György Matolcsy
At Long Last
1999 occupies an extraordinary place in Hungarian economic history. It is a rare occurrence in recent decades that the performance of every major aspect of the economy should be essentially better than expected. Three characteristics defined 1999: primarily, economic growth was considerable and macroeconomic equilibrium indices essentially improved, in spite of signs of a global financial crisis and a certain weakness in important export markets. GDP grew by 4.3 per cent, twice the average EU rate, and the balance of payments deficit fell from $2.3 billion in 1998 to around $2 billion. The budgetary deficit declined to 3.9 per cent of GDP in 1999. The primary equation shows a plus of 2.3 per cent of GDP. The foreign trade balance alone deteriorated, but a deficit which was less than $3 billion was accompanied by a significant improvement in the balance of payments.
By the end of 1999 economic performance had reached the 1989 standard in all essential aspects. That was the second defining feature of the year. An era came to an end in 1999, the era of decline and of unmanageable disequilibria. It is true that economic growth had started earlier -- first in the second half of 1993 and 1994, and then after 1997, but it was only at the end of the decade that the Hungarian economy made up for the losses of the nineties.
1999 was also the first successful year of a new economic model which was proclaimed as government policy in 1998. The new government's approach to essential economic questions differed from that of earlier administrations in the nineties. The supposition proved sound that the Hungarian economy had trans- gressed a stage where furthering growth went with a deterioration of equilibrium indices. Dynamic economic growth and an improvement in equilibrium were both characteristic of the performance of the Hungarian economy in 1999.
There was also evidence that growing consumption did not necessarily lead to runaway imports, thereby upsetting the balance of foreign trade. What was essentially responsible for the deterioration in the foreign trade balance was the narrowing surplus provided by the food industry and subcontracting. The export losses due to the crisis in Russia amounted to $300 million in 1999, more or less the amount by which the foreign trade balance declined.
In 1999 growing real incomes did not act as a brake on foreign investments: on the contrary, they proved to be an incentive. That was another point confirming the soundness of the new economic policy. The net inflow of operating capital in 1999 was $1.4 billion, $450 million more than in the previous year. True, half of this sum is accounted for by the diminishing working capital outflow of domestic firms, but it is nevertheless a fact that the 4 to 5 per cent growth in real incomes resulting in a 4.5 per cent growth in consumption far from damaging foreign investments, obviously acted as an incentive. This is in harmony with investors being interested in the quality of the skilled workforce rather than in low wage levels in Hungary.
1999 confirmed another economic recognition. Some economists and a number of politicians, including senior ministers, are convinced that tax reductions favour economic growth, and that the taxes paid by an expanded economy will more than make up for the loss in revenue. In 1999 the social security contribution of employers was reduced by 6 per cent, which had a beneficial effect on the economy as a whole. It benefited foreign investors and it strengthened domestically owned firms. Indeed, it even boosted the income of the exchequer.
A growth in consumption and incomes also helped. Gross incomes grew by 18.2 per cent in the state-financed sector, and by 15 per cent in the competitive sector at a time when inflation was running at 10 per cent for consumer goods. This too helped to produce an essential turn in the development of the Hungarian economy. Earlier economic growth was almost exclusively due to exports by large multinationals; in the second half of 1999, however, industry saw its domestic sales, which had stagnated in the previous seven years, beginning to grow significantly. The public started to make up for consumption that had been postponed earlier. This started to show in the boosted sales of the food processing industry, of electric appliances and tools, and of certain products of light industry. More than a hundred thousand new motor vehicles were sold in Hungary in 1999 as against the earlier forty thousand in 1998, which in itself indicates a considerable strengthening in public confidence. Growing sales was both cause and consequence of the domestic boom. As a result, consumption may grow and this in turn means more orders for domestic firms. The fact that, after a slowing down in 1997 and after, the retail trade activity clearly livened up in the second half of 1999 signifies that what we are confronted with here is not merely a making up for consumption postponed, but a general growth in consumption made possible by growing real incomes. At the same time, naturally, there was a decline in the growth of net household savings from 800 billion forints in 1998 to 650 billion forints. The significant reduction in real interest rates very likely had a decisive role in this.
A further objective of the new economic policy was met in 1999. The eco-nomic upturn went with the creation of new jobs and growth in employment. After nine years of decline and a brief period of stagnation, employment started to grow again in 1998 (by 55,000, or 1.4 per cent). In 1999, a clear major breakthrough occurred: the number of those employed went up by 114,000, that is 3.1 per cent. What is most encouraging is that the improvement was above average in regions of high unemployment. As against 1.9 per cent in Western Transdanubia and 2.1 per cent in Southern Transdanubia, employment grew by 4.8 per cent in the Southern Great Plain and by 4.5 per cent in Central Transdanubia.
Entrepreneurs accounted for the greatest growth in the number of those employed; the staff of firms employing more than five grew by 10 to 15 per cent in the engineering industry and in commerce, at a time when the state-financed sector showed a decline of 2.5 per cent, which is good news in itself. Taken as a whole the domestic rate of unemployment declined by a full percentage point to 7 per cent, as against the 8.9 per cent average for the EU.
Hungarian economic performance in 1999 was good. An essential consensus prevails in this respect amongst economic analysts and their institutions in Hungary and outside. This is highlighted by the fact that the expectations at the beginning of the year of both analysts and investors, as regards the economic prospects of the region -- and of Hungary -- were fairly pessimistic. Let us admit it, there were good reasons for doubt and there was some foundation for the lack of faith in the confident and optimistic objectives and indices published by the government. Around the middle of 1997, the storm clouds of a global financial crisis grew and the Russian crisis occurred in August 1998. The boom significantly abated in the country's major export markets and international investment institutions were reluctant to exempt Hungary from the Eastern European crisis zone. Between mid-1998 and mid-1999, world economic centres thought that an ever deepening world financial crisis was very much on the cards and were reckoning with the occurrence of a universal economic crisis in its wake.
Things did not happen that way, but it was by no means clear early in 1999 that they would not. All credit is therefore due to the Hungarian government for not falling into a slough of despair, for resisting the advice of many to introduce general restrictive financial measures. Instead of panicking the government reacted calmly and cautiously. The price was in reduced investment. Although investment was favourable, planned government investments were literally washed away by last year's heavy floods or disappeared in a changed international economic environment produced by the threat of a universal financial crisis. Credit is due to the government not only because a reduction in investments was used as a shield against introducing restrictions, but also because extra privatization and concessional income was used to shore up the ramparts of the budget. Cautious defence and bold attack were both characteristic of 1999 economic policy. Zsigmond Járay, the Minister of Finance, clenched his teeth and kept his faith instead of clamouring for restrictions.
We would be deluding ourselves if we did not face up to all that went amiss in 1999. Housing construction sank to an all-time low. The roughly 17,000 homes built were even below 1920s figures. It is good news that the budget ended up 50 billion forints better than planned, but it is bad news that 20 billion forints had to be spent on flood relief, since that amounts to the costs of 50 to 60 kms of unbuilt motorways. Nothing came of a number of major local government communal investments, nor can the health services look back to 1999 as a good year.
A significant improvement in the financial and economic standing of Hungary occurred early in the year 2000. This was based on a performance which was much better than expected. Hungary is reckoned a success within the region, as the most attractive area for investment. But there are also major risks associated with this good news. It will prove very difficult to repeat last year's 4.5 per cent reduction in the rate of inflation -- which was something to boast about by any standards. An acute difference between Hungary's "off-shore" area and the country's customs area persists, which is manifest in differences between GDP and national income. Because of the differences between GDP and the national income which can be consumed in Hungary -- in 1999 GDP grew by 4.3 per cent but GNI by only 2.5 per cent -- the income of the population and domestic consumption cannot grow at the same rate as GDP. Infrastructural bottlenecks survive, which make it impossible for large parts of Hungary to compete on an equal footing for domestic and foreign capital. In its absence there is no modernization and there are no well-paid new jobs.
Early in 1999 the government avoided the trap jointly sprung by the threatening world financial crisis and the peculiar structure of the Hungarian economy. Early in the year 2000 a similar snare, or rather, its reverse can be discerned. While last year the danger was excessive pessimism and the introduction of a package of general restrictions prompted by it, what is dangerous now is the presumption that we have already successfully taken the first decisive step in making up the economic leeway and in mass upward mobility. There are risks in believing that from now on the path will be smooth and that success is certain. The right policy was needed to avoid the snares and pitfalls of excessive pessimism in 1999, and that is needed now too, since faith in automatic success is as dangerous a trap. The true lesson of 1999 is that business and people in their private life profited from the participation of government in the economy, both because of what the government did and also because of what the government refrained from doing.
György Matolcsy
is the Minister for Economics Affairs.
