Identifier
Created
Classification
Origin
09BUDAPEST132
2009-02-20 14:00:00
UNCLASSIFIED//FOR OFFICIAL USE ONLY
Embassy Budapest
Cable title:  

(CORRECTED VERSION) 2009 GYURCSANY PLAN: A

Tags:  EFIN ECON HU 
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FM AMEMBASSY BUDAPEST
TO RUEHC/SECSTATE WASHDC PRIORITY 3898
INFO RUCNMEM/EU MEMBER STATES COLLECTIVE PRIORITY
RUEAIIA/CIA WASHINGTON DC PRIORITY
RUCPDOC/DEPT OF COMMERCE WASHDC PRIORITY
RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
RHEHAAA/NATIONAL SECURITY COUNCIL WASHINGTON DC PRIORITY
RUEHBS/USEU BRUSSELS PRIORITY
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UNCLAS SECTION 01 OF 04 BUDAPEST 000132 

SENSITIVE
SIPDIS

DEPARTMENT FOR EUR/CE, EB/OMA, INR/EC
TREASURY FOR ERIC MEYER, JEFF BAKER, LARRY NORTON

E.O. 12958: N/A
TAGS: EFIN ECON HU
SUBJECT: (CORRECTED VERSION) 2009 GYURCSANY PLAN: A
POSITIVE STEP, BUT "NOT A WINNING PROGRAM"

UNCLAS SECTION 01 OF 04 BUDAPEST 000132

SENSITIVE
SIPDIS

DEPARTMENT FOR EUR/CE, EB/OMA, INR/EC
TREASURY FOR ERIC MEYER, JEFF BAKER, LARRY NORTON

E.O. 12958: N/A
TAGS: EFIN ECON HU
SUBJECT: (CORRECTED VERSION) 2009 GYURCSANY PLAN: A
POSITIVE STEP, BUT "NOT A WINNING PROGRAM"


1. (SBU) SUMMARY: Prime Minister Gyurcsany on February 16
presented to Parliament a package of proposed measures
intended to plug a roughly $1 billion hole in this year's
budget and stabilize Hungary's careening economy through
incentives to increase employment and investment. The tax
adjustments and budget savings contained in the program
represent neither fiscal stimulus nor fiscal consolidation;
apart from filling this year's budget gap, the measures are
designed to be budget neutral. Proposals affecting
businesses eliminate the "solidarity tax" and decrease
welfare contributions, but widen the tax base and increase
the tax rate, resulting in a negligible overall benefit. In
addition to a number of positive, but modest, steps to
rationalize Hungary's generous social welfare and pension
systems, the proposal includes a hodge-podge of measures that
the GoH has either already put in train or has no realistic
hope of achieving during the remainder of its term. This new
"Gyurcsany Plan" will almost certainly have a more salutary
impact on Hungary's economy than did the Prime Minister's
2006 revenue-based austerity program, but most commentators
agree that the measures are too little and too late to
prevent a deep economic downturn in the near-term and,
although they are steps in the right direction, they are not
sufficient to place the Hungarian economy on a more
sustainable and competitive footing over the longer term.
END SUMMARY.

ANOTHER "GYURCSANY PLAN"


2. (SBU) In a speech before Parliament on February 16, Prime
Minister Gyurcsany formally unveiled a five-part package of
proposed measures designed to prevent the 2009 budget from
taking the Hungarian economy off course, potentially
reversing the deficit reduction from 9.3 percent of GDP in
2006 to less than 3.5 percent in 2008. This new "Gyurcsany
Plan" is also intended to lay a foundation for improving
Hungary's investment climate and competitiveness. The
proposed measures, however, clearly assign priority to
near-term job preservation and creation, particularly at the
lower end of the wage scale, and efforts to get Hungarians
off the dole and back to work. They are not a comprehensive
overhaul of Hungary's bloated social services sector. In a

televised speech on February 17, Gyurcsany explained that the
GoH is not concerned right now with deep institutional
reforms such as health care and education, because these
would lead to layoffs. (Comment: In reality, the Prime
Minister probably also wants to avoid repeating the failure
of his last attempt to initiate modest health sector reforms.
End Comment.)


3. (U) Apart from some specific tax adjustments, spending
cuts, and investment incentives, most of the program appears
to be more of a wish list than a detailed course of action.
We expect further details to emerge as the proposals are
submitted for parliamentary debate in the coming weeks.

RESCUING THE 2009 BUDGET


4. (SBU) A number of the planned spending cuts appear
directly aimed at filling a roughly $1 billion gap in the
2009 budget. The gap was created by the GoH's reinstatement
last December of the "13th month wage," following the earlier
removal of this benefit as part of Hungary's IMF/EU bailout
last fall. In addition, forecasted budget revenues have
recently been revised downward in light of the deteriorating
Hungarian economy. Official forecasts now project a 3-3.5
percent GDP contraction this year, in contrast to a
previously projected 0.9 percent contraction. Passage of
these cost savings measures would allow the GoH to meet a
revised deficit target of 2.9 percent of GDP, up from an
earlier target of 2.6 percent. This is still below the 3
percent threshold for remaining in compliance with Hungary's
euro-convergence plan and IMF requirements.


5. (U) The GoH expects to shore up its 2009 budget with the
following:

($ millions)

Frozen ministry expense allocations 250
Reduced housing subsidies 30

BUDAPEST 00000132 002 OF 004


Tightened disability pension eligibility 42
Decreased residential gas subsidies 83
Interest savings 100
Reduced prescription drug subsidies 125
Reduced agricultural subsidies 138
Tightened welfare benefit eligibility 25
Revenue from CO2 emission sales 83

TOTAL 876

A MORE EMPLOYMENT-FRIENDLY TAX REGIME?


6. (SBU) The first chapter of the new Gyurcsany plan focuses
on establishing a more "work-friendly" tax regime. According
to Peter David, CEO of the American Chamber of Commerce in
Hungary, the proposed measures mark a step in the right
direction--they generally accord with the recommendations the
AmCham and the "Big Four" accounting firms made last
year--but, in addition to the fact that they are several
years too late, they "lack the magnitude" necessary to
improve Hungarian competitiveness. The proposed tax cuts are
entirely compensated by other tax hikes in 2009.


7. (SBU) The proposed tax cuts include a reduction of the
employer's share of employment taxes from 32 percent to 27
percent, an important step toward lowering Hungary's "tax
wedge," which is among the highest in Europe. This reduction
would apply to lower wage earners beginning in July and to
all wage earners from 2010. Hungary's largest trade union
association has already registered its objection to the fact
that the plan would cut taxes paid by employers rather than
workers' contributions. A proposed personal income tax
reduction, whereby a slight increase in tax rates--from 18/36
percent to 19/38 percent--is more than offset by an increase
in the income taxed at the lower rate, also appears to aim at
enticing job-seekers into the registered workforce.
Elimination of the 4-percent "solidarity tax" on businesses
is also a step in the right direction, but the draft plan
offsets its positive effects by increasing corporate tax
rates from 16 to 19 percent and widening the tax base through
the elimination of most allowances. The tax plan would also
eliminate the 4 percent "solidarity" surtax on high-income
individuals.


8. (SBU) The GoH proposes to pay for these tax cuts by
increasing taxes on consumption: the VAT would rise by 3
percentage points to 23 percent, as would excise duties on
tobacco, alcohol and fuel by 3-7 percentage points. Most
analysts question the value of raising taxes on consumption
during a deep global recession. Along with decreasing
domestic demand during a time when export markets are
shrinking, a higher VAT would impose a greater burden on
local governments and entities seeking to co-finance
EU-funded projects. Local tax reform advocates, however,
applaud the proposed elimination of various tax allowances,
which will make the tax code simpler, more transparent, and
more difficult to evade. A proposed tax levy on certain
welfare benefits would recapture funds for the budget while
also increasing the relative value of employment for those
currently living on public support.


9. (U) The proposed tax modifications would have the
following effects on the budget in 2009 and 2010:


($ millions) 2009 2010

Reduced employer contribution (346) (1,279)
Reduced personal income tax (146) ( 804)
Eliminated solidarity tax for individuals ( 42) ( 121)
Eliminated solidarity tax for businesses 0 ( 867)
Change in corporate income tax 0 708
Increased VAT 446 1,033
Increased excise taxes 67 167
Increased rehabilitation contribution 0 88
Tax on welfare benefits 0 896
Change in welfare benefits 21 125

TOTAL 0 ( 54)

TIGHTENING THE SOCIAL SAFETY NET

BUDAPEST 00000132 003 OF 004




10. (SBU) The new plan's second and third chapters aim to
rationalize, without overhauling, the social safety net by
tightening eligibility for social benefits, enhancing
incentives to work, and placing the pension system on a more
sustainable footing. An already existing "welfare-to-work"
program would be expanded and the concept applied to family
allowances, which for families with older children would
become education allowances subject to cancellation if the
child leaves school. As with disability benefits,
eligibility for child-rearing benefits would be tightened,
while measures to promote daycare provision would make it
easier for young parents to go back to work. The plan would
also create by 2011 a "single social account" to allow
authorities to track the aggregate level of support received
by an individual to ensure that income from social support
does not exceed that which could be earned through
employment. Savings on pension costs would begin in 2010
with the elimination of the "13th month pension" and a change
in the annual indexing formula that would base pension
increases more closely on inflation and less on real wage
growth. A proposed gradual increase in the retirement age
from 62 to 65 between 2016 and 2024 would bolster the
system's long-term sustainability.

ECONOMIC DEVELOPMENT AND ADMINISTRATIVE REFORM MEASURES: A
SHOTGUN APPROACH


11. (SBU) The final two chapters of the plan focus on
measures to promote business and infrastructure investment
and to streamline the public sector. The laundry list of new
and existing, short-term and long-term business development
initiatives includes a variety of proposed energy and
transport infrastructure investments, rural development,
market support for Hungarian agricultural and food products,
a near-term effort to attract foreign investment in low
value-added/high-employment sectors, and a longer-term effort
to develop Hungary's knowledge-intensive industries. The GoH
plans to step-up its commercial diplomacy with "countries
less affected by the crisis," among which it includes Russia,
and back these efforts with export promotion assistance and
credit insurance for Hungarian businesses. A measure to
promote employee retention would allow companies to use EU
funding to place employees in job-related training one day
per week. The package would roughly triple funding to
support small and mid-sized businesses and start-ups to $5.8
billion through 2010, plus an additional $3.75 billion in
government guarantees, through accelerated use of EU funds
and previously-budgeted Hungarian co-financing.


12. (SBU) The plan presents a wish list of measures to
streamline public administration, including reducing the size
of Parliament to 199 members, cutting local government
representation by 50 percent, reforming MPs' expense
accounts, and a variety of measures to reduce the size and
expense of Hungary's extensive bureaucracy. Many of these
measures would require a two-thirds majority in Parliament to
pass. (Comment: It is highly unlikely that these measures
would be approved, given the current political climate. End
comment.) The remaining proposals constitute a vague list of
good intentions to cut red tape, improve bankruptcy
protection, and reduce corruption. We anticipate further
details on these in the coming weeks.

SECOND VERSE, SAME AS THE FIRST?


13. (SBU) Responses to the new Gyurcsany Plan so far have
been fairly predictable. The IMF, the EU, and financial
analysts have cautiously praised the measures as a step in
the right direction, albeit one that probably should have
been taken months or years ago. They also emphasize that
further budget cuts and deeper institutional reforms will be
necessary to place Hungary on a more sustainable long-term
path. On the other hand, opposition leader Viktor Orban
immediately lambasted the plan as not simply "yet another
brutal austerity package," but a package of "hopelessness,
resignation, and surrender." He offered few specifics on
what Fidesz would propose as an alternative except to
emphasize the need to cut taxes, but his reaction is a likely
foreshadowing of public reaction, particularly as increased
consumption taxes and decreased social benefits would indeed

BUDAPEST 00000132 004 OF 004


pour salt on the wounds of Hungary's struggling households,
potentially deepening an already severe recession. Speaking
at an economic conference on February 19, Free Democrat
(SzDSz) chairman Gabor Fodor described the new package as
"too little, too late," arguing that budget balance should be
achieved by spending cuts rather than by tax hikes. Eva
Palosz, director of Kopint-Tarki research institute, supports
the tax changes, but also emphasizes the need to cut
spending. The tax and savings proposals are thus likely to
undergo some changes as the Gyurcsany government negotiates
with SzDSz and MDF for support for the plan; SzDSz has
already vowed not to support any tax hikes.


14. (SBU) Comment: Speaking to business leaders earlier this
week, Gyurcsany admitted that, from a political standpoint,
this new package is "not a winning plan." It does not appear
to be from a business standpoint, either. Given his already
low level of popularity, he would have had little to
lose--and the Hungarian economy much to gain--from a much
more aggressive reform package. End Comment.
Foley