations accelerating. “Hungary is very close to reaching an agreement.”

The IMF may not be so sure. Speaking before Orbán’s pronouncement, Gerry Rice, director of the external relations department of the IMF told a press conference in Washington: “I can say directly I do not have a date for the resumption of the mission to Hungary.” He adds: “A meaningful progress on program negotiations would require a clear indication and commitment from the authorities that they see the IMF and the EC as valuable partners.”