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City sees future problems with “ad hoc” fiscal measures to raise problems later

Hungary is set to meet fiscal targets for this year and 2011 by the planned tax and pension funds measures but the plans are based on “ad hoc” steps which are likely to recreate fiscal problems once they have run out, London-based emerging markets analysts say in their latest comments.

In its regular fortnightly emerging markets report released to investors on Friday, Goldman Sachs said that since the government has decided to implement a “low quality adjustment on an ad hoc basis”, there is a risk that public debt could become unstable again.

Under such scenario, in order to reduce debt, primary surpluses will have to be higher than under a scenario with sustainable adjustment measures, as investors would be less convinced that the temporary tax measures can improve sovereign creditworthiness in the long term, and they would likely demand higher risk premia on Hungarian debt, resulting in a higher interest rate bill. This would automatically require a higher primary surplus to keep the overall deficit in check, GS explains.

Without sustainable measures now, fundamental problems will re-emerge and the government will only postpone the necessary fiscal reform. This may become difficult in 2013-14 given the proximity of the next elections, and the deficit may grow substantially ahead of the vote, Goldman Sachs said.

The government should be able to bring the 2011 deficit down to or below 3% of GDP. However, “we are not convinced that the European Commission will be satisfied with these deficit numbers at face value and declare that Hungary has complied with the targets agreed under the Excessive Deficit Procedure”. The EU has already criticized the government for the suspension of pension transfers, and Eurostat may decide to treat those undisbursed transfers as a liability, GS said in the report.

In a separate comment, Barclays Capital said on Friday that while the commitment to the below 3.0% of GDP deficit target is welcome, the proposed measures “disappointed those who had hoped for more structural spending reforms”. In its Emerging Markets Weekly report released in London, Barclays Capital said that the scenario presented by the government “suggests an inward looking muddle-through approach” rather than the reform-driven breakthrough with regard to Hungary's fiscal sustainability dynamics that “many had hoped for after Fidesz won the local elections so convincingly”.

Once the budget for 2011 is official, it will be important to monitor how the rating agencies react, given that Standard & Poor's rating of Hungary remains only one notch above non-investment grade and the outlook is negative, Barclays Capital said. (MTI – Econews)