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Text File | 1994-05-02 | 21KB | 401 lines

<text> <title> Hungary: Economic Policy </title> <article> <hdr> Economic Policy and Trade Practices: Hungary </hdr> <body> 1. General Policy Framework Hungary's first democratic government in over 40 years took office in May 1990. Its ambitious four-year reform program seeks to replace central planning with private ownership and free markets. Hungary's receptive investment climate has attracted over half of all foreign investment in Eastern Europe, led by the United States with $800-850 million by late 1991 (of some $2 billion total). Hungary is also incorporating Western practices and business safeguards into its legal code. The short-term result of this reform is a sharp recession. Unemployment could hit 370,000-400,000 (8 percent) by the end of 1991. Inflation for 1991 will be around 37 percent, fueled by subsidy cuts, freer prices and higher state prices. GDP for 1991 will drop 6-8 percent over 1990, industrial output 10-14 percent, and consumption 6-7 percent. Eastern export markets in the former Council for Mutual Economic Assistance (CMEA or COMECON) have collapsed following the change to hard currency payments and world market prices on January 1, 1991 although an aggressive drive to shift to Western markets raised hard currency trade above 70 percent of Hungary's total in 1990. An association agreement with the EC and a free trade agreement with the European Free Trade Association (EFTA) should go into effect in early 1992, though Hungary will still face barriers in Western markets hindering its export efforts. Despite the short-term hardships, the commitment to marketization is already yielding positive results. Inflation is cooling rapidly. The small private sector, still omitted from official statistics, is booming, raising actual GDP and generating new jobs to cushion unemployment. There were 15,000 new private firms created in 1990 and over 12,000 more in the first half of 1991. Hungary's firm commitment to repaying its heavy foreign debt ($21 billion) has preserved its access to Western capital markets and buoyed foreign investors' confidence. By mid-1991 there were some 7,000 joint ventures in Hungary, up from only 200 in 1988. Most economists do not expect Hungary's economy to start turning upward until late 1992 at the earliest. Meanwhile, the Government is pressing forward with its reform program. Monetary policy has been tightened, though financial discipline still is not strictly imposed on banks and enterprises. Subsidies will be cut from 9.6 percent of GDP in 1990 to 4 percent in 1993. Liberalization of imports and the abolition of the state monopoly on foreign trade have resulted in 30,000 firms and individuals engaged in foreign trade in mid-1991. Average import duties have been cut from 50 to 17 percent in two years, and should fall to 8 percent upon conclusion of the GATT Uruguay Round. Hungary aims to lower state ownership of firms from 90 percent in 1990 to under 50 percent by 1994, although privatization is going more slowly than hoped and officials are searching for ways to speed the process. Privatization of Hungary's commercial banks is slated to begin in the fall of 1991. 2. Exchange Rate Policies The Government expects the forint (Ft) to be freely convertible by 1994, a goal which might be achieved as early as 1992 if the successful buildup of reserves continues. Hungarian officials see convertibility as a product of economic transformation, not a precondition for it. Among other things, reserves should rise to $3-3.5 billion (from $2.7 billion in October 1991), and inflation fall to around 15 percent from some 37 percent in 1991. Internal convertibility has already been introduced: Hungarian firms may hold hard currency accounts and convert forint profits (but not take out loans) to buy hard currency imports. Importers of all goods must put the forint value of each import transaction in a blocked bank account. Companies may repatriate hard currency profits. Joint ventures must open a forint-denominated business account at a Hungarian bank (which may be a joint venture bank, but not an offshore one). Hard currency proceeds of a joint venture must be returned to Hungary and held in forints in the company's commercial account; this exposes such firms to inflation and devaluation risks. Hard currency imports by a joint venture are subject to prior approval from the Ministry for International Economic Relations (NGKM), though this is virtually automatic for liberalized products accounting for 93 percent of imports. Commercial banks may now trade among themselves in hard currency instead of through the central bank. The forint is pegged to a basket of 11 currencies, weighted according to the currency composition of Hungary's foreign trade turnover in convertible currencies. The forint is depreciating against this basket due to the large inflation differential between Hungary and its Western trading partners. The National Bank can adjust the exchange rate by up to five percent without asking the government for a formal devaluation. Hungary devalued the forint by 15 percent in January 1991, and 5.8 percent in November 1991. The differential between the official and black market rates has narrowed to under 10 percent. However, falling trade competitiveness may make devaluation inevitable by the end of 1991. On January 1, 1991 the transferable ruble was replaced by hard currency accounting for all transactions among former CMEA trading partners. 3. Structural Policies Hungary has had value added (VAT) and personal income taxes since 1988. A draft tax law is presently under debate within the government in preparation for its submission to Parliament. The Ministry of Finance has announced that tax concessions for foreigners working in Hungary, eliminated in an early draft of the law, will remain intact in 1992. The basic business profit rate is 40 percent, but joint ventures with capital of over Ft 50 million (about $660,000), over 30 percent foreign participation, and at least half of revenues from manufacturing or hotel construction and management are eligible for tax reductions of 60 and 40 percent in their first and second five years of operation. These rise to 100 and 60 percent for priority export sectors, including telecommunications, tourism, agriculture and food processing, machinery and machine tools, pharmaceuticals, electronics and vehicle components. Profits reinvested into either the original firm or another existing or new Hungarian company receive a tax allowance. A January 1991 amendment to the 1988 Investment Act maintains generous tax benefits for foreign ventures. New depreciation allowances in January 1992 should reduce the tax burden on enterprises. The United States has a bilateral tax treaty with Hungary. Pricing policies: Since January 1991, over 90 percent of producer and consumer prices have been set by the market, up from 77 percent a year before. Price controls remain (with no distinction between domestic and foreign goods) on telecommunications, postage, milk and dairy products, transport, school textbooks, white bread, medicines and water. The Ministry of Agriculture can set minimum prices for wheat, maize, cattle and pigs for slaughter. Advance notice of price increases is required for printing paper, red pepper grist, sunflower oil and margarine. The Government can prohibit price increases by companies with a dominant market position. Regulatory Policies: Controls requiring licensing are in place for trading in arms and radioactive and nuclear materials, as well as sensitive dual-use technology. 4. Debt Management Policies Hungary has the heaviest per capita debt burden of Eastern Europe, seriously constraining privatization and new company formation. Gross foreign debt at the end of 1990 was $21 billion, an estimated 65 percent of GDP and about 200 percent of projected 1991 hard