swd (2016) 0085 - Ingen titel

Europaudvalget 2016
SWD (2016) 0085
Offentligt

EUROPEAN

COMMISSION

Brussels, 26.2.2016

SWD(2016) 85 final

COMMISSION STAFF WORKING DOCUMENT

Country Report Hungary 2016

Including an In-Depth Review on the prevention

and correction of macroeconomic imbalances

This document is a European Commission staff working document. It does not

constitute the official position of the Commission, nor does it prejudge any such position.

swd (2016) 0085 - Ingen titel

CONTENTS

Executive summary

Scene setter: Economic situation and outlook

Imbalances, risks, and adjustment issues

2.1.

2.2.

2.3.

2.4.

External sustainability: Continued adjustment in stock vulnerabilities

Private and banking sector adjustments

Elevating growth potential

MIP assessment matrix

Additional structural issues

3.1.

3.2.

3.3.

3.4.

3.5.

Fiscal policy

Labour market and social policy

Education and skills

Business environment

Network industries and environment

Overview Table

MIP Scoreboard indicators

Standard Tables

LIST OF TABLES

1.1.

2.2.1.

2.4.1.

B.1.

C.1.

C.2.

C.3.

C.4.

C.5.

Key economic, financial and social indicators - Hungary

Funding for Growth Scheme

MIP Assessment Matrix (*) - Hungary

The MIP scoreboard for Hungary

Financial market indicators

Labour market and social indicators

Labour market and social indicators (cont.)

Structural policy and business environment indicators

Green growth

LIST OF GRAPHS

1.1.

1.2.

GDP in constant prices (2010 price level)

External and domestic demand contributions to economic growth

swd (2016) 0085 - Ingen titel

1.3.

1.4.

2.1.1.

2.1.2.

2.1.3.

2.1.4.

2.1.5.

2.1.6.

2.1.7.

2.1.8.

2.1.9.

2.1.10.

2.1.11.

2.1.12.

2.1.13.

2.1.14.

2.1.15.

2.2.1.

Headline inflation and core inflation

Net lending/borrowing by sector

Components of Net International Investment Position

Key external vulnerability indicators: Hungary and regional peers

Short term external debt

Components of the external position (current and capital account)

Current and capital EU transfers (% of GDP)

Export and import growth in volumes (2008=100)

Evolution of trade balance

Evolution of Hungary's export market share (year-on-year)

Components of export market share change - goods (2008-2014, annual averages)

The evolution of real effective exchange rate (2008=100)

Export deflators (Euro based)

Share of export value by quality category (2009-2014)

Net foreign direct investment: Hungary and regional peers

Corrected and uncorrected net FDI inflows as % of GDP

Greenfield foreign direct investment inflows into Hungary

Private sector debt in relation to GDP - comparing East-Central European countries to

Euro Area

2.2.2.

2.2.3.

2.2.4.

2.2.5.

2.2.6.

2.2.7.

2.2.8.

2.2.9.

2.2.10.

2.2.11.

2.2.12.

2.2.13.

Non-financial corporations' y-o-y changes in debt-to-GDP

Private debt in relation to GDP, boom and gradual adjustment

Debt service ratio in Hungary, international comparison

Indebtedness of non-financial corporate sector as a proportion of GDP

Banking sector’s total assets and risk-weighted assets (2008 = 100)

Banking sector profitability

Average capital adequacy ratio in the Hungarian banking system

Non-performing loan ratios

5 year credit default swap (CDS) in Hungary and peer countries

Evolution of total assets in Hungary, Poland and the Czech Republic

Evolution of the cost-to-income ratio in Hungary, Poland and the Czech Republic

Fees and commissions as percentage of total assets - comparing Hungary to Poland and

the Czech Republic

2.3.1.

2.3.2.

2.3.3.

2.3.4.

3.1.1.

3.1.2.

3.2.1.

3.2.2.

3.2.3.

3.2.4.

Investment rate (investment/GDP) in Hungary and regional peers

Potential GDP in the EU

Different estimates of potential growth

Contributions to potential growth in Hungary and in regional peers

Gross government debt ratio: historic data and short term projection

Gross government debt ratio: the baseline scenario and alternative trajectories

Activity, employment and unemployment rates

Unemployment, youth unemployment, NEET and long-term unemployment rates

Enrolment of children up to three years-old in formal childcare in 2014

The severe material deprivation rate in the region (% of the population)

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3.2.5.

3.3.1.

3.3.2.

3.3.3.

3.4.1.

The share of people living in low work intensity households (% of people aged 0-59)

Unemployment rates by educational attainment in Hungary

Employment rates by educational attainment in Hungary

Segregation index 2010-2013

Hungary - evolution of business R&D intensity and public R&D intensity, 2000-2014

LIST OF BOXES

1.1.

1.2.

2.1.1.

2.2.1.

3.1.1.

Investment Challenges

Contribution of the EU Budget to structural change

How does the MNB's Self-Financing Programme reduce Hungary's external vulnerability?

The 2015 foreign exchange denominated loans conversion schemes

Developments in sector-specific taxes

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EXECUTIVE SUMMARY

This country report assesses Hungary's economy in

light of the European Commission's Annual

Growth Survey published on 26 November 2015.

The survey recommends three priorities for the

EU's economic and social policy in 2016: re-

launching investment, pursuing structural reforms

to modernise Member States' economies, and

responsible fiscal policies. At the same time, the

Commission published the Alert Mechanism

Report that initiated the fifth annual round of the

macroeconomic imbalance procedure. The Alert

Mechanism Report identified Hungary as

warranting an in-depth review.

Hungary is on a balanced, albeit still relatively

moderate growth path, gradually reducing its

macroeconomic imbalances.

Real GDP has

surpassed its pre-crisis peak and the growth

potential has been gradually recovering.

Nevertheless, Hungary's rate of potential growth

remains a full percentage point lower than before

the crisis, which was already comparatively low.

In 2015, GDP is estimated to have increased by

2¾%, supported by strengthening private

consumption and healthy export growth. A decline

in EU-funded investment is projected to slow

growth in 2016, but continuing support from

private consumption and a gradual recovery in EU-

funded investment will see growth returning to

levels slightly above potential in 2017. As the

impact of lower energy prices fades, inflation is

projected to revert to the central bank’s target rate

by the end of 2017.

Labour market developments have been

favourable, recently also in the private sector.

This drove the unemployment rate below its pre-

crisis level despite a rapidly increasing activity

rate. The long-term unemployment rate followed a

similarly favourable path. Stricter policies on

social transfers, early retirement and increasing

statutory retirement age strengthened labour

supply. On the demand side, job creation in the

private sector picked up starting late 2013,

although emigration and the rapid increase in the

public works scheme have also significantly

contributed to the fall in unemployment. Because

of the increasing activity rate, labour becomes a

positive contributor to the potential growth rate

despite population ageing. Looking forward, the

private sector is expected to increase its share in

job creation, helping to lift productivity growth.

An initially strong pickup in investment,

however, proved temporary.

The considerable

investment growth experienced in 2013-2014 came

to a halt last year and is projected to turn into a

slight decline this year as EU-funded investment

temporarily subsides. Corporate lending continued

to decline despite several policy initiatives of the

central bank to promote SME lending, and the

trend of private investment recently turned

negative again. Private investment is hampered by

a still cautious credit environment, a relatively

high country risk premium that keeps funding

costs high, and an unstable regulatory and tax

environment. These factors particularly hinder

foreign direct investment. Without a healthy

growth of market-driven private sector investment,

the contribution of capital accumulation to

potential growth and productivity growth is

expected to remain moderate, in particular as EU-

funded investment gradually subsides.

The budget deficit has been contained, keeping

the public debt ratio on a gradually declining

path.

The budget deficit declined significantly in

2015, and is expected to decrease further in 2016-

2017, albeit the latter is mostly due to the

improving economic situation. Since its peak in

2011 following the crisis, the public debt ratio has

declined moderately. Sizeable capital transactions

and valuation changes have also contributed to this

decline.

Overall, Hungary has made some progress in

addressing

the

2015

country-specific

recommendations.

It has achieved some progress

in the field of taxation by significantly reducing

the levy on credit institutions. Substantial progress

has been made in putting in place policy measures

to combat tax evasion. At the same time, limited

progress has been made to reduce the high labour

tax burden on low-income earners and to improve

the efficiency of the tax administration. However,

no progress has been made to reorient budgetary

resources from public works to other active labour

market policies and to improve the adequacy and

coverage of social assistance and unemployment

benefits. Moreover, limited progress has been

made to improve the employability of

disadvantaged groups, in particular to increase

their participation in inclusive mainstream

education. Overall, the quality of economic

policies has improved but important challenges

remain in this regard.

swd (2016) 0085 - Ingen titel

Executive summary

Regarding the progress in reaching the national

targets under the Europe 2020 Strategy, Hungary is

performing well in reducing the greenhouse gases,

increasing renewable energy and tertiary

education, while more effort is needed to increase

the employment rate, R&D expenditure, reduce

early school leaving and poverty. The main

findings of the in-depth review contained in this

country report, and the related policy challenges,

are the following:



External imbalances have been significantly

reduced but several risks remain.

Net

external liabilities declined from 116% of GDP

in 2009 to 73% by 2014. This is still high by

international comparison but it is closer to

levels of other converging economies, and the

rapid pace of decline is projected to continue.

The rebalancing of the economy has been

achieved through maintaining large current and

capital account surpluses, which reflect private

sector deleveraging and a sizeable inflow of

EU funds. The improvement in the external

balance continued despite a pick-up in

domestic demand. This was facilitated by a

partial reversal of previous market share losses

due to the rapid expansion of the automobile

industry and an export-oriented service sector,

benefitting

from

improved

cost

competitiveness. Moreover, recent policy

measures, including the conversion of foreign

exchange-denominated household loans and

the central bank's self-financing programme,

have contributed to a further reduction and

better distribution of foreign exchange risks.

Nevertheless, the still rather high gross external

debt and short-term rollover needs continue to

pose risks to the economy. Hungary’s limited

capacity to attract new foreign direct

investment also remains a challenge.



Internal financial imbalances have been

reduced but challenges remain.

Hungary

entered the crisis burdened with a relatively

high level of private sector debt, mostly

denominated in foreign currencies, but it has

made considerable progress in this area as well.

Private sector debt was reduced from its peak

of 117% of GDP in 2009 to 91% by 2014,

albeit at the inevitable price of a continuous

decline in private sector lending that hindered

investment. In 2015, however, lending to

households showed signs of recovery, albeit a

similar turnaround in corporate lending has yet

to take place. The conversion of household

foreign currency-denominated loans eliminated

one of the largest systemic risks. The

profitability of the banking sector is recovering

helped

the

improving

economic

environment and by a moderation in the

previous policies towards taxes on banks.

Nevertheless, banks remain cautious in their

lending even though they are well capitalized

and highly liquid. Going forward, the main

challenges are to reduce the high share of non-

performing loans and promote healthy growth

of market-based private sector lending.



Enhancing the growth potential is crucial to

further reduce the share of external and

internal debt in GDP and avoid depressing

domestic demand.

While labour market

policies helped in this regard, at this juncture

the key challenge facing Hungary is to find

new ways to accelerate total factor productivity

and promote higher investment in productive

assets. Improving financial intermediation and

nurturing innovation will assist in addressing

this issue.

Other key economic issues analysed in this report

which point to particular challenges facing

Hungary's economy are the following:



The public debt ratio has been declining

since the beginning of the decade, but its

level remains high, making public finances

vulnerable.

Medium-term debt sustainability

simulations indicate a steadily declining

trajectory reducing public debt towards 60% of

GDP. Sustained high primary surpluses and

savings from recent pension reforms are the

key factors driving this trend. However, the

debt-reduction path remains fragile. Hence,

maintaining fiscal discipline remains essential

in order to mitigate potential risks.



Despite considerable recent improvements

in tax policies and tax administration,

Hungary's reliance on sector-specific taxes

remains a potential barrier to investment.

These sector specific taxes pose additional

financial and administrative burdens on the

sectors concerned. While new sector-specific

swd (2016) 0085 - Ingen titel

Executive summary

taxes were introduced in 2015, the levy on

credit institutions has been significantly

reduced. On the negative side, several

indicators point to potential weaknesses of the

tax administration. The labour tax wedge for

low-income earners is still high, which may

affect their employability.



The public works scheme has contributed to

a fall in unemployment, but it does not seem

to sufficiently improve the employability of

the participants.

Active labour market policies

rely excessively on the public works scheme,

but the programme does not sufficiently help

participants acquire necessary new skills and

find jobs in the open labour market. This risks

locking participants into the scheme,

particularly low-skilled workers and people in

disadvantaged regions.



The labour market is steadily improving,

but labour, social and education policies face

several challenges.

The duration of

unemployment benefits is the lowest in the EU

and significantly shorter than the average time

necessary to find a job. Social and poverty

indicators have not improved in line with the

economic recovery. Moreover, the social

protection system does not seem to provide

adequate support to the most vulnerable. The

health system also faces major challenges. The

main challenge of the education system is to

reduce socio-economic differences and provide

all pupils with adequate basic skills and key

competences.



Competition in public procurement remains

limited while unpredictable regulatory

changes and administrative burden hamper

private business and investment.

comprehensive e-procurement strategy has not

yet been developed and corruption risks remain

high. While the government took steps to

reduce administrative burdens, Hungary's

restrictive regulations in services sectors, such

as retail, and a volatile regulatory environment

remain concerns for businesses.

swd (2016) 0085 - Ingen titel

SCENE SETTER: ECONOMIC SITUATION AND OUTLOOK

Graph 1.2:

External and domestic demand contributions

to economic growth

Macroeconomic developments

In 2015, the Hungarian economy is estimated to

have grown by 2.7 %, down from 3.7 % in

2014.

After a deep double dip recession, a steady

recovery started in early 2013. The rebound was

helped by a modest recovery in Europe and a

strong pick-up in EU-funded investment. More

recently, economic growth was driven by private

consumption and net exports supported by

improved cost competitiveness. Despite a solid

growth performance in the past three years when

Hungary recovered the losses of the double dip

recession, the economy keeps lagging behind the

best performers among its regional peers (Graph

1.1).

GDP growth is forecast to remain relatively

stable in 2016-2017.

It is set to decrease to 2.1%

in 2016 as EU funds disbursement temporarily

dips due to a transition between programming

periods and the slack in the economy diminishes.

However, as the implementation of EU-funded

projects gathers steam again, growth is projected to

bounce back to 2.5 % in 2017, slightly above

potential (Graph 1.2).

Graph 1.1:

GDP in constant prices (2010 price level)

-2

-4

-6

-8

-10

98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17

Investment

Consumption

Net exports

GDP growth (2010 prices)

Source:

European Commission

125

120

115

110

2008=100

Private consumption is expected to drive

growth going forward, while the contribution of

net exports is expected to decrease.

Measures

that eased the burden of mortgage loans on

households, low inflation, and high nominal wage

growth boosted real disposable income of

households in 2015, which in turn stimulated

consumption (Graph 1.2). This trend is foreseen to

continue in 2016, further helped by a 1 pp. cut in

the flat personal income tax rate. Investment is

forecast to contract further, mostly driven by the

availability of EU funding. Despite solid export

growth, the contribution of net exports to growth is

projected to gradually decline as domestic demand

strengthens.

Following a sharp decline in recent years,

inflation is projected to gradually return to the

central bank's target.

Inflation rate stabilised

around zero in the past two years, following a

steep fall in 2013 (Graph 1.3). In addition to the

global factors, low food prices, cuts in regulated

energy prices, and a major fiscal tightening in

2012 were the important driving forces of

disinflation in Hungary. Despite low domestic

inflation, GDP deflator remained above 2% in

2015, mainly due to a positive terms-of-trade

effect, helping to maintain a healthy nominal

growth. As a positive output gap is slowly opening

up and oil prices stabilise, inflation is forecast to

pick up to 1.7 % and projected to gradually reach

the central bank's target of 3 % by end-2017.

105

100

15*

Source:

European Commission

Note: Data is based upon European Commission winter

forecast 2016

swd (2016) 0085 - Ingen titel

1. Scene setter: Economic situation and outlook

Graph 1.3:

Headline inflation and core inflation

-2

scheme, which will help increase employment, but

sustained job creation in the medium-term will to a

considerable extent hinge on an improvement of

the private sector employability of the participants

in this scheme. Moreover, while the increase in the

number of frontier workers and people working

abroad helped reduce domestic unemployment, it

also started to create skill mismatches in Hungary.

Furthermore, despite the laudable improvement in

recent years, the activity rate is still below the

levels of regional peers and by some 5 pp. below

the EU average.

Budgetary developments and outlook

Consumer price index

Core inflation excluding indirect taxes

(1) Inflation and core inflation excluding indirect taxes are

based on national definition

Source:

Hungarian Central Bank

Labour market situation

Recent policy initiatives have significantly

improved the labour market situation, albeit

private sector job creation remains limited.

The

unemployment rate declined from about 11 % in

2010-2012 to 6 ¾ % in 2015, while the activity

rate increased from around 63 % in 2010-2012 to

69 % in 2015. On the supply side, a set of policy

measures, such as introducing stricter policies on

social transfers, increasing the retirement age and

tightening the conditions for early retirement

strengthened the incentives for people to enter or

remain in the labour market. On the demand side, a

public works scheme brought inactive or

unemployed people to the labour market, albeit not

to the private segment of it (Section 3.2). In

addition, the number of frontier workers (people

working abroad but maintaining a household in

Hungary) reached 1% of the population and the

number of people leaving the country to work

abroad also seems to have increased. While

employment in the private sector has also

recovered, a considerable part of the improvement

has been attributable to the public work scheme.

Moving forward, these factors will continue to

drive down unemployment, but will also create

new challenges.

As the economy steadily expands,

the unemployment rate is projected to decline to

5 % by 2017. The medium-term budgetary plans

envisage the expansion of the public works

The fiscal deficit declined significantly in 2015

but future improvement is set to be limited.

While structural measures helped to decrease the

deficit, future improvements will be mostly due to

better economic conditions. Based on the

Commission's 2016 winter forecast, the general

government deficit is expected to have declined to

2.1 % of GDP in 2015, from 2.5 % in 2014. The

deficit is projected to decrease further to 1.9 % of

GDP in 2017. The modest decline in the headline

deficit in 2016-2017 is mostly driven by the

cyclical upturn, as savings from pension reforms

and from declining interest costs are planned to be

spent on a new housing support scheme and on

sizable tax cuts. As a result, the structural balance

remains below -2 % of GDP, and thus it will not

reach the medium-term objective of -1.7 % of

GDP.

Government debt is expected to remain on a

declining path.

From its peak level of close to

81 % in 2011, the public debt-to-GDP ratio is

estimated to have declined to slightly below 76 %

in 2015. While relatively low headline deficits and

an improving economy helped reduce the public

debt ratio, the above trend masks sizable below-

the-line capital transactions and sizable negative

valuation changes due the high share of foreign

currency debt. The state took over most of the

assets of the mandatory second-pillar private

pension funds, but it also acquired several private

companies and banks. Moreover, delays in the

receipt of EU transfers in 2015 had a considerable

debt-increasing effect without increasing the

deficit as the latter is on accrual basis. The

relatively high nominal GDP growth and declining

headline deficit are expected to continue driving

down the debt ratio, to around 72�½ % in 2017.

swd (2016) 0085 - Ingen titel

1. Scene setter: Economic situation and outlook

Nevertheless, the level of public debt remains high

compared to regional peers.

Hungary was affected by the recent refugee

influx as a transit country, but apart from a

relatively limited budgetary cost, there was

little impact on the economy.

These refugees

were predominantly transiting through Hungary,

and their inflow was almost completely halted in

mid-October 2015. The associated extra budgetary

costs are estimated to have reached HUF 45 billion

(somewhat more than 0.1% of GDP) in 2015, the

bulk of which was related to expenditure on border

controls.

Financial sector

lending and put pressure on profits. The newly

passed personal insolvency legislation and the two

asset management companies that were set up to

help reduce non-performing loans can help in this

regard (see Section 2.2).

External balances

Private sector indebtedness and foreign

exchange risk exposure declined significantly.

Private debt was reduced to about 90% of GDP in

2015, from its peak of close to 120% of GDP in

2009, albeit at the inevitable price of a decline in

private sector lending that hindered investment.

Moreover, the conversion of 15% of GDP foreign

currency denominated household debt into

domestic currency denominated debt in 2015 fully

eliminated the previously large foreign exchange

risk exposure of households. These changes

together with an improving labour market reignited

new lending to households with a particularly

strong pick up in mortgage lending, albeit from a

low basis. With the introduction of a new

government housing support scheme in 2016, this

trend is expected to continue. However, corporate

lending has not yet begun to grow as there are

factors on both the supply and demand sides that

hinder lending. The central bank launched various

schemes to promote lending to SMEs but so far

they only managed to stabilise the outstanding

stock of loans to SMEs. Moving forward, the

recently announced growth supporting programme

and a new market-based lending scheme of the

central bank will help promote a more organic and

stable investment growth in the private sector.

The banking system's vulnerability declined

over the past year.

The banking sector is showing

better results helped by the improving economic

environment. Nevertheless, banks remain cautious

in their lending to the corporate sector even though

they are strongly capitalised and highly liquid. The

main challenge for banks is to reduce the still high

share of non-performing loans that hinder new

Following the crisis, Hungary's net external

position improved significantly.

With high

external debt and large net external liabilities,

Hungary was particularly vulnerable to external

shocks at the outbreak of the financial crisis.

Following the crisis, however, there has been a

sharp correction on the external side. The

adjustment was particularly strong in the private

sector, reflecting an increase in gross savings and a

fall in the investment rate, which remained below

its pre-crisis level despite an increased inflow of

EU funds. As a result, net external liabilities

declined from 116% of GDP in 2009 to 73% by

2014 and the ratio is estimated to have declined

further in 2015. The rebalancing of the economy

has been achieved through maintaining high

current and capital account surpluses, which reflect

private sector deleveraging and a high inflow of

EU funds. The strong net lending position of the

country remained stable despite the recent pick up

in domestic demand (Graph 1.4). This has been

facilitated by the reversal of previous market share

losses due to the expansion of the automobile

industry and improved cost competitiveness.

Despite a temporary decline in EU funds inflows,

the net lending of the economy is projected to

remain high in 2016 and 2017 (at 6.5% and 7.8%

of GDP, respectively) as domestic demand

continues to be contained compared to the pre-

crisis levels. Notwithstanding these improvements,

the still rather high gross external debt and short-

term rollover needs continue to pose risks to the

economy (Section 2.1).

swd (2016) 0085 - Ingen titel

1. Scene setter: Economic situation and outlook

Graph 1.4:

Net lending/borrowing by sector

Investment challenge and growth potential

% of GDP

-5

-10

-15

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15*16*17*

Households and NPISH

Corporations

General government

Total economy

(1) NPISH: Non-profit institutions serving households

Source:

European Commission

Although improving, the growth potential of the

country remains moderate for a catching-up

economy.

The current rate of potential growth is a

full percentage point lower than before the crisis,

which was already comparatively low. The weak

growth potential mainly reflects a low total factor

productivity growth, which in turn is linked to

problems with financial intermediation and to the

low level of innovation in the economy (Section

2.3). The level of investment has not yet reached

its pre-crisis value (Box 1.1). Low corporate

investment – which particularly hinders growth

and job creation – is attributable to deleveraging

needs and to the perceived deterioration in the

business environment. Nevertheless, there have

been some improvements in the contribution of

labour to potential growth, which is linked to the

above-mentioned labour market reforms.

Hungary's floating exchange rate regime helped

facilitate external adjustment, and can do so

even more in the future.

The country recorded

steadily increasing trade surpluses since 2008. The

improvement in trade balance was also supported

by the real depreciation of the forint (by 12% and

19% between 2009 and 2015 in terms of consumer

prices and real unit labour costs, respectively),

which to a large extent resulted from the

deprecation of the nominal exchange rate (by 17%

over the same period). However, the depreciation

simultaneously deteriorated the balance sheet

position of the private sector with adverse

macroeconomic

consequences.

This

was

particularly relevant for the household sector,

which had a considerable amount of foreign

exchange denominated debt and a limited ability to

absorb exchange rate risks. However, the recent

conversion of practically all foreign currency

denominated household loans into local currency

denominated loans has removed this constraint on

the exchange rate policy. Although the net foreign

asset position of the economy has not changed as

the foreign exchange transactions were made

directly with the central bank and thus resulted in a

concomitant reduction in the central bank's foreign

currency reserves, the conversion ensured a better

distribution of exchange rate risks. A similar effect

could be attributed to the central bank's self-

financing programme, which reduces the foreign

exchange exposure of the central government

(Section 2.1)

swd (2016) 0085 - Ingen titel

1. Scene setter: Economic situation and outlook

Box 1.1:

Investment Challenges

Macroeconomic perspective

Total investment as a percentage of GPD had been on a steadily declining trend before the crisis and

declined even further after the crisis.

Between 2000 and 2007, the decline in the private investment ratio

from 21.9% to 19.4% has been partially offset by a slight increase in the public investment ratio from 3.6%

to 4.3%. In the post-crisis period, the private investment ratio reported a sharp drop in 2010 and then

remained fairly stable in the following years. The government investment ratio on the other hand reported a

sharp drop in 2008. The total investment-to-GDP ratio dropped below 20% in 2011 and 2012, compared to

an average of 24% between 2000 and 2007.

In 2013, gross fixed capital formation started to grow again, fuelled by investments stemming from

accelerated absorption of EU funds (mostly in the public sector). In that year gross fixed capital formation

grew by 7.3% year-on-year and contributed do GDP growth with 1.4 pps. In 2014 the pattern continued even

more, the growth of grossed fixed capital formation was an outstanding 11.2% on year-on-year terms and

2.3 pps. contribution to GDP (out of the 3.7% real growth in 2014). This meant that the he investment ratio

propelled to 21.7% of GDP in 2014. The Commission's current forecast predicts a small decrease of the ratio

in 2015 and a significant drop in 2016 before funds from the new programming period of EU funding will

start to positively affect investment again in 2017.

Graph 1:

Investment ratio by sector and component

Public and private investment as a % of GDP, 2000-2017, HU and EU

average

Forecast

Investment by components as a % of GDP, 2000-2017, HU and EU average

Forecast

HU investment in dwelling

HU investment in equipment

HU other investment

EU-28 investment in dwelling

EU-28 investment in equipment

HU government investment

HU private investement

EU-28 government investment

EU-28 private investment

HU investment in other construction

EU-28 investment in other construction

EU-28 investment other investment

Forecasts for 2015-2017 based on a no-policy-change assumption

Source:

European Commission

There was a significant change in the composition of investment activity by type of assets over the last

years: the relative share of manufacturing and public investments increased, largely at the expense of real

estate activities, but the share of market services also declined. For the components of investment, there has

been a steady decrease in the equipment investment ratio in the pre-crisis period, which has been halted in

2010. From this point onwards, the ratio continuously recovered. Dwelling investment on the other hand has

been fairly stable in the pre-crisis period but decreased from 2009 onwards. The same development was

observed for the investment in other construction ratio, which however recovered sharply from 2013

onwards.

The growth of gross fixed capital formation in volume terms was largely driven by the public sector over the

last five years. At the same time, the private sector experienced a negative growth apart from a short revival

in 2013-2014 (Graph 2).

(Continued on the next page)

swd (2016) 0085 - Ingen titel

1. Scene setter: Economic situation and outlook

Box (continued)

Graph 2:

Annualized quarterly trend growth of investment

Annualised quarterly growth, %

-5

-10

Total

Government

Private sector

Source:

Fiscal Responsibility Institute Budapest, Baseline projection of 08.12.2015

Assessment of barriers to investment and ongoing reforms

Overall investment activity is dependent on the absorption of the EU funds. EU funds propel investments

majorly through public investments. Despite recent progress, investment barriers in Hungary remain in key

areas (

Regarding the financial sector low lending activity and the tax burden on financial institutions cause

problems (section 2.2).

The private sector is still deleveraging, and lending activity is subdued due to

factors on both the supply and the demand sides of the credit market. The financial sector has been

substantially weakened by years of extraordinary tax burden, high non-performing loan ratios and high

regulatory costs, albeit the sector has remained adequately capitalised.

On the front of taxation, the high tax wedge on low skilled labour and the reliance on sector specific

taxes could have a negative impact on investment (section 3.1 and 3.2).

High tax burden on low income

earners can have a negative impact on market employment and thus can hamper investment in an open

economy. The heavy reliance on sector specific taxes is a source of distortion across sectors also by

generally weakening investors' confidence.

There are several challenges for public administration and it is likely that the investment activity

would benefit mostly from a better business environment (section 3.4).

Overall the high administrative

burden, also for start-ups, could negatively affect investment decisions. The volatile regulatory framework,

with frequent and unpredictable regulatory changes, creates uncertainty for investors. Overall, the perceived

low effectiveness and efficiency of public administration can affect the business climate and weight on

investment. Increasing entry barriers in previously open markets in certain sectors could have undermined

sunk-cost investments contributing to a general sense of policy-induced uncertainty regarding the security of

intangible assets.

Other areas where challenges for investment can be identified include research, development and

innovation and sector specific regulation (sections 3.4 and 3.5).

The resources devoted to science and

technology are comparatively low. In addition, there is a lack of spill-over effects from multinational

companies. Financing of new innovative companies through venture/seed capital and newer initiatives such

as crowdfunding remains marginal. High administrative and tax burden as well as entry barriers the retail

sector, hamper investment. Below-cost regulated end-user prices for household consumers in the retail

electricity and gas utility sector brought rates of return in the electricity and gas regulated business segments

to zero during the past few years, leaving limited funds for investment.

(

) See

"Challenges

Member

States'

Investment

Environments",

SWD

(2015)

(http://ec.europa.eu/europe2020/challenges-to-member-states-investment-environments/index_en.htm).

400

final

swd (2016) 0085 - Ingen titel

1. Scene setter: Economic situation and outlook

Box 1.2:

Contribution of the EU Budget to structural change

Hungary is a major beneficiary of the European Structural and Investment Funds (ESIF) and can receive up to EUR

25 billion for the period 2014-2020. This is equivalent to 3,1% of GDP annually and 62.3% of the expected national

public investment in areas supported by the ESI funds.

A number of reforms were passed as ex-ante conditionalities in areas to benefit from the Funds to ensure successful

investments. Reforms in areas such as public procurement, capacity building in public administration, employment

services, vocational and higher education, early school leaving and social inclusion are still pending and to be

completed by end-2016. Where ex-ante conditionalities are not fulfilled by end 2016, the Commission may suspend

interim payment to the priorities of the programme concerned.

The Funds will contribute to the Europe 2020 objectives and focus on priorities and challenges identified in recent

years in the context of the European Semester and under the Europe 2020 strategy. Hungary's ESIF allocation is

concentrated on key issues such as: enhancing innovation and competitiveness of businesses, supporting ICT

development, supporting the shift towards a low-carbon economy contributing to the development of the labour

market, improving the skills of the labour force, improving efficiency of public administrations, contributing to the

reduction and prevention of poverty, supporting equal access to mainstream education, increasing tertiary attainment .

Combating early school leaving and supporting youth employment is also addressed through the specific Youth

Employment Initiative allocation. Regular monitoring of implementation includes reporting in mid-2017 on the

contribution of the Funds to Europe 2020 objectives and progress in addressing relevant structural reforms to

maximise the use of EU financing.

Financing under the new European Fund for Strategic Investments (EFSI), Horizon 2020, the Connecting Europe

Facility and other directly managed EU funds would be additional to the ESI Funds. Following the first rounds of

calls for projects under the Connecting Europe Facility, Hungary has signed agreements for EUR 270 million for

transport

projects.

For

information

the

use

ESIF

Hungary,

see:

https://cohesiondata.ec.europa.eu/countries/HU.

swd (2016) 0085 - Ingen titel

1. Scene setter: Economic situation and outlook

Table 1.1:

Key economic, financial and social indicators - Hungary

2003-2007

3.5

4.8

1.0

3.5

14.6

12.8

2.6

3.0

2.8

-0.1

0.8

-0.5

1.4

2.1

-7.5

-1.8

-0.6

0.4

-87.1

-31.3

69.1

47.5

5.2

-2.1

4.1

13.6

79.1

23.3

55.8

-1.1

23.5

0.4

4.5

4.4

5.4

8.0

3.6

4.2

-0.2

2.8

2.9

35.0

19.4*

19.2

6.8

3.0

17.1

61.1

31.0

11.3

-7.1

37.6

61.4

2008

0.8

-1.2

3.1

1.0

6.9

6.0

2.3

1.2

0.3

-0.2

0.7

-1.4

1.3

1.4

-7.0

0.4

-1.2

1.1

-102.3

-54.7

99.5

39.4

3.3

-1.1

1.5

12.7

105.6

36.5

69.1

-1.4

24.1

-0.7

-3.1

4.1

5.0

6.0

7.3

2.9

4.3

-0.6

0.7

2.7

38.3

23.4

28.1

13.5

19.2

3.7

7.8

3.6

19.5

61.2

28.2

12.0

-3.6

39.7

71.6

2009

-6.6

-6.7

1.4

-8.3

-11.4

-14.7

-4.5

0.1

-5.2

-4.0

2.6

-1.9

0.8

1.2

-0.8

4.1

1.3

1.7

-115.7

-56.1

111.5

22.4

-3.3

-0.5

3.6

6.0

117.1

37.7

79.4

4.8

23.9

0.7

-9.0

4.2

3.9

4.0

-1.3

-4.2

3.0

-0.9

-9.7

-5.3

37.8

23.8

-0.8

13.1

16.3

7.7

10.0

4.2

26.4

61.2

29.6

11.3

-4.6

39.2

78.0

2010

0.7

-2.8

-0.4

-9.5

11.3

10.1

-3.4

-0.4

-3.7

3.2

1.3

-1.8

0.4

1.1

0.3

5.4

0.1

1.8

-108.9

-54.2

113.9

11.8

-8.0

-3.0

3.6

-4.2

115.6

39.7

75.9

5.0

24.6

1.6

-5.8

3.1

2.3

4.7

-0.3

1.0

-1.3

-3.5

-1.3

1.6

31.2

23.8

-0.3

14.1

3.7

10.9

11.2

5.5

26.4

61.9

29.9

11.9

-4.5

37.5

-3.5

80.6

2011

1.8

0.8

0.2

-1.3

6.6

4.5

-1.5

-0.2

0.2

-0.4

2.0

-1.4

0.3

0.9

0.8

6.1

-1.4

2.4

-106.4

-51.4

117.1

6.6

-3.7

-1.6

4.1

-4.6

114.9

37.6

77.3

5.1

25.3

3.5

-6.9

2.2

3.9

3.1

1.7

1.4

-0.8

0.0

-0.4

35.0

26.8

7.1

13.8

8.0

12.8

11.0

5.2

26.0

62.4

31.5

12.8

-5.5

36.9

-4.5

80.8

2012

-1.7

-2.2

-1.5

-4.4

-1.8

-3.5

-3.2

0.0

-2.3

-0.6

1.3

-0.8

0.1

0.7

1.8

6.8

-1.0

2.5

-94.2

-45.8

100.6

-11.9

-10.7

-2.1

2.6

-6.1

102.0

31.8

70.2

3.4

24.4

3.0

-9.3

2.0

3.5

5.7

2.1

-1.8

4.0

0.5

-3.0

-2.2

35.1

34.5

-6.7

16.0

7.3

14.1

11.0

5.0

28.2

63.7

32.4

12.8

-2.3

38.6

-1.4

78.3

2013

1.9

0.3

2.4

7.3

6.4

6.3

-2.3

0.9

2.1

-0.7

0.5

-0.1

0.4

0.6

3.9

7.3

0.5

3.6

-83.5

-37.2

89.0

-13.6

4.0

0.1

3.9

-1.1

95.3

28.2

67.1

7.2

25.6

2.9

-4.6

1.4

3.1

1.7

1.8

0.9

-2.2

-1.6

-1.4

34.5

-4.0

17.0

7.1

14.0

10.2

4.9

26.6

64.7

34.8

13.6

-2.5

38.2

-1.5

76.8

2014

3.7

1.8

2.9

11.2

7.6

8.5

-0.5

1.8

3.8

0.0

-0.2

0.5

0.7

0.6

2.2

7.4

0.7

3.8

-73.2

-33.7

86.3

-9.12

3.5

-2.6

4.9

-0.5

91.3

25.9

65.4

5.1

26.3

3.4

3.1

1.6

3.2

0.0

0.9

-0.9

0.3

-2.9

-4.2

-3.5

34.5

8.2

14.6

-15.3

14.2

7.7

3.7

20.4

67.0

31.1

12.2

-2.5

38.4

-2.5

76.2

2015

2.7

3.0

0.3

0.0

8.5

7.3

0.2

2.0

1.6

-0.4

1.6

0.6

0.7

1.0

7.0

26.2

3.3

2.3

0.1

3.5

2.8

0.5

-0.4

-2.0

6.7

-2.1

39.1

-2.2

75.8

forecast

2016

2.1

3.2

0.2

-2.0

6.2

5.8

0.3

2.0

1.2

0.0

0.9

0.7

0.5

0.9

0.5

7.5

27.0

2.4

1.7

3.5

2.7

0.3

-0.2

0.5

6.0

-2.0

37.8

-2.5

74.3

2017

2.5

0.5

3.6

6.4

6.6

0.6

2.2

2.1

0.0

0.5

0.6

1.0

0.0

8.4

27.7

1.8

2.8

2.5

3.5

2.2

-0.6

0.4

5.2

-1.9

37.4

-2.2

72.4

Real GDP (y-o-y)

Private consumption (y-o-y)

Public consumption (y-o-y)

Gross fixed capital formation (y-o-y)

Exports of goods and services (y-o-y)

Imports of goods and services (y-o-y)

Output gap

Potential growth (y-o-y)

Contribution to GDP growth:

Domestic demand (y-o-y)

Inventories (y-o-y)

Net exports (y-o-y)

Contribution to potential GDP growth:

Total Labour (hours) (y-o-y)

Capital accumulation (y-o-y)

Total factor productivity (y-o-y)

Current account balance (% of GDP), balance of payments

Trade balance (% of GDP), balance of payments

Terms of trade of goods and services (y-o-y)

Capital account balance (% of GDP)

Net international investment position (% of GDP)

Net marketable external debt (% of GDP) (1)

Gross marketable external debt (% of GDP) (1)

Export performance vs. advanced countries (% change over 5

years)

Export market share, goods and services (y-o-y)

Net FDI flows (% of GDP)

Savings rate of households (net saving as percentage of net

disposable income)

Private credit flow (consolidated, % of GDP)

Private sector debt, consolidated (% of GDP)

of which household debt, consolidated (% of GDP)

of which non-financial corporate debt, consolidated (% of GDP)

Corporations, net lending (+) or net borrowing (-) (% of GDP)

Corporations, gross operating surplus (% of GDP)

Households, net lending (+) or net borrowing (-) (% of GDP)

Deflated house price index (y-o-y)

Residential investment (% of GDP)

GDP deflator (y-o-y)

Harmonised index of consumer prices (HICP, y-o-y)

Nominal compensation per employee (y-o-y)

Labour productivity (real, person employed, y-o-y)

Unit labour costs (ULC, whole economy, y-o-y)

Real unit labour costs (y-o-y)

Real effective exchange rate (ULC, y-o-y)

Real effective exchange rate (HICP, y-o-y)

Tax wedge on labour for a single person earning the average wage

(%)

Taxe wedge on labour for a single person earning 50% of the

average wage (%)

Total Financial Sector Liabilities, non-consolidated (y-o-y)

Tier 1 ratio (%) (2)

Return on equity (%) (3)

Gross non-performing debt (% of total debt instruments and total

loans and advances) (4)

Unemployment rate

Long-term unemployment rate (% of active population)

Youth unemployment rate (% of active population in the same age

group)

Activity rate (15-64 year-olds)

People at-risk poverty or social exclusion (% total population)

Persons living in households with very low work intensity (% of

total population aged below 60)

General government balance (% of GDP)

Tax-to-GDP ratio (%)

Structural budget balance (% of GDP)

General government gross debt (% of GDP)

(1) Sum of portfolio debt instruments, other investment and reserve assets.

(2, 3) Domestic banking groups and stand-alone banks.

(4) Domestic banking groups and stand-alone banks, foreign (EU and non-EU) controlled subsidiaries and foreign (EU and

non-EU) controlled branches.

Source:

European Commission, winter forecast 2016; European Central Bank.

swd (2016) 0085 - Ingen titel

IMBALANCES, RISKS, AND ADJUSTMENT ISSUES

This section provides the in-depth review foreseen under the macroeconomic imbalances procedure

(MIP) (

). It focuses on the risks and vulnerabilities flagged in the Alert Mechanism Report 2016. The

section firstly analyses the reasons behind the significant decline of the net external liabilities, the

drivers of large surpluses on the external balance and the impact on the ongoing stock adjustment. The

focus is on export performance, competitiveness and the role of foreign direct investment. Secondly, the

section focuses on the ongoing adjustment in the banking sector. Deleveraging pressures are easing but

continue to constrain investment and economic growth. Financial risks have significantly decreased.

Thirdly, the section analyses possible ways to enhance potential growth. While labour market policies

helped in this regard, it appears crucial to find new ways to accelerate total factor productivity and

promote higher investment in productive assets. The section concludes with the MIP assessment matrix,

which summarises the main findings.

2.1. EXTERNAL SUSTAINABILITY: CONTINUED ADJUSTMENT IN

STOCK VULNERABILITIES

Adjustment in external indebtedness

Graph 2.1.1:

Components of Net International Investment

Position

Net external liabilities declined from 116% of

GDP in 2009 to 73% by 2014

(Graph 2.1.1). This

is still high by international comparison but it is

closer to levels of regional peers and the rapid pace

of decline is projected to continue. The rebalancing

of the economy has been achieved through

maintaining high current and capital account

surpluses (reaching 6-9% of GDP in recent years),

which reflect private sector deleveraging and a

high inflow of EU funds. While the crisis resulted

in sharply increased net savings of households and

corporations, the general government deficit also

decreased after 2011. The high surplus position

remained stable despite the recent take up of

domestic demand. Regarding liabilities by sectors,

the improvement in the net external liabilities is

primarily attributable to a declining external debt

of the banking sector accounting for more than

two-thirds of the total change. Roughly half of the

net external liabilities consist of debt securities and

the other half is represented by FDI or portfolio

investments.

(

) According to Article 5 of Regulation (EU) No. 1176/2011.

-20

-40

% of GDP

-60

-80

-100

-120

-140

-160

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15*

Net portfolio invest., equity and investment fund shares/units

Net portfolio invest., debt securities

Other invest. (net)

Net direct invest.

Net financial derivatives and employee stock options

Net int'l investment position

Marketable debt (portfolio debt instr., other invest. and res. assets, net)

(1) * indicates estimated figure using quarterly data

(2) invest. = investment; instr. = instrument; res. assets =

reserve assets

Source:

Eurostat

The rapid improvement in the net external

liabilities seems to have continued in 2015.

mid-2015, net external liabilities declined further

to around 68% of GDP backed by a record high

level of net lending. Following this trend, net

external debt (without intercompany loans)

declined to around 30% of GDP, while gross

external debt decreased below 85% GDP (from

their peak levels of 56% and 111%, respectively).

Overall, Hungary is improving fast towards its

regional peers regarding the key external

vulnerability

indicators

(Graph

2.1.2).

Nevertheless, Hungary's gross external debt

remains relatively high, accompanied by

considerable rollover needs. Although short term

swd (2016) 0085 - Ingen titel

2.1. External sustainability: Continued adjustment in stock vulnerabilities

external debt has also declined by some EUR 15

billion (15% of GDP) since 2011, it still exceeds

EUR 20 billion (above 20% of GDP) and thus

remains a source of vulnerability (Graph 2.1.3).

Graph 2.1.2:

Key external vulnerability indicators: Hungary

and regional peers

140

120

100

% of GDP

-20

-40

2004

2009

2012

2015*

2004

2009

2012

2015*

2004

2011

2012

2015*

Net external liabilities (-NIIP) as %

of GDP

Net debt as % of GDP

Gross debt as % of GDP

* The value for 2015 is the latest available quarterly data (Q2 2015)

Source:

Eurostat and own calculations

debt by around 8% of GDP as banks gradually

repay their associated foreign currency liabilities

(see subsection 2.2). Second, the central bank's

self-financing programme aims to increase the role

of domestic sources in financing government debt

by providing incentives for local banks to channel

their excess liquidity from central bank accounts to

the sovereign market (Box 2.1.1). Coupled with

the stepped-up retail securities scheme, the share

of foreign exchange–denominated component in

the public debt has decreased from around 40% to

33% (or by some 5% of GDP) since the

announcement of the programme in spring 2014.

Given that both measures result in a simultaneous

reduction in foreign assets as well (mainly the

central bank reserves), the country's net external

position is not affected. Nevertheless, lower gross

external debt leads to lower external refinancing

needs, diminishing external rollover risks, and may

also help reducing the sovereign risk premium.

Graph 2.1.4:

Components of the external position (current

and capital account)

Graph 2.1.3:

Short term external debt

bn Euro

% of GDP

-5

-10

Corporate sector

General government

Banking sector

Short-term external debt

14 15*

Transfer balance

Income balance

Trade balance

Net lending/borrowing (CA+KA)

Current account balance (CA)

(1)Foreign debt with a maturity shorter than one year

(excluding intercompany loans)

Source:

Hungarian Central Bank

Recent policy developments contributed to a

reduction in external vulnerabilities.

First, the

conversion of almost all foreign exchange-

denominated retail loans decreased the share of

such household loans from 70% to close to zero

since early 2015. It was a two-step conversion

process, which started with mortgages in spring

2015 and was followed by the remaining part,

mainly car-financing loans in the autumn of 2015.

By the end of 2017, the household loan conversion

is expected to lead to a reduction in gross external

(1) Value for 2015 is based on latest available quarterly

data (q2 2015). Income balance: labour income, income

on equity and income on debt. Transfer balance: sum of

the capital account, other primary income and secondary

income.

Source:

European Commission

All key components of the balance of payments

have significantly improved since 2008.

Following a sharp reduction of the deficit in 2009,

the current account gradually improved and

recorded a surplus of 4% of GDP by 2013 (Graph

2.1.4). Although the surplus moderated in 2014 to

2.3% of GDP, largely due to increased reinvested

swd (2016) 0085 - Ingen titel

2.1. External sustainability: Continued adjustment in stock vulnerabilities

earnings of foreign-owned companies, it is

expected to reach around 4% of GDP again in

2015. The sustained surplus position of the current

account in the post-crisis years reflects a steadily

rising trade balance. The latter increased from a

slightly positive level in 2008 to 7.4% of GDP by

2014, and improved further to above 8% in 2015.

The trade balance thus was a key factor driving the

correction of external imbalances since the

outbreak of the crisis in 2008, but not the only one.

Starting from a level of around -7% of GDP, net

primary incomes increased by some 1�½ pps.

between 2009 and 2015. Initially, this was a result

of declining income of foreign equity. However,

more recently the recovery in equity income is

largely counterbalanced by decreasing interest

payments as well as the increasing earnings of

domestic residents working abroad. In addition, net

transfer receipts improved the external balance by

some 3�½ pps. since 2008 (within this the capital

account balance increased from 1% to around 4-

5% of GDP in recent years). This primarily reflects

the growing absorption of EU funds.

EU financial flows made an increasing

contribution to the improvement in the net

external financing, one of the highest in Europe.

Hungary has recently become the largest net

beneficiary of the EU budget among Member

States as measured by the operating budgetary

balances. Net transfers to the country stood at

5.5% and 5.3% of GDP in 2013 and 2014,

respectively (Graph 2.1.5). Current EU transfers –

reflecting direct agricultural supports and the

current expenditure component of structural funds

net of the national contribution to the EU budget –

improved the current account by around 1.5-2% of

GDP in recent years. Meanwhile, EU structural

fund disbursements financing investment activities

(recorded in the capital account) reached around

4% of GDP. According to the 2015 convergence

programme, EU transfers are expected to stay

above 5% of GDP in 2015, and continuously

decline to around 3% of GDP by 2019, before

rising again. However, this pattern may change as

the government has announced an ambitious plan

to accelerate the disbursement of EU funds in the

new programming period.

Graph 2.1.5:

Current and capital EU transfers (% of GDP)

% of GDP

-1

Current transfer

Capital transfer

Source:

Hungarian Central Bank and Hungarian Central

Statistical Office

swd (2016) 0085 - Ingen titel

2.1. External sustainability: Continued adjustment in stock vulnerabilities

Box 2.1.1:

How does the MNB's Self-Financing Programme reduce Hungary's

external vulnerability?

The Hungarian Central Bank (MNB) launched the Self-Financing Programme (SFP) in April 2014 with the

objective to reduce Hungary's external vulnerability primarily via a reduction in its gross external debt.

The level of gross external indebtedness of a country is a source of vulnerability and it is seen as such by

investors and international institutions, including credit rating agencies. Foreign portfolio investment in

emerging markets is notoriously unreliable in a market stress situation, as experienced by Hungary in the

wake of the 2008 global financial crisis. Less gross external debt results in lower external refinancing needs

and a diminishing external rollover risk. Therefore, it can help Hungary to regain its investment grade

sovereign credit rating, which in turn could mitigate risks related to future swings in global risk aversion.

The SFP operates primarily via the transformation of the MNB's key policy instrument in order to channel

commercial banks' excess liquidity from the central bank to collaterizable assets, i.e. – due to the low level

of securitization of the Hungarian financial market – mainly to government bonds. Accordingly, the MNB

converted its two-week bill into a deposit facility in August 2014, no longer accepting funds directly from

non-residents and not providing overnight liquidity to banks against it. As further elements of the SFP, the

MNB introduced a forint interest rate swap (IRS) facility and announced the possibility of other forint

liquidity-providing measures to encourage banks to invest in securities. The IRSs of 3-, 5- and 10-years

maturity reduce banks' interest rate risk and are offered on auctions at a below-market rate price in exchange

for a commitment to hold additional securities. From September 2015, the MNB made it less attractive to

keep excess liquidity in the central bank by introducing a three-month policy instrument (not eligible as

collateral) and putting a quantitative limitation on the usage of the two-week deposit (allocated in tenders). It

also lowered the interest rate corridor to discourage placing funds in one-day deposits and to make it more

favourable for banks to access liquidity.

The increased demand by domestic banks for government securities allows the Treasury to refinance

maturing foreign currency denominated debt with HUF-issuance. The increase in government bond holdings

of domestic banks amounted to about EUR 5.3bn between March 2014 and September 2015, which partly

also crowded out foreign investors from the secondary market and covered the net issuance of the Treasury

(together with the household sector). The shift to forint issuance improves the currency structure of

government debt and reduces the sensitivity of debt ratios to the exchange rate.

The SFP reduces Hungary's gross external debt in various ways. This impact of the transformation of the

MNB's key instrument to exclude foreigners from holding central bank liabilities, the increased secondary

market government security purchases of domestic banks replacing non-residents and the Treasury's

refinancing of maturing foreign debt from HUF-issuance reduce Hungary's gross external debt. The latter

directly reduces the MNB's FX reserves as well (the Treasury converts HUF with the MNB for repaying

foreign debt). Therefore in all these cases, the 'direct' impact of the SFP on Hungary's net international

investment position is neutral (though net external debt decreases if the foreign investor buys equity to stay

in Hungary). On the other hand, over time lower gross external debt will reduce interest payments to abroad

(possibly also due to the ensuing lower risk premium) Hungary's net external lending position, thereby

contributing to a decrease in net external debt.

The SFP lowers the MNB's foreign exchange reserves, but it goes against the trend of increasing reserves

due to EU fund absorption. International reserve coverage of short-term external debt stood at 146% at end-

Q2 2015 and it is projected to remain above the commonly used 100% benchmark in the coming years.

However, a lower foreign exchange reserve represents external vulnerability in itself. Long-term debt can

quickly turn into short-term during a crisis. Furthermore, the level of foreign exchange reserves can be

important not only to preserve the confidence of foreigners, but also that of domestic players (foreign

exchange reserves covered 53% of M3 in October 2015).

(Continued on the next page)

swd (2016) 0085 - Ingen titel

2.1. External sustainability: Continued adjustment in stock vulnerabilities

Box (continued)

Moreover, the SFP strengthens the sovereign-banking sector nexus, which is against the current policy drive

in the euro area and represents risks. Hungary's banks have already a relatively high exposure to government

securities (Graph 1). If doubts about the government's solvency emerge, banks' access to external funding

would deteriorate, thereby the public finance problems could spread to the private sector.

Graph 1:

The share of general government in domestic bank assets (% of balance sheet total of MFIs)

Sep 15

Loans

Debt securities

Source:

ECB

Current projections suggest that Hungary’s net

external liabilities position will continue to

improve in the coming period, despite the

scheduled decrease in EU transfers.

According

to the Commission 2016 winter forecast, net

lending will remain above 6% of GDP over the

forecast horizon leading the next external liabilities

to decline to below 45% of GDP by 2017. Building

on this, the Commission's medium-term baseline

scenario indicates this ratio will decline below

35% by the end of this decade (

). Moreover, the

illustrative medium-term scenarios modelled by

the Commission show that Hungary would need to

achieve a current account surplus of only 1.1% of

GDP on average over the next 10 years in order to

halve its net external liabilities by 2025 (to reach

around 35% of GDP) even without a positive

contribution from the capital account. This

condition is most likely to be ensured as the

cyclically adjusted current account balance is

estimated at 3% of GDP on average in 2013-2014,

and it is forecast to reach even higher levels in the

subsequent years.

(

) In the baseline scenario, the nominal GDP is projected to

grow at an average rate of 4% over 2016-2026; which is

based on the t+10 methodology, the capital account balance

is assumed to stay at 1.5% of GDP, while the nominal

effective domestic yields are assumed to remain broadly

stable at around 4.6%.

Drivers of trade performance

While until 2012 the improvement in the trade

balance had been mainly driven by the

compressions of import demand, the positive

trend has been maintained alongside the

subsequent recovery of domestic demand.

This

was made possible by export market share gains

and favourable terms of trade effects, creating the

room for the growth in import volumes (Graph

2.1.6). Following a sharp correction from -0.8% to

2.9% of GDP in 2009, the balance of goods

remained broadly stable during the post-crisis

years hovering around 3% of GDP (with a

temporary fall in 2014 reflecting increased imports

with the surge in investment). Thus the increases

in the trade surplus occurred mostly on account of

an uninterrupted improvement of the balance of

services (altogether 4 pps. in terms of GDP

between 2008 and 2015, see Graph 2.1.7).

At around 5% of GDP, the trade surplus in

services already exceeded the positive balance

of goods by 2 pps. in 2015.

This is the result of

expanding service exports, while the value of

service imports has remained broadly stable

relative to GDP since 2008. Nevertheless service

exports are much smaller (around one-fifth) than

the country's exports of goods. While tourism has

Sep 15

2009

2012

2009

2012

2009

2012

2009

2012

2009

2012

2009

2012

2009

2012

swd (2016) 0085 - Ingen titel

2.1. External sustainability: Continued adjustment in stock vulnerabilities

the highest share in the balance of services, the

more recent gains were mainly linked to the

growing exports in transportation, manufacturing

services on physical inputs owned by others as

well as in other business services (such as legal

and accounting services).

Graph 2.1.6:

Export and import growth in volumes

(2008=100)

140

130

120

110

100

Index,

2008=100

14 15*

Exports

Imports

* Based on European Commission 2016 winter forecast

Source:

European Commission

Graph 2.1.7:

Evolution of trade balance

more recently there has been a turnaround.

Following a cumulative decline in market share of

23% between 2008 and 2012, Hungary recorded a

cumulative growth of 7.5% in 2013 and 2014

(Graph 2.1.8). This positive trend is expected to

continue. The recovery in export performance has

resulted from an expansion in services and goods

markets with a relatively stronger contribution by

the latter segment. As far as the goods market is

concerned, previous market share losses mainly

occurred in the machinery and electronic

equipment subsectors (accounting for 70% of the

total decline between 2008 and 2012). On the other

hand, recent export market gains have

predominantly been driven by the increased

production capacity in the automobile industry

(with an estimated contribution of around 150% by

the vehicle manufacturing sector to the total

market share growth between 2012 and 2014(

)).

Furthermore, the favourable developments in the

goods market are attributable to market share gains

in individual country and product markets rather

than simply to the initial geographical or product

distribution of exports (Graph 2.1.9). Market share

gains in the geographical dimension are linked to

intra EU trade. Meanwhile, the government's

recent efforts in trade policy aim at facilitating the

entry of Hungarian companies to new markets

outside the EU as well (under the heading of

"Eastern and Southern opening").

(

) The contribution is above 100 per cent as other subsectors

where incurring market share losses in the same period.

% of GDP

-2

-4

-6

04 05 06 07 08 09 10 11 12 13 14 15*

Balance of goods

Balance of services

Trade balance

* The value for 2015 is based on quarterly figures

Source:

Hungarian Central Bank

The improvement in the trade balance in the

aftermath of the crisis went in parallel with a

considerable fall of export market shares, but

swd (2016) 0085 - Ingen titel

2.1. External sustainability: Continued adjustment in stock vulnerabilities

Graph 2.1.8:

Evolution of Hungary's export market share

(year-on-year)

-5

-10

-15

01 02 03 04 05 06 07 08 09 10 11 12 13 14

Contribution to EMS: goods

Contribution to EMS: services

Export market share growth yoy

Source:

Eurostat

Graph 2.1.9:

Components of export market share change

- goods (2008-2014, annual averages)

the unit labour cost based real effective exchange

rate (REER) of the country depreciated altogether

by around 12% and 19%, respectively (Graph

2.1.10). This was mainly driven by the nominal

depreciation of the forint, but the moderation of

unit labour costs also contributed to this

development. The REER is forecast to remain

broadly stable in the coming years. Nevertheless,

the positive effects of the REER depreciation are

likely to be attenuated by two important factors.

First, given the initially high volume of foreign

currency debt in the corporate sector (above 50%

in 2009), the deterioration in firms’ balance sheet

position due to nominal depreciation could have

resulted in an offsetting effect. Second, the import

share of Hungarian exports is traditionally one of

the highest in the EU (at around 45-50%),

implying that the impact of the exchange rate on

exports is proportionally weaker. In this respect,

the increased cost and price competitiveness could

have had a significantly stronger impact on the

trade surplus of services as the correlation between

exports and imports is typically much weaker for

services than for goods.

Graph 2.1.10:

The evolution of real effective exchange rate

(2008=100)

Rate of change y-o-y (%)

-2

-4

-6

-8

-10

Initial geograhical

specialisation

Market share gain in

geogr. destinations

Initial product

specialisation

Market share gain in

product markets

Sum

105

100

Index,

2008=100

2008-12

2012-14

2008-14

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15*

Real effective exchange rates, based on HICP

Real effective exchange rates, based on unit labour costs

(total economy)

(1) The graph shows the role of market share gains as

opposed to the impact of initial export market distribution

on market share growth by adding together the

components of average market share change for the

product and geographical dimensions. Thus the sum of

these components is the double of the average annual

market share change in a period.

Source:

European Commission

* 2015 based on European Commission 2016 winter

forecast

Source:

European Commission

Breaking a trend of real appreciation,

Hungary’s price and cost competiveness has

markedly improved since the onset of the crisis.

Between 2008 and 2015, the consumer price and

However, there seems to be little improvement

Hungary’

non-cost

competitiveness.

Hungary’s export deflators in euro terms have

remained broadly unchanged since the beginning

of the last decade. By contrast, other converging

swd (2016) 0085 - Ingen titel

2.1. External sustainability: Continued adjustment in stock vulnerabilities

economies in the region managed to increase their

export prices by around 30 to 60% percent (Graph

2.1.11). This phenomenon may be linked to

Hungary's inability to improve the quality of its

products, albeit from a comparatively high initial

level. The traditionally significant weight of high-

technology products in the Hungarian export sector

has been declining since the last decade. The share

of high and top quality products in export value

decreased from around 30% in 2009 to 23% by

2014, while the quality distribution shifted towards

the middle with a potentially greater exposure to

cost competition (Graph 2.1.12).

Graph 2.1.11:

Export deflators (Euro based)

Graph 2.1.12:

Share of export value by quality category

(2009-2014)

0.4

0.3

0.2

0.1

0.0

150

140

130

120

Index,

2005=100

bottom

low

middle

high

top quality

(0.0 - 0.2) (0.2 - 0.4) (0.4 - 0.6) (0.6 - 0.8) (0.8 - 1.0)

2009

2014

Source:

European Commission

110

100

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14

Trends in foreign direct investment

Source:

Eurostat

Following the crisis, the level of foreign direct

investments (FDI) remained at historic lows,

but more recent developments show some signs

of a recovery.

Attracting foreign direct investment

is an important source of technology transfer and

productivity growth for the catching-up EU

Member States. Moreover, foreign investment is a

source of non-debt financing of the external

position and thus enhances the shock absorption

capacity of the country. Following years of very

high inflows, annual net foreign direct investment

in Hungary got below the levels seen in other

countries in the region already before EU

accession. Since the crisis, net FDI inflows

remained low in Hungary, yet in line with its

regional peers relative to GDP ( Graph 2.1.13).

swd (2016) 0085 - Ingen titel

2.1. External sustainability: Continued adjustment in stock vulnerabilities

Graph 2.1.13:

Net foreign direct investment: Hungary and

regional peers

Graph 2.1.14:

Corrected and uncorrected net FDI inflows as

% of GDP

-1

-2

Net FDI inflow -corrected

Net FDI - uncorrected

(1) The corrected net FDI filters out the effect of special

purpose entities, capital injections in the financial sector,

mergers and acquisitions and capital-in-transit.

Source:

Hungarian Central Bank

Source:

Hungarian Central Bank

Estimates for the underlying trend in net FDI

inflows also show a decline since the beginning

of the last decade and low levels after the crisis.

Several confounding factors could distort the

assessment of FDI including the effects of capital

in transit and acquisitions as well as capital

injections by parent banks to offset the capital

shortfalls of their subsidiaries. After adjusting for

these effects using calculations by the Hungarian

Central Bank, the decrease in net inflows after

2008 becomes somewhat more pronounced (1.5%

of GDP on average compared with the 2004-2008

period; Graph 2.1.14). At the same time, the

estimates on underlying FDI suggest that the

upturn seen in 2014 is not attributable simply to

transactions affecting financial flows. However, in

the light of the incoming data from the first three

quarters of 2015, which show a weakening in net

FDI again, it would be premature to draw any firm

conclusion regarding an evolving trend yet.

The developments in greenfield FDI inflows to

the country paint a less favourable picture.

Until the crisis, greenfield FDI (linked to the

establishment or expansion of production base) in

Hungary averaged 5-7% of GDP, but has declined

sharply since to around 2% of GDP in recent years

(Graph 2.1.15). While greenfield FDI in the EU

also declined, the fall in Hungary was more

significant. Greenfield investment has numerous

benefits for Hungary as it increases the country's

production capacity, therefore exerting a positive

impact on economic growth and job creation.

swd (2016) 0085 - Ingen titel

2.1. External sustainability: Continued adjustment in stock vulnerabilities

Graph 2.1.15:

Greenfield foreign direct investment inflows

into Hungary

% of GDP

2.7

1.7

3.5

1.3

2.2

2.7

4.9

3.1

5.4

3.8

4.5

1.4

3.1

1.6

0.9

1.0

1.1

1.4 1.1

0.6

1.1

Total Intra EU inflows

Total Extra EU inflows

Source:

Financial Times FDI Markets database, European

Commission

A better business environment could help

Hungary to attract more FDI.

Among the

Member States in the region, the OECD PMR (

)

indicators show Hungary as having one of the

highest legal barriers to entry. In addition, recent

international competitiveness surveys rank the

country as having one of the least transparent

policy-making compared to regional peers.

According to the latest World Economic Forum

Competitiveness Report, Hungary did not perform

well regarding institutions and business

sophistication.(

)

(

) OECD

PMR

indicators.

OECD,

http://www.oecd.org/eco/growth/indicatorsofproductmarke

tregulationhomepage.htm

(

) The Global Competitiveness Report 2015-16, World

Economic Forum,

http://www.weforum.org/reports/global-

competitiveness-report-2015-2016

swd (2016) 0085 - Ingen titel

2.2. PRIVATE AND BANKING SECTOR ADJUSTMENTS

Private sector deleveraging

Hungary's private sector debt has been

significantly reduced.

The country entered the

financial crisis with a moderately high level of

private sector debt, mostly denominated in foreign

currencies. The financial sector that was profitable,

but heavily dependent on wholesale funding. Since

then an important adjustment took place.

Non-financial

corporations

(NFCs)

and

households deleveraged considerably since the

crisis.

NFCs reduced their debt from the peak of

over 80% of GDP in 2009 to 62.7 % of GDP by

mid-2015. This level is significantly below the EU

average but somewhat above the average of

regional peers (Graph 2.2.1). The funding for

growth scheme (FGS) – run by the central bank –

stabilised lending to non-financial corporations.

Further deleveraging needs of the NFCs are

estimated below 10 %. (

) Hungarian firms do not

point out "access to finance" as the single most

pressing issue in doing business. (

) On average,

business environment, responsiveness of the

administration, and workforce skills are causing

more concern than business financing. As to

households, they reduced their debt from the peak

of 40 % of GDP in 2010 to 30 % of GDP in

2014/2015 and have one of the lowest debt-to-

GDP ratio in the EU. Nevertheless, for some

households, the repayment burden remains

significant and impacts both new lending and

consumption trends. Household sector lending

resumed growth in 2015 following five years of

deleveraging.

Hungary's deleveraging has been supported by

growing GDP.

The change in the debt-to-GDP

ratio can be attributed to four main drivers: net

credit flows, real GDP growth, inflation through

the GDP deflator and other changes such as

valuation changes or write-offs (Graph 2.2.2 and

Graph 2.2.3). Since the peak of indebtedness in

2009, Hungary's corporations actively reduce their

debt, resulting in negative credit flows. In addition,

Hungary has benefited from a positive contribution

from nominal GDP growth. This has gradually

eliminated the need to actively deleverage, while

(

)http://ec.europa.eu/economy_finance/publications/european_

economy/2014/pdf/ee7_en.pdf

(

) SAFE Survey 2015 edition, ECB and European

Commission

continuing to decrease the debt-to-GDP ratio

"passively" through the denominator effect.

Graph 2.2.1:

Private sector debt in relation to GDP -

comparing East-Central European countries

to Euro Area

150

140

% of GDP

130

120

110

100

EA-18

Source:

Eurostat

Graph 2.2.2:

Non-financial corporations' y-o-y changes in

debt-to-GDP

y-o-y change

-5

-10

02 03 04 05 06 07 08 09 10 11 12 13 14

Credit flow

Other changes

Real growth

D/GDP, change

Inflation

Source:

Eurostat

swd (2016) 0085 - Ingen titel

2.2. Private and banking sector adjustments

Graph 2.2.3:

Private debt in relation to GDP, boom and

gradual adjustment

140

120

100

% of GDP

Nevertheless, the debt service ratio (

) assessing

the debt repayment burden of Hungarian

households remains very heterogeneous and on

average still high in international comparison

(Graph 2.2.4). An average Hungarian has to spend

18% of his or her monthly income on debt

repayment.

Graph 2.2.4:

Debt service ratio in Hungary, international

comparison

95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14

Non-financial corporations

Households

Source:

Eurostat

Households' outstanding loan stock dropped in

2015 but new lending resumed growth.

The drop

in stocks is attributed to the conversion of

essentially all foreign currency denominated

mortgages, in Q1 2015. As a result of the

conversion and also of the settlement introducing

new, fair banking principles, households' loans

declined by HUF 947 billion (on a transaction

basis)(

). Nonetheless, the gross volume of

combined new household lending amounted to

HUF 286 billion in the first half of 2015, a 19%

expansion y-o-y and as much as 50% y-o-y growth

in the mortgage segment of the market.

Households' demand for credit is forecast to

grow.

Several factors explain the pick-up in

demand for new household loans. The loans

settlement and the resetting of lending interest

rates had a major impact on the debt servicing

burden of households (

) (a drop by about 20-25%

on average), which in turn boosted household

consumption. Households’ real incomes have been

increasing for the past four years and income taxes

will decrease in 2016. The economy is expanding

and the outlook is positive creating a better

environment

for

household

spending.

(

) Over 70% of this figure is explained by the impact of the

settlement arising from nullification of the exchange rate

spread and unilateral contract modification.

( ) According to the MNB, Financial Stability Report

November 2015.

(1) Based on end-Q1 2015 data.

Source:

Hungarian Central Bank

The corporate sector's deleveraging is

bottoming out.

The Hungarian NFCs debt-to-GDP

ratio was 62.7% in mid-2015 and just 25.9% if

only domestic lending is taken into account (Graph

2.2.5). The y-o-y decline was on average -3.4%.

However, this aggregate figure masks two trends.

Credit to the SME sector increased as a result of

the FGS. A major drop was observed in

outstanding loans to large corporations in 2015, in

part attributable to some one-off effects (

Overall, in a context of record low interest rates,

corporate sector's deleveraging is bottoming out,

which trend is also confirmed by recent central

bank's lending surveys (

). In December 2015

60% of banks claimed to have eased supply

(

) The indicator captures household indebtedness as

proportion of households’ net income spent on servicing

principal and interest repayment.

(

) The concentration level in the Hungarian corporate credit

market is very high with over 50% of the corporate loan

stock belonging to less than 1% of loan contracts according

to the MNB.

(

) MNB Lending Survey, December 2015 and previous

editions.

swd (2016) 0085 - Ingen titel

2.2. Private and banking sector adjustments

constraints. In parallel banks see a 50%

improvement in perceived demand for corporate

loans. The SME sector is expected to remain

shielded from potential unfavourable credit

conditions through a targeted growth supporting

programme (GSP) initiated by the central bank,

which aims to promote an increase in total

corporate lending of up to 10%.

Graph 2.2.5:

Indebtedness of non-financial corporate

sector as a proportion of GDP

% of GDP

not large enough to boost market-based corporate

lending. Governmental support programmes

including the guarantee schemes also had a rather

limited effect on loan growth. (

) Altogether,

loans with preferential conditions account at

present for about a half of the SME loan stock. As

the second phase of the FGS ended in December

2015, the central bank announced the launch of a

new GSP designed to help domestic banks return

to market-based financing. This is expected to be

achieved by gradually phasing out the FGS and by

announcing a new market-based lending scheme –

an incentive for banks to boost their lending

business. The extended programmes encourage

lending to new projects, as opposed to refinancing,

and widen the scope of eligible SMEs.

Banking sector adjustment

01 02 02 03 04 05 06 07 07 08 09 10 11 12 12 13 14 15

Domestic loans

Loans from abroad

Source:

Hungarian Central Bank

The Funding for Growth Scheme allowed SMEs

to have access to affordable credit.

According to

the survey of access to finance of enterprises

(SAFE) (

), Hungary has better access to finance

than the EU average. The FGS (Table 2.2.1) was

initiated by the central bank in June 2013 as a way

of extending credit to small and medium-size

businesses. As in many Member States, Hungarian

SMEs, and in particular micro-SMEs, which

account for 94.3% of all companies in Hungary,

have struggled with the recession over the past

years. Under the FGS scheme, the central bank

provided credit to commercial banks at zero

interest for the banks to lend onward to SMEs at a

maximum annual interest rate of 2.5%. The

scheme radically improved access to affordable

credit by small businesses (

) but its effect was

(

) The Survey on the Access to Finance of Enterprises is

being published jointly by the European Commission and

the European Central Bank (ECB) since 2008 and covers

all Member States.

(

) According to the central bank, about 28,000 micro, small

and medium-sized enterprises accessed FGS funding

The banking system's vulnerability declined

over the past year.

The conversion of households'

foreign currency loans was a major change. It

eliminated the most important systemic risk

stemming from foreign currency exposures. The

sector is showing better results driven by a

stabilisation of the operating environment. There

have been improvements in the country’s

economic performance and moderation in the

policies and taxation towards the banking system.

Nevertheless, in 2015, banks were on average,

highly cautious and had low risk appetite,

hindering the recovery of market-based corporate

lending. This cautiousness was present despite

high capital ratios and abundant liquidity. Non-

performing credit remains a pressing issue, driven

by low profitability in the corporate segment. The

key concerns at this stage are: (i) re-engaging

market lending, (ii) resolving the bad debt issue

and (iii) putting banks' profitability levels at par

with regional averages. Addressing these concerns

would help reignite growth and the catching up

potential of the Hungarian economy

increasing domestic output by some 1–1.5 percentage

points in the 2013-2015 timeframe.

(

) Anecdotal evidence and the banking community point to

the excessive amount of administration involved in

guarantee schemes and the need to revise the

administrative burden in order to make guarantees easier

and more efficient.

swd (2016) 0085 - Ingen titel

2.2. Private and banking sector adjustments

Table 2.2.1:

Funding for Growth Scheme

Funding for Growth Phase

First

Second

Third (Growth Supporting Program)

Source:

Hungarian Central Bank

Timeframe

June - September 2013

Total Funds Contracted (in HUF bn)

HUF 701

October 2013 - December 2015 HUF 1183 (until November 2015)

2016

Both HUF and foreign currency denominated loans pillars with a target

amount of HUF 300 billion

Domestic banks have significantly reduced their

size and business volumes.

Hungarian credit

institutions have been in adjustment mode for far

longer than the two-year period (2008-2009) when

Hungary struggled with its debt crisis and

benefited from the EU/IMF financial assistance

programme. The banking sector's deleveraging and

de-risking continued until 2014, the year with

lowest net result for the Hungarian banking sector

as whole. (

) The downsizing of the banking

business was severe, going well beyond the drop in

general economic activity. Total assets of

Hungarian banks decreased by over EUR 20

billion between 2010 and 2015 (Graph 2.2.6). At

the same time, the drop in lending to the economy

by nearly a third of the total outstanding loans was

even more pronounced. It is to some extent the

result of a correction from the pre-crisis boom

years when banks' lent abundantly to Hungarian

borrowers –heavily exposing them to foreign

currency risk – and when credit risk standards

were loose because of ample liquidity in the

market. Nevertheless, credit institutions also

reacted to the unfavourable and often

unpredictable operational environment, very high

taxation and the lack of proper dialogue between

the government and the local credit institutions.

Local banks' lack of risk appetite reached

unprecedented levels resulting in a credit crunch

on the one hand and in rapid deleveraging of

foreign banks on the other hand.

(

) In 2014 banks heavily provisioned their lending book

following the "fair banking" legislation.

Graph 2.2.6:

Banking sector’s total assets and risk-

weighted assets (2008 = 100)

105%

100%

95%

90%

85%

80%

75%

70%

65%

60%

15 Q2

Change in total assets

Change in risk-weighted total assets

Source:

Hungarian Central Bank

In terms of profitability, 2015 was a

turnaround-year for the Hungarian banking

sector.

The aggregated Q1-Q3 2015 income

figures suggest that the sector is on track to close

2015 with a profit (Graph 2.2.7). Also, the positive

changes in the government’s unfavourable policies

towards the banking system help the banks to

return to profitability. From the financial stability

standpoint vulnerabilities of the banking sector

declined. The system is at present adequately

capitalised - with a Tier 1 capital ratio of 20.5% -

and liquid (Graph 2.2.8). At the height of the

crisis, beginning 2009, banks' capital adequacy

was only at 10%.

swd (2016) 0085 - Ingen titel

2.2. Private and banking sector adjustments

Graph 2.2.7:

Banking sector profitability

per cent

- 20

- 40

- 60

- 80

14 15 H1

Other income

Loan loss provisioning

Dividend income

Net fee and commission income

ROE

Bank levy

Operating costs

Trading income

Net interest income

Source:

Hungarian Central Bank

Graph 2.2.8:

Average capital adequacy ratio in the

Hungarian banking system

per cent

comparison is average to high. The restructuring

and work-out of non-performing loans remain high

on the agenda of Hungarian authorities but

improvements in this area are not yet detectable in

aggregate data. In the case of mortgage loans a

recent adjustment of the personal bankruptcy

legislation and the expansion of the National Asset

Management Agency for mortgage loans may

facilitate the resolution of some of the bad

mortgage loans. Nevertheless, there still is the

need for further incentives that would promote

market solutions, in particular a more intense effort

regarding mortgage loan restructuring. The quality

of the corporate portfolio remains an unresolved

issue with high impact on new lending. The

activities of MARK (

) may be one of the steps in

a complex solution that could, similarly to the

household segment, entail work on debt

restructuring.

Graph 2.2.9:

Non-performing loan ratios

per cent

08 Q4

09 Q1

10 Q1

11 Q1

12 Q1

13 Q1

14 Q2

15 Q1

Tier 2 Capital

Additional Tier 1

10 Q2

11 Q2

12 Q2

13 Q2

14 Q2

15 Q2

Common Equity Tier 1 (CET1)

Total Capital Adequancy Ratio

Non-performing loan ratio: Corporations

Non-performing loan ratio: Households

(1) CDR IV CRR as of 2014 Q2

(2) Capital ratios measure the financial strength of a bank.

The regulatory capital ratios in the EU are based on a

directive (Capital Requirements Directive, CRD IV) and a

regulation (Capital Requirements Regulation, CRR), which

apply as of 1 January 2014.

Source:

Hungarian Central Bank

Source:

Hungarian Central Bank

Systemic risks decreased but the quality of the

loan portfolio remains low.

A considerable

amount of loans denominated in foreign currencies

(mainly Swiss franc) was converted into forints.

This significantly decreased financial systemic

risks. However, asset quality remains a major

concern with non-performing loans ratios of over

18% and 13% in the retail and corporate sectors

respectively (Graph 2.2.9); the coverage ratio in

both segments is about 60%, which in international

The operating environment of the Hungarian

financial system remains challenging.

Overall,

Hungarian banks continue to function in a difficult

business environment that remains characterised

by a high tax burden on financial institutions and

poor investment prospects as shown by the

negative year-to-date investment figures (down

3.4% y-o-y in Q3 2015) (

). Nevertheless, foreign

(

) MARK is a debt management agency, which was set up by

the Hungarian central bank to purchase and deal with

project loans.

( ) A recent survey published by one of the leading Hungarian

lenders estimates the 2016 investment outlook for some

500 companies as weak. Only about a third of the 500

swd (2016) 0085 - Ingen titel

2.2. Private and banking sector adjustments

financial groups operating in Hungary stayed

committed to support their subsidiaries and to

develop their local franchise. This was confirmed

by the very sizeable equity capital injections over

the recent years (some EUR 4.5 billion in total), in

2014 alone over EUR 1 billion. This additional

capital buffer helped Hungarian lenders to face

losses stemming from the fair banking legislation

that limits fees, commissions and interest rates on

lending contracts. The boosted capital base and

liquidity levels are in line with local supervisory

recommendations and the CRD IV and CRR rules

(Graph 2.2.8). The recently published European

Investment Bank's (EIB) quarterly bank lending

survey (

) - a gauge of parent banks views on their

CESEE business activities - points to an improving

perception of Hungary from the parent banks

perspective. This improved market sentiment

explains why the speed of steady reduction in

exposure to Hungary (observed over the past

years), as reported by international lenders to the

Bank for International Settlements (BIS), started to

increase in the first quarter of 2015.

The change in market sentiment is reflected in

the further decrease of Hungarian sovereign

risk spreads,

which moved significantly closer to

the level of regional peers (Graph 2.2.10).

Nonetheless, even though the recent EIB survey

for the second quarter of 2015 developments

shows more optimism than the previous first

quarter edition, the prospects for the Hungarian

market are described as being worse compared to

the other countries in the region. About 33% of the

surveyed respondents still believe that the potential

of the Hungarian market is low. Parent banks also

stress that the profitability of the Hungarian

operations is still below the regional standards,

with roughly 50% of the banks reporting risk-

adjusted returns on equity in Hungary as being

significantly lower than the overall group level.

Graph 2.2.10:

5 year credit default swap (CDS) in Hungary

and regional peers

250

bps

200

150

100

Czech Republic

Hungary

Slovakia

Poland

Source:

Thomson Reuters

companies surveyed plans some investment in the next 12

months. This percentage is even lower when focusing on

large companies – in that segment only 26% intend to

launch some type of higher investment in 2016. The

Commission notes that the 2016 survey strongly resembles

the 2015 edition in which only 30% of Hungarian

companies mentioned they did plan investments for 2015

while 61% responded they did not foresee to change the

level of capital investment in 2015. Some 9% planned to

decrease capital investments in 2015.

(

)

http://www.eib.org/attachments/efs/economics_cese

e_bls_2015_h2_en.pdf

The State plays an important role in financial

intermediation.

Since the outbreak of the

financial crisis much of the debate around the

banking system in Hungary focused on two key

matters: foreign exchange (FX) loans, which grew

exponentially with the appreciation of the Swiss

franc and the recession and on boosting lending,

mainly to the small and medium sized enterprises.

Since market based lending continued to contract

and the FX loans problem would take decades to

be resolved (most FX loans were long term

mortgage contracts), the Hungarian authorities

took an increasingly active role in repairing the

financial system that had been perceived as not

supporting economic growth and burdening

households with currency risk (Box 2.2.1). The

authorities focused their policies on "right-sizing"

through consolidation, refocusing on national

currency lending, boosting the efficiency of banks

and promoting the development of a domestically

owned banking sector with a soft target of up to

60% of domestic ownership. Based on recent

calculations the share of financial institutions

owned by domestic actors is now close to the 60%

target (

) and the state was over the past year the

most active investor in the financial sector. This

activity entails a contingent liability element for

the Hungarian state budget.

(

) MNB, Financial Stability Report, November 2015.

swd (2016) 0085 - Ingen titel

2.2. Private and banking sector adjustments

Box 2.2.1:

The 2015 foreign exchange denominated loans conversion schemes

The foreign exchange (FX) debt settlement schemes affected in total some 730 000 contracts, inluding. some

500 000 mortgage contracts and an additional 230 000 consumer and leasing contracts. As a result of the

conversion, one of the highest household foreign currency-denominated exposures in the EU dropped to one

of the lowest, from 15% of GDP down to essentially nil. The conversion of foreign currency-denominated

household debt took place in two stages. The initial flagship programme of the government initiated in

November 2014 covered only mortgage loans and came into effect with the fixing of the exchange rate for

instalments - as of January 2015. Following an agreement between the authorities and the banking sector it

was the central bank that provided the required foreign exchange funds (in total EUR 9 billion) to the

counterparty institutions, in order to enable them to close their open FX position at market rates and avoid

impacting the market exchange rate of the forint. The timing of the first FX debt conversion scheme

covering ultimately some HUF 3,000 billion in mortgages was matched with the start of the law on "fair

banking", which defined stricter conditions for unilateral changes in interest rates, charges and fees. As a

result of the settlement and the resetting of the lending rates, the debt servicing burden of a typical

Hungarian household decreased by about 20% on average. The conversion of the households' foreign

currency debt – over half of all household debt in Hungary – coincidentally, took place just a few weeks

before the Swiss central bank announcement of unpegging the Swiss franc. With hindsight, the conversion

of households' FX debt was definitely the most successful move by the Hungarian authorities to foster

financial stability over the past few years. The pledge to free Hungarian households from FX debt was made

complete with the second debt settlement scheme that focused on converting foreign-currency car and

personal loans into forint debt at the rates in effect on August 19. The scheme was the outcome of a deal

negotiated between the authorities and the banking association. Similarly to the first FX conversion scheme,

the required funds to close the FX open positions worth some EUR 1 billion were provided by the central

bank, whereas the costs of a rebate compensating borrowers for the weakening of the national currency were

jointly shouldered by the banks and the Hungarian state. Consequently, lenders are allowed to reduce their

2016 and 2017 tax bills by the corresponding amount.

In 2015 the Hungarian authorities announced

their plans to reduce burden on banks.

This was

emphasised in a memorandum of understanding

(MoU), signed on 9 February with the European

Bank for Reconstruction and Development

(EBRD) in which the government committed to

reducing bank taxes, to disposing of two lenders

recently acquired by the Hungarian state, assisting

in solving the issue of non-performing credit and

refraining from implementing new laws or

measures that may have a negative impact on the

profitability of the banking sector. A further

commitment was made to ensure that there is fair

competition between and equal treatment of all

financial institutions in Hungary, irrespective of

size or nationality of ownership. A lower rate for

the bank tax was announced in late 2015. The levy

is projected to decrease from 0.53 % in 2015 to

0.24 % in 2016 and be capped at 45% of the 2015

tax obligations. The base for the tax, however,

remains anchored in the end-2009 balance sheet of

banks. For the years 2017 and 2018 the Hungarian

legislator announced plans to further reduce the tax

rate to 0.21 %. The new bill announced in

December stipulates that banks' 2017 and 2018 tax

payments cannot exceed their 2016 payments.

Nevertheless, Hungarian banks continue to

deleverage.

The loan-to-deposit (LTD) ratio

peaked in 2009 at 160%. It dropped below 100%

by the end of 2014 and estimated to decline further

to 94% by mid-2015.

The adjustment of banks' business models to

the new operating conditions

The "rightsizing" of the banking system in

Hungary helped improve profitability but

further efforts are needed to improve the cost

structure of banks.

Comparing the cost base of

the Hungarian banking sector to regional peers

shows the extent of the adjustment of the sector

over the past six years. The 2014 total operating

expenses of Hungarian banks show a 20% decline

compared to the 2008 figures. Banks operating

expenses in Poland and the Czech Republic

increased during the same period by 12% and 9%,

respectively. This is partly explained by the

decrease in employment in the Hungarian banking

swd (2016) 0085 - Ingen titel

2.2. Private and banking sector adjustments

sector, from 34 500 employees in 2008 down to 30

000 at the end-2014 and the closing of some 300

branches across the country (from almost to 1700

outlets to 1400) in the same period. Nevertheless,

the efficiency of the banking sector has not

improved unlike in Poland and in the Czech

Republic. The increase in the total operating

expenses to total assets ratio (2.6% and 3.5% in

2008 and 2014 respectively) points to the fact that

total assets diminished faster than operating

expenses (Graph 2.2.11). Likewise, the cost to

income ratio is very high in Hungary, at 65% in

2014 (59% in 2008), whereas both Poland (53%)

and Czech Republic (48%) managed to lower their

respective cost base (Graph 2.2.12). These

developments reflect the fact that the other

countries in the region did not have such deep and

prolonged recessionary periods as Hungary.

Moreover, the income generating capacity of

Hungarian banks was heavily affected by

government policies including various schemes to

assist FX borrowers.

Graph 2.2.11:

Evolution of total assets in Hungary, Poland

and the Czech Republic

Graph 2.2.12:

Evolution of the cost-to-income ratio in

Hungary, Poland and the Czech Republic

Source:

European Central Bank

150

140

130

120

Index,

2008=100

Banks' resilience was strengthened and

sensitivity to shocks decreased.

Banks managed

to correct some of their imbalances through

eliminating much of the reliance on wholesale

funding and by lowering the aggregated cost base

and somewhat increasing their income from fees

and commissions (

) (Graph 2.2.13), against the

backdrop of low net interest margin.

(

) Both in nominal terms and relative to total assets,

according to ECB data.

110

100

Source:

European Central Bank

swd (2016) 0085 - Ingen titel

2.2. Private and banking sector adjustments

Graph 2.2.13:

Fees and commissions as percentage of total

assets - comparing Hungary to Poland and

the Czech Republic

2.0

1.8

1.6

1.4

1.2

1.0

0.8

0.6

0.4

0.2

0.0

Source:

European Central Bank

swd (2016) 0085 - Ingen titel

2.3. ELEVATING GROWTH POTENTIAL

Graph 2.3.1:

Investment rate (investment/GDP) in Hungary

and regional peers

A faster decline of Hungary's accumulated

imbalances

hinges

the

successful

implementation of growth enhancing reforms.

The Commission examined in a dedicated chapter

the issue of potential growth three years ago in an

IDR section (

). This chapter presents the latest

results of the potential output calculation of the

Commission, based on the commonly agreed

methodology (

). In addition, it makes a

comparison with other countries and draws policy

implications on how to enhance potential growth.

Hungary's growth potential has been

recovering since 2010

(see Graph 2.3.4 at the end

of the section). Data suggest that the Hungarian

economy had been overheating until 2008,

characterised by high capacity utilisation and

massive net borrower position. During the crisis,

capacity utilisation fell below its historical

average, while weak domestic demand led the

economy to become a net lender. However, the

economy is projected to return to its potential level

over the forecast horizon, yet with a lower

contribution of total factor productivity (TFP) and

capital accumulation than before the crisis.

While total factor productivity growth and

capital accumulation have not fully recovered,

labour contribution has improved.

The

deceleration in TFP growth is likely linked to

weaknesses of financial intermediation, relatively

low productive investment and a low level of

innovation. Capital accumulation also remains

below the pre-crisis level reflecting lower

investment growth. Deleveraging inherently

reduced investment rates (see Graph 2.3.1), but the

slowdown also partly stems from the perceived

deterioration in the business environment (see box

1.1). However, contribution of labour to potential

growth has considerably improved. This is linked

to structural reforms, namely the extension of the

retirement age, the tightening of the eligibility for

unemployment benefits and disability pensions.

(

) Macroeconomic Imbalances - Hungary 2013, European

Economy. Occasional Papers 137. March 2013.

(

) Economic Papers nr. 535. (November 2014) "The

Production Function Methodology for Calculating Potential

Growth Rates & Output Gaps" – Throughout the section

this is referred to as the "commonly agreed methodology"

(methodology of the Output Gap Working Group).

% of GDP

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17

Source:

Eurostat

The estimated labour contribution to potential

growth reflects several opposing trends.

Demographic trends are similar to those of other

ageing European countries. The working-age

population has been decreasing by more than

0.3 % year by year since 2012, and is foreseen to

keep declining until 2020. This is partly

compensated by an increasing participation rate.

The participation rate reached 59% in 2014, which

is a record high for Hungary, even if it is still low

in international comparison. It is projected to

increase gradually to 63% by 2020. In parallel,

overall employment is at its long term high.

Average hours worked per employee have been

decreasing due to an increase in part-time

employment. (

) The unemployment rate has

decreased substantially and is at its all-time low,

moving smoothly together with the non-

accelerating wage rate of unemployment.

Hungarian potential GDP growth is estimated

above the EU average but below those of the

best performing regional peers.

The almost 2 %

average potential GDP growth estimation between

2013 and 2017 is higher than the EU average

(1.1%). Outperformers among peers are Latvia,

Slovakia, Lithuania, Romania, Estonia and Poland

(Graph 2.3.2). The Czech Republic and Slovakia

(

) The considerable fall in the average hours of work per

employee recorded in 2010 reflects a methodological

change (Graph 2.3.4, fourth row, right side).

swd (2016) 0085 - Ingen titel

2.3. Elevating growth potential

display a similar rate of growth, which is mostly

driven by fast TFP growth, making it more

sustainable in the medium term (Graph 2.3.4).

Since its EU accession, Hungary has been lagging

behind in convergence relative to regional peers.

Graph 2.3.2:

Potential GDP in the EU

Graph 2.3.3:

Different estimates of potential growth

-1

-2

-3

-1

Hungarian Central Bank

Ministry of National Economy

European Commission

2013-2017 average

HU 2013-2017 average

EU 2013-2017 average

Source:

MNB, MoNE, European Commission

Source:

European Commission

The estimates by the Hungarian Central Bank

and the Ministry of National Economy are

similar to those of the Commission's

(Graph

2.3.3). It seems that Hungary's potential growth

returned to the positive territory around 2010-

2011. After a steady increase, potential growth

slowed down, reaching 2% in 2015. On the

forecast horizon, it is estimated to remain around

this value. According to the Commission's

forecast, potential growth slightly increases in the

short term and then returns to 2% for the outer

years of the forecast period.

There is some consensus across institutions

regarding Hungary's potential GDP and the

policies that could enhance it.

Hungary's

potential GDP is currently estimated at around 2%.

It is mainly the TFP that makes the country lag

behind some of its regional peers. The most

important factor of future potential growth may be

linked to TFP, while labour and capital may

support potential GDP as well. There is a

significant

catch-up

potential

labour

productivity, mainly in the subsectors of

manufacturing and among SMEs. There is

potential in human capital accumulation through

reforms in education as well, with the main

focuses such as raising the share of tertiary

education graduates; the reduction of the

proportion of early school leavers. Incentives for

higher R&D activity in the private sector; and

more competitive product markets would

definitely be beneficial (see section 3.4). In

parallel with qualitative factors, quantitative

factors such as the increase in participation rate

may have a significant contribution to potential

growth. Employment among the low-skilled and

the elderly (over 50 years) could be elevated by the

further decrease in labour taxes and contributions.

High technology investments (related mostly to

German automotive producers) that were realized

in the recent years could also have a positive spill

over effect to the overall economy, however recent

data has not yet maintained this hypothesis. The

integration of domestic SMEs in the global value

swd (2016) 0085 - Ingen titel

2.3. Elevating growth potential

chain would be a key development in this regard.

The government has conducted reforms in the

public administration too, although there is still

room for improvement (see box 1.1).

Graph 2.3.4:

Contributions to potential growth in Hungary and in regional peers

7.0

6.0

5.0

4.0

3.0

2.0

1.0

0.0

7.0

6.0

5.0

4.0

3.0

2.0

1.0

0.0

-1.0

-2.0

-3.0

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17

labour

capital

TFP

POT GDP

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17

-1.0

-2.0

-3.0

labour

capital

TFP

POT GDP

7.0

6.0

5.0

4.0

3.0

2.0

1.0

0.0

-1.0

-2.0

-3.0

7.0

6.0

5.0

4.0

3.0

2.0

1.0

0.0

-1.0

-2.0

-3.0

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17

labour

capital

TFP

POT GDP

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17

labour

capital

TFP

POT GDP

Source:

European Commission

swd (2016) 0085 - Ingen titel

2.4. MIP ASSESSMENT MATRIX

This MIP assessment matrix summarises the main findings of the in-depth review in this report. It focuses

on imbalances and adjustment issues relevant for the MIP.

Table 2.4.1:

MIP Assessment Matrix (*) - Hungary

Gravity of the challenge

Evolution and prospects

Policy response

Imbalances (unsustainable trends, vulnerabilities and associated risks)

External balance

The NIIP improved from -116% of

GDP to -73% by 2014. However,

gross external debt remains

relatively high (around 80% of

GDP) and the associated rollover

needs still pose risks to the

economy (pp. 14-15)

The improvement in the trade

balance in the aftermath of the

crisis went in parallel with a

considerable fall in export market

shares. Between 2008 and 2012, the

cumulative loss amounted to 23%,

reflecting structural weaknesses

(pp.18-19).

The country has been experiencing

a slowdown in FDI since the last

decade, which limited an important

source of non-debt financing for the

economy (pp.20-21).

The improvement in the NIIP has recently

continued, altogether by some 15 pps. over

2014-2015. High net lending (6-9% of GDP)

has been maintained (pp.13-14). All key

components of the balance of payments

contributed to the adjustment. EU transfers

(increasing to 5-6% of GDP) have played an

important role (p. 17.). The NIIP is likely to

decrease below -35% over the next 10 years

(pp. 17-18.)

Previous export market losses have been

partially reversed with a combined 7.5 pps.

growth in 2014 and 2015, and this trend is

expected to continue. (pp. 18-19.). Cost

competitiveness has improved (the ULC

based REER depreciated by 19% since 2008),

but there has been a little improvement in

non-cost competitiveness (pp. 19-20).

Net FDI inflows have overall declined further

in the post-crisis years (by 1.5% of GDP on

average). More recent balance of payment

data may point to a recovery, but statistics on

greenfield foreign invest paint a less

favourable picture (pp.21-22).

The reduction of general government deficit has

supported the maintenance of the stable net lending

position of the economy. (p.13)

The conversion of foreign exchange denominated

loans and the reduction of foreign exchange

denominated debt reduce external rollover risks

(pp.14-15. and Box 2.1.1).

Recent trade policies aim at opening the country's

export markets outside the EU. Wage and exchange

rate policies overall have facilitated the

improvements in cost competitiveness. (p. 19)

A more stable business environment would improve

the country's capacity to attract FDI. (p.20)

Financial sector

The country entered the financial

crisis with a relatively high level of

private debt (close to 120% of GDP

in 2009). This was accompanied by

a high share of foreign currency

denominated loans both in the

corporate and household sectors

(55% and 70%, respectively),

resulting in a considerable currency

mismatch in the economy (pp. 23)

Uncertainties related to the

regulatory and tax environment

keep both country risk and banks'

risks at elevated levels. In parallel,

the aggregated capital base

remained adequate for most credit

institutions and liquidity conditions

were favourable, but net lending

declined. The banking sector has

been affected by low profitability

and limited capacity to generate

capital (p.26).

Asset quality remains a major

concern with non-performing loan

(NPL) ratios of over 18% and 13%

in retail and corporate sectors

respectively. (p.27).

Private debt-to-GDP ratio has been reduced

to 90% of GDP by 2014. Deleveraging has

been supported by growing nominal GDP

(p.23)

The banking systems vulnerability declined

over the past year with an improved

profitability outlook (pp.25-26) (The systemic

risks generated by the considerable stock of

loans denominated in foreign currencies on

the banks' balance sheets have been

moderated through converting foreign

currency denominated credit into forints (Box

2.2.1)

New lending to households started to grow

again (19% y-o-y growth in 2015). The

repayment burden on households is still high.

Household's demand for credit is expected to

grow While credit to the SME sector

increased in recent years, overall corporate

lending has not saw a revival yet reflecting

uncertainty (pp.24-28).

The adjustment of bank's business models

helped to improve profitability conditions,

but further efforts are needed to improve their

cost structure (pp.30-31).

The authorities have announced their readiness to

improve relations with the banking community and to

discuss any future measures that could affect banks'

profitability (p. 29).

The authorities stepped in with a set of measures –

the key initiative being the launch of the Funding for

Growth Scheme – to increase lending to the economy

(p.25).

A lower bank tax was announced and the government

insists on the compliance with key commitments as

agreed with the European Bank for Reconstruction

and Development (EBRD) in a Memorandum of

Understanding signed in February 2015. The

authorities have also committed to lower the bank tax

in 2016 and further in 2017. (p.29)

Asset quality of banks' balance sheet is being

addressed in various initiatives but results are not yet

visible. New personal insolvency legislation is now in

place The National Asset Management Company has

more capacity (35 000 dwellings) and MARK

(dedicated to purchasing bad debt in the commercial

real estate segment) will start operations soon. (p. 27)

Moving towards a lower bank tax could boost the

sluggish returns on equity. Increased state ownership

in the banking sector is a source of a contingent

liability risk (p. 29).

(Continued on the next page)

swd (2016) 0085 - Ingen titel

2.4. MIP assessment matrix

Table (continued)

Potential growth

Given the large stock of external

liabilities and public debt, subpar

potential growth may pose a

problem

macro-financial

stability as the resources needed to

finance debt may be insufficient.

The growth potential of the country

remains moderate (p.32).

Weak real convergence has been

driven by weak productivity growth

(Chart 2.3.4).

The main factor responsible for low

growth potential is total factor

productivity (contribution of 0.7

pps. in 2015) which might be

linked to problems with financial

intermediation as well as to the low

level of innovation in the economy

in general. (p.32).

Hungary's potential output growth has been

negative after the crisis, having returned to

positive territory around 2012 according to

estimates. After a steady increase potential

growth stabilised at around 2% in 2015.

Forecasts points to potential growth around

this value. (p.36)

Hungary's relatively low grow potential could be

addressed with appropriate financial market policies,

including the restoration of market-based lending in

the economy (e.g. implanting the policy

commitments made in the recent Memorandum of

Understanding) and accelerating portfolio cleaning.

The Funding for Growth Scheme also helped the

lending activity of SMEs.

Structural reforms have been made, namely the

extension of the retirement age, the tightening of

unemployment benefits eligibility and disability

pensions. These elevated the contribution of labour to

potential growth.(p.32)

On the other hand the expansion of the number of

enrolees in the Public Works Scheme has a limited

contribution because of the low productivity of these

workers. The continued reliance on extra sector

specific taxes and the unstable business environment

hinder investment. (Box 1.1)

There is a scope for improving factor productivity

through education reforms as well. Reducing the

number of early school leavers would also help.

Enhancing incentives for increased R&D activity in

the private sector; and more competitive product

markets can lead to higher growth potential. (p.37)

Conclusions from IDR analysis



Hungary is on a balanced albeit still relatively moderate growth path, gradually working off its macroeconomic imbalances. Both external and internal financial

imbalances seen at the outset of the crisis have been significantly reduced, but important risks and challenges remain, including the relatively high external debt

rollover needs and the still high share of non-performing loans in the banking sector.

A marked reduction in net external liabilities is on-going, driven by high current and capital account surpluses, supported in particular by recent export market

share gains. The banking sector's outlook is improving and non-performing loans, although elevated, are declining. Credit flows to the private corporate sector

remain subdued in a context of low bank profitability. The banking sector is showing better results helped by the improving economic environment and by a

moderation in the previously harsh policies towards the sector. The main challenges are to reduce the high share of NPLs and to promote the growth of market-

based private lending.

Policy measures have been taken in order to make the regulatory environment more predictable in the financial sector, lower the tax burden on banks, reduce

the proportion of debt held in foreign currency and introduce subsidised lending schemes. The impact of these measures has yet to translate into sustained bank

lending. Moreover, policy gaps remain in the area of non-cost competitiveness, productivity and the overall business environment. Enhancing the growth

potential is crucial to further reduce the share of external and internal debt in GDP and thus escape polices that would achieve the latter by depressing domestic

demand.



(*) The first column summarises "gravity" issues which aim at providing an order of magnitude of the level of imbalances. The

second column reports findings concerning the "evolution and prospects" of imbalances. The third column reports recent

and planned relevant measures. Findings are reported for each source of imbalance and adjustment issue. The final three

paragraphs of the matrix summarise the overall challenges, in terms of their gravity, developments and prospects, policy

response.

Source:

European Commission

swd (2016) 0085 - Ingen titel

ADDITIONAL STRUCTURAL ISSUES

In addition to the macroeconomic imbalances and adjustments issues addressed in section 2, this section

provides an analysis of other structural macroeconomic and social challenges for Hungary. Focusing on

the policy areas covered in the 2015 country-specific recommendations, this section analyses issues

related to firstly the tax system, the tax wedge of labour and tax compliance as well as the improvement

of public debt and the lagging implementation of the medium-term budgetary framework. Second, it

analyses the challenges of labour market, social and health policy. The public works scheme is not

adequately targeted and does not appear to be effective in leading participants back to regular

employment. Education policy is also examined, reflecting on the increasing educational inequalities

and its possible negative social and economic consequences. In addition, the quality of the regulatory

framework and deficiencies in public procurement are evaluated in the business environment part.

Finally, the section reviews network industries policy.

3.1. FISCAL POLICY

Taxation

Hungary's reliance on sector-specific taxes

continues to put an additional burden on the

sectors concerned.

Since 2009, Hungary has

increasingly relied on revenues from sector-

specific taxes. Sector-specific taxes have been

identified as a factor for businesses deferring

investment decisions (

), and weakening investor

confidence in general. Such taxes have been

criticised as causing distortions across sectors

given the selectiveness of their design. In addition,

many of the sector-specific taxes in Hungary have

been introduced without proper stakeholder

consultation or an impact assessment as to their

potential adverse effects. The taxable base for

sector-specific taxes has often been established

based on retroactive sales revenue figures, causing

disruptive effects for businesses. While new

sector-specific taxes were introduced in 2015, the

levy on credit institutions is to be significantly

reduced from 2016 pursuant to an agreement with

the European Bank for Reconstruction and

Development (Box 3.1.1).

The labour tax wedge is still high, in particular

for low-income earners, which may affect their

employability.

The tax wedge for low earners was

the highest in the EU in 2014. (

) For average

(

) OECD Stat, FDI flows by industry, Hungary.

http://stats.oecd.org/Index.aspx?DatasetCode=FDI_FLOW

_INDUSTRY

(

) Defined for a single person without children earning 50 %

of the average wage. he tax wedge for a person earning the

average wage was the 4th highest. All data in this

paragraph from European Commission, ECFIN, Tax and

benefits

indicators

database

earners (singles or couples without children) it was

one of the highest. While the family tax credit

reduces the tax wedge for earners with children,

the effect is substantial only for those with at least

three children. The tax wedge for a two-earner

couple with two children (both earning the average

wage) is above the EU average. The 2013 Job

Protection Act introduced targeted reductions in

social contributions paid by employers for specific

groups (low-skilled, young and elderly employees,

the long-term unemployed and women returning

from maternity leave), reducing their tax wedge.

Yet for those earning low incomes, the tax wedge

remains above the EU average. From 2016, the

personal income tax rate has been reduced from

16% to 15%. Furthermore, a further extension of

the family tax credit benefiting families with two

children has also been adopted. While these

measures will also benefit those with lower

incomes, no targeted measures are foreseen for this

specific group.

There is a potential to shift tax away from

labour.

Hungary is heavily reliant on consumption

taxes, with revenues from consumption taxes the

second highest in the EU according to the latest

figures. Revenues from recurrent property taxes

are however relatively low at 0.6% of GDP

compared to an EU average of 1.6%.While

revenues from environmental taxes as a percentage

of GDP are around EU average, the implicit tax

rate on energy is relatively low. A recent study (

)

http://ec.europa.eu/economy_finance/db_indicators/tax_be

nefits_indicators/index_en.htm

(

) Study on Assessing the Environmental Fiscal Reform

Potential for the EU28 (forthcoming 2016), draft final

report 10.11.15, Eunomia Research and Consulting, IIEP.

swd (2016) 0085 - Ingen titel

3.1. Fiscal policy

suggests considerable revenue potential from

environmental taxes. However, despite persistently

low energy market prices, Hungary does not levy

excise duties on the supply of gas and electricity to

non-business customers. The respective excise

rates on unleaded petrol and gas oil are among the

lowest in the EU (

). Environmentally-harmful tax

allowances (including the low taxation of company

cars) persist in Hungary.

Tax compliance costs remain high.

In particular,

the administrative burden in terms of hours needed

to prepare, file and pay taxes (especially labour

taxes) is relatively high compared to the EU

average. (

) An OECD study also finds that

Hungarian SMEs are particularly adversely

affected by tax compliance costs. (

) Despite

recent efforts to ease the administrative burden on

businesses, no major improvements have been

reported by businesses in this field.

Despite improvements in recent years, Hungary

still faces challenges regarding the efficiency of

tax collection.

VAT compliance remains relatively

low. Cross-country comparable data put the VAT

gap as a percentage of the theoretical liability at

24.4% in 2013 compared to an EU average of

14.5%.(

) Recent measures put in place to combat

VAT avoidance seem to have produced significant

revenue yields over the last two years (estimated at

around 0.5-0.7% of GDP). Several indicators point

to potential weaknesses in the efficiency of the tax

administration. The administrative cost to net

revenue ratio in 2013 was relatively high (1.15)

compared to the EU average (1.09). (

)

Undisputed tax debt, at 21.1% in 2013 was

significantly higher than EU average (4.4%). An

investigation by the State Audit Office into the

(

) European Commission, Taxud, excise duty tables as of July

2015.

http://ec.europa.eu/taxation_customs/resources/documents/

taxation/excise_duties/energy_products/rates/excise_duties

-part_ii_energy_products_en.pdf

(

) World

Bank

2015,

Doing

business,

http://www.doingbusiness.org/data/exploretopics/paying-

taxes

(

) OECD, 2015, Hungary, Towards a Strategic State

Approach.

(

) Case, CPB, 2015, Study to quantify and analyse the VAT

gap

Member

States.

http://ec.europa.eu/taxation_customs/resources/documents/

common/publications/studies/vat_gap2013.pdf.

(

) OECD,

Tax

administration

2015.

http://www.oecd.org/tax/forum-on-tax-

administration/database

activities of the National Tax Authority revealed a

number of shortcomings in the period from 2009 to

2013 regarding adherence to internal regulations in

particular in the fields of risk assessment and debt

collection. (

)

Several measures have been taken to improve

compliance and reduce compliance costs.

online cash register system was introduced and is

scheduled to be extended to further sectors.

Businesses classified as ‘reliable’ under a new

classification system of tax compliance risks, are

expected to be granted shorter VAT refunds and

tax inspection periods as a benefit. A real time

cargo monitoring system for public road shipments

was introduced in 2015. The Hungarian

government announced a major institutional

reform, to be launched in 2016, targeting tax

administration with a view of promoting

administrative efficiency.

(

)

http://www.aszhirportal.hu/hu/hirek/

swd (2016) 0085 - Ingen titel

3.1. Fiscal policy

Box 3.1.1:

Developments in sector-specific taxes

Increased reliance on sector-specific taxes started in 2009 with the introduction of the tax on

energy providers. The tax on financial institutions came into force in September 2010. Additional

taxes were introduced in the following years with the special tax on the retail, telecommunications

and energy sectors, applicable between 2011 and 2013, the telecommunication tax (since July

2012), the public utilities tax (since 2013), the financial transaction duty (since 2013) the insurance

tax (since 2013) and the advertisement tax (since 2014). The extension of sector-specific taxes

continued in 2015, which brought the introduction of steeply progressive rates in the food

inspection fee (

) as well as the introduction of a tax on tobacco manufacturers and distributors. (

)

However, the European Commission suspended the collection of these levies on the claim that

they give unfair competitive advantage to certain companies. In response to another action by the

Commission, the Hungarian government abolished the progressive design of the advertisement tax

as of July 2015. (

) Finally, pursuant to an agreement with the European Bank for Reconstruction

and Development, the rate of the financial tax imposed on credit institutions has been significantly

reduced from 2016. The measure is expected to lower the levy by almost a half.

The revenues collected from sector specific taxes reached a peak in 2013 at somewhat above 2%

of GDP and also in terms of their contribution to total revenues (Graph 1) (

). Apart from the

relatively low elasticity of these taxes, the subsequent decline reflects the effect of measures,

including the phasing out of a one-off component of the financial transaction duty in 2014, the

elimination of the duty paid by the State Debt Management Agency (which was levied within the

central government) in 2015, and reduction of the tax on financial institutions in 2016. At same

time, the revenues from sector-specific levies would still exceed corporate income tax receipts.

Graph 1:

Sectorial tax revenues

Revenue collected from sectorial taxes for the

central budget (% of GDP)

2.5

Revenue from sectorial taxes to total revenue

collected for the central budget (% of total

revenues)

2.0

1.5

1.0

0.5

0.0

(1) The data are based on the cash returns of the central government and the budgetary appropriations for 2016

Source:

Hungarian Central Statistical Office

(

) The flat rate of 0.1% calculated on sales revenue was replaced by progressive rates going up to 6%.

(

) For the highest tax band (applicable to sales revenue over HUF 20 billion), the tax rate was set at 40%.

(

) The previous progressive rates were replaced by a dual system in which no tax is applied on taxable base between

HUF 0-100 million and a rate of 5.3% applies of the taxable base in excess.

(

) These include: the levy on credit institutions, tax on energy providers, tax on the retail, telecommunications and

energy sectors, sectorial tax on financial institutions, public utilities tax, advertisement tax, telecommunication tax,

financial transaction duty and the insurance tax.

swd (2016) 0085 - Ingen titel

3.1. Fiscal policy

Public debt

Graph 3.1.1:

Gross government debt ratio: historic data

and short term projection

Hungary's general government debt, while

declining remains a source of vulnerability to

the economy.

Hungary's short-term sovereign

financing needs are among the highest within the

group of emerging and middle-income economies.

The public debt-to-GDP ratio fell below 76% of

GDP in 2015 from a peak value of close to 81% in

2011. The reduction of debt has been largely

facilitated by the takeover of private pension

assets, the effect of which was partly offset by

negative revaluation effects. In addition, the

primary balance moved to a surplus position since

2012 (Graph 3.1.1).

The European Commission 2016 winter

forecast projects the debt ratio to decrease

further to around 72�½% of GDP by 2017.

Adverse stock flow adjustment effects (most

notably the delays in the receipt of EU funds) are

expected to result in a moderate decline in 2015,

but the pace of debt reduction is projected to speed

up over 2016-2017 reflecting also decreasing

interest outlays and a relatively high nominal GDP

growth (at about 5% on average). At the same

time, the primary balance is forecast to stabilize

slightly below 1% of GDP.

Over the short term, Hungary does not appear

to face risks of fiscal stress.

Net public debt and

the net international investment position as a

percentage of GDP point to possible short-term

challenges, but overall, short-term risks do not

appear to emerge. The relatively high share of debt

owned by non-residents, as well as the share issued

in a foreign currency (at around 40% in 2014), are

sources of potential vulnerability risks, especially

with exchange rate volatility. However, recent

policy developments (including the central banks

self-financing program) provide the prospect of

rapidly reducing exchange rate risks and

challenges related to external funding regarding

public debt. The proportion of foreign currency

denominated debt is expected to decline to 30% in

2015 and the latest Convergence Programme

indicates that it will be reduced further to

approximately 20% by 2018.

% of GDP

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17

(1) Gross government debt as % of GDP

Source:

European Commission

The Commission services' baseline scenario

indicates a steadily declining debt trajectory

with the debt ratio falling close to the Treaty's

60% of GDP reference value by 2026

(Graph

3.1.2). (

) Around two-third of the projected debt

reduction over the ten-year period is attributable to

a fall in demography-related public expenditure.

This mainly reflects the impact of previously

implemented pension reforms. The remainder of

the estimated reduction of government debt is due

to the underlying primary surplus (which fixed at

0.9% GDP for the forecast period). However, this

is projected to be partly offset by a debt-increasing

snowball effect. The estimated potential growth of

the country remains low to counteract the impact

of the implicit interest rate on debt, given the

macroeconomic assumptions of the baseline

scenario.

Hungary's debt-reduction path displays some

fragility to potential adverse macroeconomic

developments.

If adverse shocks to nominal

growth or interest rates were to occur (in the order

of a -0.5 pp on growth, +1 pp on interest rates on

new and rolled over debt from 2016 onwards), the

debt ratio would be 5 pps. higher in 2026

compared to the baseline. Moreover, stochastic

debt simulations incorporating the joint effects of

(

) European

Commission (2015) "Fiscal Sustainability

Report 2015" European Economy Institutional Paper No.

018.

swd (2016) 0085 - Ingen titel

3.1. Fiscal policy

historically observed shocks point to 26%

probability that Hungary's debt ratio will be greater

in 2020 than in 2015.

Graph 3.1.2:

Gross government debt ratio: the baseline

scenario and alternative trajectories

In the long run, Hungary faces a low risk to fiscal

sustainability. Based on the S2 indicator, the long-

term sustainability gap is at 1.5 % of GDP, which

shows a relatively low level of upfront fiscal

adjustment needed ensure that the debt-to-GDP

ratio will not move on an ever increasing path.

Fiscal framework

% of GDP

11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26

No-policy change scenario without ageing costs

Historical structural primary balance scenario

Baseline no-policy change scenario

Source:

European Commission

Sustainability risks would be higher if the

structural primary balance was to revert to

values observed in the past.

If the primary

balance deteriorated to the average level observed

in the past (i.e. 0.1% of GDP), the debt ratio would

remain close to 70% of GDP in 2026. Hungary has

displayed considerable fiscal discipline since the

onset of the crisis. Nevertheless some notable

budgetary risks remain. This includes the potential

debt increasing effect of the construction of the

planned nuclear power plant, considerable wage

pressures in the public sector following years of

nominal freezes as well as the prospect of further

corporate acquisitions by the state increasing

contingent liabilities.

On the basis of the Commission's medium and

long-term sustainability indicators, Hungary

appears to face low fiscal sustainability risks.

The medium-term sustainability gap as measured

by the S1 indicator (

) is at -0.5 pp of GDP,

implying that no further fiscal effort would be

needed under a no-policy change assumption to

achieve the Treaty's threshold by the end of 2030.

(

) S1 indicator shows the adjustment effort required, in terms

of a steady adjustment in the structural primary balance to

be introduced of the five years after the short-term forecast

horizon to bring the debt ratio to 60% of GDP in 2030.

The long overdue implementation of the new

medium-term budgetary framework (MTBF)

was initiated in late 2015.

Its first test of

effectiveness will be the deliberation and adoption

of the 2017 budget. The new MBTF was legislated

for in December 2013, but its implementation has

been delayed. In late December 2015, the

government finally adopted a resolution,

stipulating the expenditure and revenue plans for

each budgetary chapter in a two-year horizon. Both

the 2015 and 2016 budgets were still prepared in

the traditional way: neither the indicative 3-year

plans contained in the justification of the previous

years' budget, nor the Convergence Programmes

played a meaningful role in the determining of

budget allocations. The main novelty of the new

regulation is that differences between the medium-

term figures as laid down in the resolution and the

draft budget bill must be justified in written format

by the government (i.e. a form of the ‘comply or

explain’ principle). The planning and deliberation

of the 2017 budget (which is foreseen to be

advanced to spring 2016) will serve as a critical

first test of the new framework.

Despite some gradual reinforcements in recent

years, the Fiscal Council appears to focus on

qualitative risk assessments.

Despite the existing

broad mandate to comment on any relevant public

finance issues, its decisions continue to be

primarily based on qualitative risk assessments.

The Council has significantly increased the

number of commissioned external studies, such as

short-term forecasts and analytical papers from

partner institutions, and started to commission

medium- to long-term macro-fiscal baseline papers

as well as regular monthly monitors from research

institutes.

swd (2016) 0085 - Ingen titel

3.2. LABOUR MARKET AND SOCIAL POLICY

Labour market policies

The recovery of the labour market continued in

2014 and 2015 on the back of strong economic

growth.

Unemployment fell to 6.4 % in the third

quarter of 2015 (see Graph 3.2.1) driven by the

increase in employment in the market sector, the

expansion of the PWS and the cross-border

mobility of job seekers. Employment increased by

about 107 000 individuals and unemployment fell

by about 60 000 y-o-y in the third quarter of 2015.

The employment rate increased by 2.2 pps. y-o-y

to 64.8 % in Q3-2015 (age group 15-64, Graph

3.2.1), narrowing the gap with the EU average

(66.1%). In Q3-2015 the employment rate was

69.7% for the age group 20-64. These

improvements can be explained by a strong

increase in the labour market participation rate due

to some discouraged workers returning to the

labour market, changes in demography and past

reforms restricting access to early retirement and

disability schemes.

Graph 3.2.1:

Activity, employment and unemployment

rates

unemployed (over 24 months). Employment rates

of Roma are low (29 %) and their long-term

unemployment is significantly higher, driven by

factors including lower educational attainment, a

higher concentration of Roma population in

disadvantaged regions, spatial segregation and

direct and indirect discrimination (

Youth unemployment has decreased but the

rate of youth not in education, employment or

training (NEET) remains high.

As shown in

Graph 3.2.2, the youth unemployment rate has

improved at a fast pace, approximating pre-crisis

levels, and falling below the EU average for the

first time in 2014 (20.4 % vs. EU average 22.2 %),

reaching 16.7% in Q3-2015. The NEET rate has

decreased to 13.6 % in 2014, but it remains

somewhat above pre-crisis level and the EU

average (12.5 %). It stands at 12.1 % for men and

15.3 % for women. The majority of Hungary's

total NEET population consists of inactive NEETs,

including a large share of young people with

family responsibility and discouraged workers (

mostly women. Young Roma are particularly at

risk (

). The above-average share of disengaged

young people indicates the continued difficulty of

policy measures to effectively reach a sizeable part

of their target population.

(

) 51 % of Roma experienced discrimination in the past 5

years when looking for work. Fundamental Rights Agency,

Poverty and Employment: The situation of Roma in 11 EU

Member States. Roma Survey - Data in Focus, 2014. 64 %

of Roma experience discrimination according to the

Decade of Roma Inclusion Secretariat, Roma Inclusion

Index, September 2015.

(

) Eurofound, Diversity of NEETs, forthcoming.

(

) According to a study from the Fundamental Rights Agency

based on self -declaration of current main activity of

respondents, 37 % of Roma aged 16-24 were not in

employment, education or training. FRA, Poverty and

Employment: The situation of Roma in 11 EU Member

States. Roma Survey - Data in Focus, 2014.

% of

population

% of labour

force

(1) Activity and employment rates (% of population), total,

ages 15-64, non-seasonally adjusted

(2) Unemployment rate (% of labour force), total, ages 15-

74, seasonally adjusted

Source:

Eurostat, LFS

Long-term unemployment has decreased since

2014 and it is now back to its pre-crisis level.

The long-term unemployment rate, which

increased from 3.6 % in 2008 to 5.5 % in 2010, is

on a gradually decreasing path since then, reaching

3.7 % in 2014 (Graph 3.2.2) and 3% in Q3-2015.

The number of long-term unemployed was 163

000 in 2014, 94 300 of which were very long-term

00Q1

00Q3

01Q1

01Q3

02Q1

02Q3

03Q1

03Q3

04Q1

04Q3

05Q1

05Q3

06Q1

06Q3

07Q1

07Q3

08Q1

08Q3

09Q1

09Q3

10Q1

10Q3

11Q1

11Q3

12Q1

12Q3

13Q1

13Q3

14Q1

14Q3

15Q1

15Q3

Unemployment rate (rhs)

Activity rate

Employment rate

swd (2016) 0085 - Ingen titel

3.2. Labour market and social policy

Graph 3.2.2:

Unemployment, youth unemployment, NEET

and long-term unemployment rates

01 02 03 04 05 06 07 08 09 10 11 12 13 14

Hungary's main active labour market policy is

the public works scheme.

Spending on the public

works scheme (PWS) has increased significantly in

recent years. It has surpassed spending on

unemployment benefits. Spending reached about

0.8 % of GDP in 2014, and is expected to double

between 2015 and 2018. In recent years ‘direct job

creation’ represented about 80 % of the budget

dedicated to active labour market policies

(ALMPs). The main instrument in this category is

the PWS, which is offered to an increasing number

of unemployed people and is aimed at gradually

replacing social benefits.

The public works scheme does not sufficiently

support the reintegration of participants into

the open labour market.

This risks locking

participants into the scheme. According to the

Hungarian authorities, the rate of successful exit

from the scheme was 12.6% in 2014 and 13.1% in

the first half of 2015. 60.5% of individuals who

left the scheme during the first half of 2015 were

again in public works after 180 days. (

) Other

ALMP measures appear to be more effective in

Hungary. (

) In addition to measures adopted last

year to facilitate successful exit from the scheme,

the government has recently introduced financial

incentives for public workers who accept job

offers in the open labour market. Training is

provided to participants, but it is usually limited to

basic technical skills development required for the

public works job. Even though public workers are

not covered by the Labour Code and their monthly

compensation is about 25 % below the minimum

wage the scheme may appear more attractive than

training for some participants as the income

(

) Successful exit is defined as employment in the open

labour market 180 days after exit from the PWS.

According to the most recent external evaluations, the rate

of successful exit from the scheme was around 13.3 % in

2011-2012. Calculations by Cseres-Gergely, Zs., and

Molnar, Gy. (2015): Labour market situation following exit

from public works. Chapter 2.9 in: Fazekas, K. and Varga,

J.: The Hungarian Labour Market 2015, Hungarian

Academy of Sciences, pp. 148-159.

(

) The latest monitoring report on ALMP measures for the

year 2012 distinguishes employment in the primary and

secondary labour market when measuring outcomes on the

180th day following exit from an ALMP. For wage

subsidies, about 70 % are employed in the primary labour

market and only 2 % in the case of public works. Job trials

for youth have similar results, while the first job guarantee

and training is slightly less effective (54 % and 35 % in

regular work vs 9 % and 7 % in PW). See also the 2015

Country Report for Hungary.

Unemployment rate

Long-term unemployment rate

Youth unemployment rate

NEET rate

(1) Unemployment rate and long-term unemployment rate

(% of labour force), total, ages 15-74

(2) Youth unemployment rate (% of labour force), total,

ages 15-24

(3) NEET: Not in employment, education or training (% of

population), total, ages 15-24

Source:

Eurostat, LFS

A profiling system has been introduced in the

public employment service but challenges

remain.

The overly complex and centralised

allocation of responsibilities following the recent

reform of the public employment service (PES) is

likely to reduce its effectiveness. (

) The

administrative complexity of the management

arrangements significantly compromises effective

steering and the use of the profiling system. The

quality of offers in the Youth Guarantee is not

assured. (

) Despite the new mentor network it is

still unclear whether the reorganised PES will have

sufficient staffing for implementing the scheme.

(

) From 1st January 2015 the functions of the head office of

the national PES were taken over by the Ministry for

National Economy, where the Secretary of State for

Vocational Training and the Labour Market has

responsibility for professional management of ALMP

programmes. However, public works are administered by

the Ministry of the Interior, sharing supervision over the

PES with the Ministry for National Economy. Overall PES

governance is at the Prime Minister's Office as part of a

nationwide network of local County Government Offices.

There was only a formal procedural consultation of social

partners on the PES reform.

(

) Public works can be counted as a quality offer based on the

individual's request. It is therefore important to monitor the

results and show clearly the impact of the Youth Guarantee

on youth related macro indicators, particularly for

disadvantaged groups such as the Roma.

swd (2016) 0085 - Ingen titel

3.2. Labour market and social policy

support available during trainings is much lower

than the public works wage.

The public works scheme is not adequately

targeted.

The main target population for the

scheme is the long-term unemployed, the

unemployed living in disadvantaged areas and the

low-skilled. However according to the authorities

47 % of participants had secondary or tertiary

education in 2014 and 2015. While a large share of

PWS participants come from disadvantaged

regions, the share of unemployed involved in

public works is still significant in counties with

well-performing labour markets, such as Győr-

Moson-Sopron or Vas. The profiling system of

jobseekers was launched in January 2016, but the

recommendations by the local PES to the

individual jobseekers still depend, to a large

extent, on the capacity of available ALMPs, and

the PWS remains the dominant program.

Municipalities can also influence the selection of

participants. Substitution (the replacement of

employees with public workers) is illegal as public

workers cannot undertake any tasks related to the

core functions of a municipality. However a

comprehensive monitoring and evaluation system

is not yet in place.

Insufficient provision of childcare facilities

seems to affect participation of women in the

labour market.

In 2014, the impact of parenthood

on employment of mothers was the highest in

Europe (age group 20-49, with presence of a child

aged 0-6) at 41 pps. (significantly above the EU

average of 13 pps.). (

) The overall employment

rate of women aged 25-49 has reached the EU

average in 2014 (standing at 73.7 % against

72.5 % in Q3-2015). The share of children aged

less than three covered by childcare (by formal

arrangements other than by the family) has

increased to 10 % in 2013, but it still remains 17

pps. below the EU average (

) (Graph 3.2.3). The

government has recently announced plans for

further improving the availability, quality and

affordability of early childhood education and care

facilities. Policy action in 2013 made the rules of

(

) The impact of parenthood on employment is the difference,

in percentage points, between the employment rate of a

individuals without and with children.

(

) Most recent national data points to further improvements in

2014:

http://www.ksh.hu/docs/hun/xftp/stattukor/kisgyermnapkoz

beni/kisgyermnapkozbeni14.pdf

maternity leave benefits more flexible to reduce

work disincentives.

Gender inequalities remain significant, partly

related to past maternity leave and childcare

policies.

The employment rate for women (20-64)

stood at 60.2 % in 2014, well below the

employment rate for men (73.5 %). Flexible work

arrangements, which help parents reconcile family

responsibilities and career, are rare in Hungary.

72.2 % of employees report that their working

hours are set by the employers with no possibility

for change. (

) The gender pay gap scores above

the EU average (18.4 % vs. 16.4 %), reflecting a

high degree of inequalities in the labour market.

Women have more interrupted careers, with fewer

possibilities to accumulate experience and less

access to promotion and senior positions.

The employment rates of older workers and the

duration of working life are very low.

At 49.6 %

for men and 35.2 % for women the employment

rates for older workers in 2014 was significantly

lower than the EU average (men 58.8 %, women:

45.2 %). The duration of working life at 30.8 years

is the second lowest in the EU and about 4.4 years

lower than the EU average. Early exit routes were

closed or narrowed in 2012, and the standard

pension age is being gradually increased from 62

to 65 years by 2022 (the retirement age is not

automatically linked to life expectancy). Yet,

pension reforms have not been underpinned by

work place and employment policies to support

longer working lives.

(

) European

Working

Conditions

Survey,

see

http://www.oecd.org/els/family/LMF_2-4-Family-friendly-

workplace-practices.pdf

swd (2016) 0085 - Ingen titel

3.2. Labour market and social policy

Graph 3.2.3:

Enrolment of children up to three years-old in

formal childcare in 2014

contribute to fight poverty and residential and

educational segregation, but their systematic

monitoring and sustainable funding is not ensured.

Graph 3.2.4:

The severe material deprivation rate in the

region (% of the population)

% of the population

1-29 hours

30 h or more

EA19

EU28

Source:

Eurostat

Social inclusion and poverty

% of people aged 0-59

Poverty remains high and social indicators have

improved less significantly than the overall

economic and labour market situation.

The

relative income poverty index (AROP) did not

improve significantly and in 2014 it stood at

14.6 %, below the EU average of 17.2 %. The

severe material deprivation index was 23.9 % well

above the EU average of 9 %. 12.2 % of the

population lived in households with very low work

intensity (0.4 pps. lower than in 2013, but higher

than the EU average of 11 %). As a result, the

overall "at risk of poverty and exclusion"

(AROPE) index was 2.4 pps. lower than in 2013,

however it stood at 31.1 % which is still one of the

highest in the EU (EU average 24.4 %). (

)

While some poverty indicators have improved

recently, they are high in regional comparison.

In particular, the share of people living in low

work intensity households and the severe material

deprivation rate in Hungary have been improving

since 2013 and 2012 respectively, but both are

very high in comparison with regional peers

(Graphs 3.2.4 and 3.2.5). The implementation of

local equal opportunity programmes could

(

) The Hungarian Central Statistical office has recently

published social indicators for 2015 (reference year 2014)

which, along with updates for the previous three years, are

under validation by Eurostat at the time of writing this

report. International comparison is based on the latest

available Eurostat data.

Source:

Eurostat

Graph 3.2.5:

The share of people living in low work

intensity households (% of people aged 0-59)

06 07

08 09

Source:

Eurostat

Poverty among the most disadvantaged, in

particular children and Roma, remains to be

tackled.

4.5 % of the population had an income

below 40 % of the median income in 2014

compared to 2 % in 2010. The average poverty gap

for the working age population over the period

2012-2014 was 2 pps. higher than the equivalent

swd (2016) 0085 - Ingen titel

3.2. Labour market and social policy

EU average. In 2014, 41.5 % of children were at

risk of poverty and exclusion (AROPE) and almost

one out of four children were exposed to poverty

risk. Severe material deprivation among children

below 18 was at 32.4 %, the second highest in the

EU. The extension of in kind benefits, such as free

meals to disadvantaged children on school

holidays helps to improve the situation of the most

disadvantaged

children.

Absolute

poverty

(percentage of people living below the national

poverty line) among Roma is 67 %, 44 pps. higher

than among non-Roma. The gap between the

AROP rates of Roma and non-Roma increased in

the past decade. (

The duration of unemployment benefits is the

shortest in the EU, significantly shorter than

the average time required to find a job.

While

the 3 months of maximum duration of

unemployment benefits may enhance job search

during the first months of unemployment, it may

reduce it after the benefits expire. It may also force

jobseekers to accept jobs that do not match their

qualifications, increasing turnover and reducing

overall productivity in the economy. Other

jobseekers, facing the limited benefit duration and

not having adequate financial savings, may be

indirectly forced to join the PWS. Jobseekers must

accept the public works offer in order to keep their

eligibility for social assistance. The shorter

duration and lower replacement rate also affects

the adequacy of unemployment benefits.

Expenditure on unemployment benefits fell

significantly from an already low 0.8 % of the

GDP in 2008 to 0.4 % in 2013 despite an increase

in the number of unemployed. The net replacement

rate of benefits after 6 months of unemployment

(for a couple with 2 children) decreased to 19 % in

2013 from a level of 53 % in 2010.

The adequacy and coverage of social assistance

remains a challenge and recent reforms could

further restrict access conditions for a number

(

) FRA, Poverty and Employment: The situation of Roma in

11 EU Member States. Roma Survey - Data in Focus,

2014); Decade of Roma Inclusion Secretariat, Roma

Inclusion Index, September 2015. The Hungarian statistical

office now collects data regarding ethnicity which confirm

the challenges facing the Roma population while reflecting

some improvement.

ttp://www.ksh.hu/docs/hun/xstadat/xstadat_eves/i_zaa007.html

of benefits.

The level of many benefits is low. (

)

In particular, the nominal level of the main social

benefit (currently named employment replacement

subsidy) has been reduced by 20 % since 2010 and

is currently equivalent to 33 % of the at-risk-of-

poverty threshold. A recent reform, in force since

March 2015, has shifted the main benefits from

municipalities up to the district (‘járás’) level,

which has made their administration more

uniform. The reform has also abolished a number

of supplementary benefits, including a benefit to

support the cost of housing and heating for those in

need. The reform has given municipalities the right

to define the terms of a new municipality benefit

which could substitute for abolished benefits.

Municipalities must finance this benefit from their

own revenue. As a compensation, the government

introduced a new grant to municipalities that can

document a low revenue potential, although this

does not have to be spent on social benefits. The

recent reforms do not expand the eligibility to or

generosity of social benefits. There is no detailed

information available about how municipalities

defined the municipality benefit. The law has set

an upper limit for the municipality benefit, but it

has not set other standardised criteria. As a result,

the adequacy and coverage of social benefits could

deteriorate. (

)

Health care system

The share of public expenditure on health is

below the EU average and has dropped over the

last decade.

The share of government spending

over total spending on health decreased by about 6

pps. over the last decade. At 63 %, in 2013 it was

below the EU average of 76 %. Overall health

(

) The employment replacement subsidy, the nursing fee and

the regular social assistance are close to or under the

minimum pension level.

(

) Hungarian Minimum income Network: The Progressive

Realization of Adequate minimum Income Schemes, 2014

https://eminnetwork.files.wordpress.com/2013/04/emin-

hungary-2014-report-en.pdf p. 6.

For the moment no study of broader scope has been

published by the government on this matter, although work

is ongoing. A study analysing a small, but representative

sample of 1 % of the settlements (31 local decrees) has

shown that provisions have become more limited and their

allocation more unfair. The study has been deployed by

civil initiative. Their focus was on housing costs related

support, especially the former normative home

maintenance support and debt management services.

Kováts Bence (2015): The analysis of housing supports

now in the legal authority of local governments. Habitat for

Humanity.

swd (2016) 0085 - Ingen titel

3.2. Labour market and social policy

expenditure as a share of GDP was also below the

EU average in 2013 (8.1 % vs. to 9.5 %). At the

same time the share of out-of-pocket payments has

slightly increased over the last few years and was

well above the EU average (16 %) at 27.5 % of

total health spending in 2013.

Despite substantial improvements during the

last decade, poor health outcomes continue

being a major challenge.

Life expectancy at birth

is among the lowest for both men (72.2 vs. EU

average of 77.8) and women (79.1 vs. EU average

of 83.3). Cardiovascular diseases remain the main

cause of mortality with a standardised rate of

mortality of 780 per 100 000 inhabitant (vs. EU

average of 394), in a context of high prevalence of

risk factors, such as smoking, alcohol

consumption, obesity and high blood pressure.

Overall, cancer is the second leading cause of

premature mortality with the worst score in the EU

and about 33 % above the EU average. This trend

does not follow the slowly decreasing EU trend.

Amenable and potentially preventable mortality

are noticeably worse than the EU average. A range

of public health measures have been introduced as

a response. (

)

The high mortality rates among the working-

age population have a negative impact on the

available workforce.

Mortality rates before the

age of 65 are estimated to reduce the workforce by

1.8 % when compared to its potential estimated by

using EU average mortality rates (

). This

reinforces the importance of improving the

effectiveness of the system.

Health workforce shortages pose risks to the

healthcare system.

Hungary has fewer doctors,

nurses and dentists than the EU average (3.21 per 1

000 inhabitants compared to 3.47). The share of

general practitioners to specialists is very low

(12 %). There has been a significant migration of

health professionals in recent years. To reduce

(

) These include the public health product tax (recently

expanded and some alcoholic products as well), the act on

the protection of non-smokers more became more

stringent, the regulations on limiting the maximum trans-

fatty acid content of food-staffs, and stricter nutritional

health rules regarding public catering.

(

) European Commission calculations on impact of mortality

on labour force size, measured as the number of potential

working life years per birth cohort, standardized for

population size and age cohort mix, based on Eurostat

variable [demo_mlifetable], 2013 figures.

skills shortages, a comprehensive residency

support programme was introduced in 2011 and

was announced again for 2016. Beyond

emigration, attrition puts further pressure on skills

shortages. To address this challenge, wages of

health professionals were increased substantially in

2012 and 2013. However, they remain low in a

European perspective. (

)

Equity in access to healthcare also remains a

challenge.

The gap for unmet needs between the

first and bottom income quintiles is above the EU

average (6.3 % for Hungary vs. 4.9 % EU

average). Equity of access is further hindered by

the widespread use of informal payments: 10 % of

the population who visited public medical facilities

in the preceding year reported having to make an

extra payment beyond the official fees or offer a

gift or donation.

(

) Health Workforce Migration:

http://stats.oecd.org/

Health Systems in Transition: Hungary (2011) -

http://www.euro.who.int/__data/assets/pdf_file/0019/15504

4/e96034.pdf;

Varga

Júlia:

Hova

lettek

orvosok?

(Az orvosok külföldre vándorlása és pályaelhagyása

Magyarországon,2003-2011), LXIII. évf., 2016. január

swd (2016) 0085 - Ingen titel

3.3. EDUCATION AND SKILLS

Skills and labour market outcomes

Graph 3.3.1:

Unemployment rates by educational

attainment in Hungary

The

discrepancy

employment

and

unemployment outcomes of high, medium and

low-skilled workers points to significant skills

mismatches.

In 2014, the unemployment rate of

high-skilled individuals was about 3 %, while it

was 7% for medium skilled and 18 % for low

skilled (see Graph 3.3.1). A similar discrepancy is

observed in employment rates. In 2014, the

employment rate of high-skilled was about 81 %,

while it was 68 % for medium skilled and 44 % for

low skilled (see Graph 3.3.2). These discrepancies

have been decreasing as a result of the relatively

high educational attainment of younger cohorts

entering the labour market. Nevertheless Hungary

remains among the Member States with the highest

skills mismatches based on the differential

employment rates (5

highest in the EU) and

unemployment rates (9

highest) of the three broad

skill groups.(

)

Substantial earning premiums of high-skilled

workers indicate that there is still a shortage of

high-skilled workers despite the long-term

expansion of higher education.

Such premiums

and the elevated employment rate of high-skilled

indicate that there is a strong demand for highly

qualified workers. This is also supported by

previous findings that the earning premiums of

workers with tertiary education is very large in

international comparison. (

) These differences

also point to inadequacies in the basic and specific

skills of workers with lower educational

attainment. The low level of adult participation in

lifelong learning may contribute to skills

obsolescence and mismatches. In 2014 it remained

one of the lowest in the EU (3.2% vs. 10.7% EU

average).

(

) See more details on the international comparison in Aron

Kiss and Anneleen Vandeplas (2015): “Measuring Skills

Mismatch”, Analytical Web Note 7/2015, European

Commission, Directorate-General for Employment, Social

Affairs

and

Inclusion.

http://ec.europa.eu/social/main.jsp?catId=738

(

) OECD (2015): Education at a Glance, p. 125, 132.

% labour

force

01 02 03 04 05 06 07 08 09 10 11 12 13 14

High skilled

Medium skilled

Low skilled

(1) Unemployment rates ages 20-64 (% of labour force)

Source:

Eurostat, LFS

Graph 3.3.2:

Employment rates by educational attainment

in Hungary

population

01 02 03 04 05 06 07 08 09 10 11 12 13 14

High skilled

Medium skilled

Low skilled

(1) Employment rates ages 20-64 (% of population)

Source:

Eurostat, LFS

Education policies

Low achievement in basic skills is increasing

and students' socio-economic background has a

strong impact on their performance.

The

average performance of students in basic skills was

below the EU average in the 2012 OECD

Programme for International Student Assessment

(PISA) and the proportion of low-achievers

swd (2016) 0085 - Ingen titel

3.3. Education and skills

increased between 2009 and 2012. The influence

of the socio-economic background and school

location (urban vs. rural) on educational

performance is one of the highest in the EU. Large

performance gaps are already visible at 6

grade

and become prominent at 10

grade. (

) Most low

achievers live in the north-east of the country,

which is hit strongest by poverty and has the

highest early school leaving rate.

The selectivity of the education system deepens

performance differences among students in

different school types.

Tracking based on student

performance starts in the 5

grade (one of the

youngest ages in the EU). Performance differences

in basic skills are marked between the different

school types and increase over time. In vocational

schools students' achievement regarding basic

skills lag far behind and even slightly deteriorate in

maths. 30% are early school leavers. (

) Lack of

equal access to quality mainstream education is

particularly acute for Roma. With the exception of

early childhood education, where there has been

significant improvement in the last years, the gap

has widened between the completion rate of Roma

and non-Roma on all other educational levels, i.e.

with respect to completion of primary, secondary,

tertiary education. Early school leaving remains

high among Roma (82%). (

)

Increasingly higher shares of disadvantaged

children, in particular Roma, attend low-

performing schools.

While selection is based on

performance, the social-economic background

often influences school choice. The segregation

index used by the Hungarian Academy of Sciences

which is based on possible contacts between

disadvantaged, multiple disadvantaged and non-

disadvantaged pupils in primary education is

increasing (See Graph 3.3.3), in particular in the

capital and large cities. The Roma Inclusion Index

shows that 20 % of Roma children receive

(

) Education Authority (2015), Országos Kompetenciamérés.

2014. Országos jelentés, https://www.kir.hu/okmfit

/files/OKM _2014_Orszagos_jelentes.pdf

( ) This is partly due to the fact that in the 10th grade, the

three-year vocational schools count a higher share of pupils

with disadvantaged backgrounds or with learning

difficulties amongst their students than other school types

(Education Authority, 2015, see previous footnote).

( ) Decade of Roma Inclusion Secretariat, Roma Inclusion

Index, 2015,

http://www.romadecade.org/cms/upload/file/9810_file1_roma-

inclusion-index-2015-s.pdf

education in segregated schools, both in towns

with several schools and remote settlements. Local

policies affect the degree of segregation, albeit

Hungary performs somewhat better than its

regional peers in this regard. (

) Teachers are not

sufficiently equipped with skills to work in diverse

classrooms. Research confirms that separation

based on performance or ethnic origin negatively

affects students' development and strengthens

social exclusion. (

)

Graph 3.3.3:

Segregation index 2010-2013

Segregation index

2010

2011

2012

2013

Segregation index calculated based on disadvantaged

pupils

Segregation index calculated based on multiple

disadvantaged pupils

Source:

“Indicators of public education” (in Hungarian: “A

kozoktatas indikatorrendszere”), Hungarian Academy of

Sciences, Centre of Economic and Regional Studies, 2015,

figure C3.9.1.

Tertiary attainment is improving but admission

rates need to stabilise to maintain this positive

trend.

In 2014, Hungary reached its national

tertiary attainment target (34.1 % compared to the

EU average of 37.7 %). Between 2005-2006 and

2011-2012 the total number of students in Hungary

(

) Gabor Kertesi – Gabor Kezdi (2013) School segregation,

school choice and education policies in 100 Hungarian

towns. Institute of Economics, Cente for Economic and

Regional Studies Hungarian Academy of Sciences,

Department of Human Resources, Corvinus University of

Budapest

http://www.econ.core.hu/file/download/bwp/bwp1312.pdf

(

) Gabor Kertesi – Gabor Kezdi (2015) On the Test Score

Gap Between Roma and Non-Roma students in Hungary

and its potential causes. Institute of Economics, Cente for

Economic and Regional Studies Hungarian Academy of

Sciences, Department of Human Resources, Corvinus

University of Budapest

http://www.econ.core.hu/file/download/bwp/bwp1401.pdf

and

Decade of Roma Inclusion Secretariat, Roma Inclusion

Index (2015).

swd (2016) 0085 - Ingen titel

3.3. Education and skills

fell by 13 %. In recent years there has been a

decline in applications and enrolment rates among

18-year-olds for bachelor programmes and a high

share of drop-out rates from higher education. (

)

The rate of graduates in maths, computing,

technology, manufacturing and construction, in

particular at master and doctoral levels, is one of

the lowest in the EU.

Hungary has introduced a number of measures

to better address low achievement.

However,

important details on implementation are not

available to assess their potential impact. The

introduction of compulsory participation in early

childhood education and care (ECEC) in

September 2015 and the extension of available

capacities and staff are important measures to

improve the participation and educational

outcomes of disadvantaged children. Since 2015,

schools are obliged to prepare action plans in

response to low results in national competence

tests. Several new measures such as teacher

appraisals, pedagogical professional inspections

and a network of pedagogical education centres

were also introduced (

). However, the centralised

system may present a challenge in flexibly

intervening and allocating resources to schools.

The announced implementation plan for the early

school leaving strategy was approved in 2015.

New methodologies to prepare teachers to teach

disadvantaged have been introduced in some

schools, but they remain at a pilot stage. This step

points to the right direction.

The Government announced the development

of desegregation measures in January 2016.

Grants and scholarships supporting catch-up

programmes are continued. A midterm strategy for

desegregation and the creation of social inclusion

officer posts have been announced but no

information is available yet on the content of the

plan and further steps in this matter. Legislation

calls for the readjustment of school catchment

areas in order to avoid uneven distribution of

disadvantaged students; nevertheless, specific

(

) See http://www.felvi.hu for applications and enrolment, the

drop-out rate from higher education was at 47% in 2011

according to UNESCO-UIS/OECD/EUROSTAT data

collection in OECD Education at a Glance 2013.

(

) Discussions started about extending primary education

from eight to nine years and considering dividing the

vocational and general tracks from 7th grade which would

bring tracking even earlier in the system.

steps are not yet known. Both legislation and

application, including national case-law, continue

to raise questions about how effectively

prohibition of discrimination of Roma in education

is enforced. (

)

Despite the positive attempt to remove

structural barriers from progression, the

employability and the chances of students in

vocational education training (VET) for further

learning may remain limited without improving

their basic skills.

The government's new concept

paper of March 2015 on initial vocational

education and training aims at further increasing

the number of students graduating in vocational

education and improving dual education. From

September 2016 pupils in the 3-year vocational

school will have the possibility to stay on for two

extra years and sit the upper secondary school

leaving examination in the same school. The

general knowledge content of the upper secondary

vocational schools are planned to be reduced and

professional content strengthened, which may

hinder access to tertiary education.

In 2013/2014 only 22% of students in special

vocational schools and 9% of students in post-

secondary VET schools participated in

apprenticeship schemes.

The number of

apprentices has increased significantly, but

according to the Hungarian Chamber of Commerce

(

) the number of students undergoing work-based

training at firms did not increase between 2010 and

2014. Companies’ willingness to provide training

is increasing only slowly despite financial and

organisational incentives. There is a lack of

qualified employees willing to train students. In

several professions there are not enough training

places and offers are sometimes not adjusted to the

demand. The Chamber of Commerce is a strategic

partner of the government, but no consultation

with other stakeholders has been taking place in

this area.

(

) In particular Article 28(2) of Act CXXV of 2003 on Equal

Treatment and the Promotion of Equal Opportunities as

interpreted by the Hungarian Supreme Court (Kuria) in its

ruling of 22 April 2015 and the 2014 "authorising"

amendment to Article 94(4) of Act CXC of 2011 on

National Public Education

(

) GVI (2015) A tanulószerződéseket kötő vállalatok profilja.

http://gvi.hu/kutatas/400/a_tanuloszerzodeseket_koto_valla

latok_profilja

swd (2016) 0085 - Ingen titel

3.3. Education and skills

Current admission measures can narrow access

to higher education and limit the pool of future

innovators and researchers.

This may have a

negative impact on Hungary's attractiveness to

investments in knowledge intensive sectors. The

higher education strategy has been approved and

an action plan adopted. The strategy aims to

achieve a 35% tertiary attainment rate by 2023. At

the same time, national studies suggest that the

annually increasing admission requirements to

higher education risk further narrowing the

chances of upper secondary vocational graduates

and disadvantaged pupils to access higher

education. Upper secondary VET students apply to

higher education to lesser extent and fewer of them

pass advanced upper secondary exams that

increase chances of admission. Disadvantaged

pupils apply to programmes and institutions with

lower admission requirements and thus higher

admission chances. While science, technology,

engineering and mathematics programmes are a

priority the increasing admission requirements

result in a decreasing number of entrants. (

) The

community higher education centres are envisaged

to be financed by local economic or social actors,

which may prove to be challenging in

disadvantaged regions where these centres are

planned to be located.

(

) Szemerszki Marianna (2014) A középiskolából a

felsőoktatásba.

In.

Felsőoktatási

Műhely.

http://www.felvi.hu/pub_bin/dload/FeMu/2014_1/femu_20

14_1_47-63.pdf

swd (2016) 0085 - Ingen titel

3.4. BUSINESS ENVIRONMENT

Public

administration

environment

and

regulatory

Long-standing challenges to the Hungarian

competitiveness are the level of the regulatory

environment's predictably and that of

administrative burdens.

The country performs

below the EU average regarding fast-changing

legislation, the complexity of administrative

procedures and e-government services for

businesses. The World Bank 2015 Worldwide

Governance Indicators show that the governance

score of Hungary for the regulatory quality

indicator is below the EU average and has

deteriorated

since

2006 (

).Investors'

are

concerned ( ) about the lack of predictability and

stability of the regulatory environment. For

instance, on average only 46 days elapsed between

the adoption of a draft law and its publication in

the official journal (Magyar Közlöny), which does

not allow a proper public discussion and does not

give enough preparation time for the affected

parties. Public consultations remained limited; the

median number of days open for consultation was

only 5 days in 2014 and 3.5 days in 2015.

Consultations on draft legislation tend to be non-

public, informal and take place with selected

stakeholders, and there are no publicly available

impact assessments underpinning legislation. (

)

Steps have been taken to reduce administrative

burdens.

As the overall burden of regulation is

still perceived as too heavy in comparison to the

EU average (

), the government adopted the

Public Administration and Public Services

development strategy 2014-2020 in February 2015.

Specific targets of the strategy are to reduce

administrative burden by 20%, total processing

time by 20%, and administrative fees and charges

by 10%. The recently adopted bill (Act

(

) The governance score denotes the estimate of governance

measured on a scale from approximately -2.5 to 2.5. Higher

values correspond to better governance. Hungary scored

1.21 in 2006 and 0.77 in 2014. The EU average was 1.17 in

2014.

( ) See e.g. p. 10 in HEBC's 2015 annual report at

http://www.hebc.hu/wp-

content/uploads/2015/10/hebc_report_2015_for_a_stronger

_hungary_in_a_stronger_europe.pdf

in the US Department of State's 2015 Investment Climate

Statement

http://www.state.gov/e/eb/rls/othr/ics/2015/241591.htm

and in The Global Competitiveness Report 2015-2016

(

) The Quality of Hungarian Legislation 2015, Corvinus

University, Corruption Research Center Budapest, 2016.

(

) 2015 SBA Fact Sheet for Hungary.

CLXXXVI. of 2015) to cut red tape in public

administration aims at revising and simplifying

applicable rules, administrative deadlines and

authorisation procedures with effect from

1 January 2016. Moreover, the government

recently launched the reform of the public

administrative procedure and the civil procedure in

court for appeals against public administration

decisions (

). The proposals intend to speed up

public administration cases and are planned to be

finalised in the first months of 2016. As regards

the judiciary, the European Court of Human Rights

delivered a pilot-judgment in 2015 concerning the

excessive length of civil proceedings in

Hungary.(

)

The stability of the implementation system of

European Structural and Investment Funds'

management improved in 2015 and resulted in

an increased absorption of funds.

However,

limited transparency of decision-making processes

impedes assessing the effectiveness of the delivery

system.

To make public administration more

transparent and effective, e-government

solutions may play an important role.

According

to the Digital Economy and Society Index,

Hungary ranks among the lowest performers in the

EU with a score also substantially lower than its

cluster average in the Digital Public Services

dimension (

). At the same time, the government

has been active in this area and aims at further

developing e-government services. In December

2015, the Hungarian Parliament adopted the new

specific e-government law (Act CCXXII of 2015)

that will gradually enter into force from January

2016 until January 2017 and provides the legal

basis for the planned extension of electronic public

administrative services.

Competition

Hungary has maintained restrictive regulation

on business services.

(

) Particular problems in

(

) Resolution of the Government nr. 1352/2015 (VI.2.) Korm.

Határozat.

(

) European Court of Human Rights, Gazsó v. Hungary

(application no. 48322/12), 16 July 2015

(

) https://ec.europa.eu/digital-

agenda/en/scoreboard/hungary#5-digital-public-services

( ) European Commission, Business services – Assessment of

Barriers and their Economic Impact, October 2015,

swd (2016) 0085 - Ingen titel

3.4. Business environment

business services stem from the prevalence of the

reserved

activities,

authorisation

requirements as well as tariff restrictions in place.

As a consequence, Hungary experiences subdued

market dynamics, low competition and allocative

inefficiency in several important business services

sectors. This factor is also important in the light of

the fact that the proportion of fast growing

companies in the Hungarian business services

sector is significantly below the EU average.

Establishment and operational restrictions on

the retail sector constitute significant barriers

to entry and expansion.

The restrictions mainly

affect the business model of typically foreign retail

chains operating large retail stores. The restrictive

and often changing regulatory environment hinders

further modernisation of the sector. According to a

recent European Commission study the mark-ups

in the Hungarian retail sector are the third highest

in the EU and have been growing continuously for

the last decade. At the same time, the allocative

efficiency indicator is among the lowest in EU

countries (

). Some changes, however, show an

overall improvement; the high rates of the food

safety inspection fee which affected in particular

foreign retailers were lifted, and the introduction of

on-line cash registers contributed to the whitening

of the sector. Yet, the overall restrictiveness

remains high notably due to measures such as

retail establishment authorisation, prohibition of

loss-making and restrictions on opening hours.

Hungary significantly increased the number of

professions which are notified to the Database

of Regulated Professions.

Currently, Hungary has

notified the largest number of professions to this

database (over twice the EU average). Although

the number in itself is not an indicator on the

restrictiveness of the regulation, it raises some

questions as to the ease of access to regulated

professions in the country.

The lack of sufficient

rules and procedures in Hungary, which would

allow companies (

) to directly transfer their

registered office on a cross-border basis (

weakens the business environment.

With no

adequate legal framework, it is difficult for

companies to relocate from/to Hungary (e.g. they

might need to go through a costly process of

winding up in one country and reincorporating in

another). (

)

Fight against corruption

Corruption is one of the top concerns to be

addressed

regards

Hungary's

competitiveness according to the World

Economic Forum.

The renewed National Anti-

corruption Action Programme (NAP) 2015-2018

continues to emphasise the integrity management

framework. However, no changes are envisaged to

make the framework more effective in preventing

corruption in public institutions. The government

has not renewed its earlier commitment to revise

the 2013 whistle-blower law, which lacks

provisions that adequately protect whistle-blowers

from retaliation. The programme plans to revise

the asset declaration system lack ambition and new

legislative amendments passed in 2015 introduced

some further restrictions to public access to

information. The Council of Europe's Group of

States against Corruption (GRECO) issued in 2015

recommendations on corruption prevention in

respect of members of parliament, judges and

prosecutors in Hungary, and invited Hungarian

authorities to report on the measures taken to

implement these recommendations by 30

September 2016 (

). On the corrective side,

prosecution of high-profile cases of corruption

remains exceptional and the time taken to

complete judgements is rather lengthy. In 2015,

the Prosecutor General's Office opened an internal

inquiry as regards the low number of cases; no

results have been made public yet. Furthermore,

(

) See the 2013 study on the application of the Cross-Border

Mergers

Directive

(http://ec.europa.eu/internal_market/company/docs/merger

s/131007_study-cross-border-merger-directive_en.pdf); the

2013 European Added Value Assessment on the Directive

on the cross-border transfer of a company's registered

office

(http://www.europarl.europa.eu/RegData/etudes/etudes/join

/2013/494460/IPOL-JOIN_ET(2013)494460_EN.pdf).

(

) The impact of the 2013 court decision in the VALE case,

when the Hungarian Supreme Court set out specific

conditions regarding a transfer of registered office into

Hungary, still remains to be seen.

(

) GRECO, Fourth Evaluation Round, Evaluation Report

Hungary, 27 March 2015, published 22 July 2015

http://ec.europa.eu/DocsRoom/documents/13328/attachme

nts/1/translations/en/renditions/native

(

) Anna Thum-Thysen and Erik Canton, Estimation of service

sector mark-ups determined by structural reform indicators,

Economic Papers 547, European Commission, 2015.

(

) Apart from the European Companies (SEs).

swd (2016) 0085 - Ingen titel

3.4. Business environment

although an average of 71% of the investigations

opened on bribery of public officials resulted in

indictments in the period of 2011-2013, the ratio of

suspended custodial sentences for the same

category of corruption offences is high. (

)

Businesses' perceptions about corruption in

public procurement have improved but are still

above the EU average.

In 2015, 81 % of business

representatives think that corruption is widespread

(EU average: 71%) (

significant number of

business respondents were concerned about

corrupt practices in public procurement, 60%

citing tailor-made specifications and 52% collusive

bidding as widespread. Some 27% of business

representatives who have participated in a public

tender recently said that corruption prevented the

company from winning a public tender or a public

procurement contract.

Public procurement

'Cost-effectiveness study' with an average of 3.5

bids per tender (EU average 5.4).

The renewed National Anti-corruption Action

Programme 2015-2018 promotes the concept of

‘open contracting’.

The Hungarian government

has set a goal to create an easily searchable and

regularly updated database of procurement calls

for tender and contracts available online, with each

procedure and each bidder given a unique and

permanent identifier.

One of the main challenges for the Hungarian

government is to adopt a comprehensive e-

procurement strategy in line with the timeline

set in the public procurement directives.

Although the adoption of the new Public

Procurement Act (the compliance of which with

EU law is still to be assessed) is a step forward, the

overall strategy of the transition to full e-

procurement is missing. E-procurement can

generate significant cost savings, improve

transparency of public procurement, shorten lead

time and increase competition.

Research, development and innovation

A low level of competition in public

procurement persists.

Available evidence

suggests that the direct award of contracts continue

to be extensively used. In 2015, Hungary had 13%

of negotiated procedures without publication

compared to a European Economic Area (EEA)

average of 4%. Moreover, for 36% of awards of

contract there was only a single bid (excluding

frameworks) for above threshold tenders –

compared to an EEA average of 21%. These

values are the 5

highest in the EU.

The lack of competition between economic

operators and insufficient transparency in the

procedures raise the costs of procurement.

Moreover, it distorts the functioning of the market

by excluding potential contractors. The

administrative burden on tenderers seems high in

Hungary, which results in a low number of bids

per public tender. Hungary ranked among the

lowest in market competition according to the

(

) )

Suspended custodial sentences accounted for 60-

66% of all custodial sentences handed down in final

convictions

2011

–

2013

See

in:

http://ec.europa.eu/dgs/home-affairs/what-we-

do/policies/organized-crime-and-human-

trafficking/corruption/docs/official_corruption_statistics_2

011_2013_jan16_en.pdf

(

)

http://ec.europa.eu/COMMFrontOffice/PublicOpini

on/index.cfm/Survey/getSurveyDetail/instruments/FLASH/

surveyKy/2084

Significant bottlenecks remain in the

Hungarian Research and Innovation (R&I)

system including the instability of the public

R&I funding and of the R&I institutional

framework (

), as well as skills shortages (

Foreign owned business enterprises continue to

drive progress towards the Hungarian R&D

intensity target (

). At the same time, low

expenditure on the public research system put the

sustainability of this trend at risk. Public R&D

intensity in Hungary has been persistently low and

has been even declining over the last ten years,

decreasing to only 0.4% of GDP in 2014 (Graph

3.4.1). This decreasing trend undermines the

capacity of the public science base in providing

(

) Only 10.6% of Hungarian SMEs (EU-28 average 28.7%)

carries

out

innovation

activities.

http://ec.europa.eu/growth/industry/innovation/facts-

figures/scoreboards/index_en.htm

(

) New graduates in science and engineering graduates

(ISCED 5 and 6) per thousand population aged 25-34 was

9.6% in 2013 which is well below the EU average of

16.3% and places Hungary in the 26th position in the EU.

( ) Looking at Hungary’s economic structure, the country is

one of the top performers in terms of value added in high-

tech and in medium high-tech manufacturing as % of total

value added in the EU.

swd (2016) 0085 - Ingen titel

3.4. Business environment

R&D intensity (R&D expenditure as % of GDP)

both skilled human resources and high quality

research, which constitute the basis for increased

cooperation with the business sector. The

availability of highly-skilled professionals

particularly in science and engineering has become

a major issue in recent years.

Greater exploitation of the presence of

multinational companies for the development of

an effective national R&I ecosystem and an

improvement of the overall innovation

performance of the Hungarian economy remain

key challenges.

Partnerships between Higher

Education

Institutions,

Public

Research

Organisations and business play an essential role

in anchoring multinational companies in the

national R&I ecosystem. This also requires

addressing the low level of innovation among

domestic enterprises and the lack of

entrepreneurial culture. The National Research,

Development and Innovation Strategy (2013-2020)

defines measures explicitly targeting innovative

SMEs. Yet mismatches between these measures

and the situation of SMEs hamper their

effectiveness. While the ongoing restructuring of

the Hungarian research and innovation system

aims to address system fragmentation, it has often

led to delays in the implementation of the various

strategies, such as the National Research,

Development and Innovation Strategy as well as

the Smart Specialisation Strategy Action Plan (

(

) To support the ongoing restructuring process of the

national R&I system the Hungarian authorities requested in

December 2014 a pre-peer review and subsequent in depth

evaluation under the Horizon 2020 Policy Support Facility

(PSF). The pre-Peer review was carried out by a high-level

independent expert panel between May and October 2015

and identified the scope of the future in-depth Peer Review

started in January 2016. The report is available at:

https://rio.jrc.ec.europa.eu/en/library/horizon-2020-policy-

support-facility-pre-peer-review-hungarian-research-and-

innovation

Graph 3.4.1:

Hungary - evolution of business R&D intensity

and public R&D intensity, 2000-2014

1.0

0.9

Business

R&D

intensity

0.8

0.7

0.6

Public R&D

intensity

0.5

0.4

0.3

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14

(1) Business R&D intensity: Business enterprise expenditure

on R&D (BERD) as % of GDP.

(2) Public R&D intensity: Government intramural

expenditure on R&D (GOVERD) plus higher education

expenditure on R&D (HERD) as % of GDP.

(3) Public R&D intensity: Break in series between 2004 and

the previous years.

Source:

Eurostat

swd (2016) 0085 - Ingen titel

3.5. NETWORK INDUSTRIES AND ENVIRONMENT

Energy and climate policy

Projects of Common Interest both for electricity

and natural gas infrastructure are potential

projects in the energy domain of the European

Fund for Strategic Investments.

Their main aim

is to further enhance the internal energy market

and security of supply. The inauguration of the

new gas interconnector between Hungary and

Slovakia has helped to improve the security of gas

supply in Hungary as well as in Central and

Eastern Europe.

Regulated end-user electricity and gas prices

are still not fully cost reflective, resulting in

financial losses in the regulated business

segment of energy utilities.

This is likely to

prevent the necessary investments in the sector in

order to improve energy efficiency. Retail prices

should fully include all energy supply, network,

taxes and levies elements. However, in case of

Hungary, sector specific levies, taxes and other

incurred costs are not allowed to be fully passed

through in the final regulated prices paid by

household consumers. With below-cost regulated

prices the government has reduced incentives for

customers to invest in energy saving.

As unfavourable regulatory changes have

resulted in significant financial losses for

utilities in recent years, they began to return

their household supply licences to the regulator.

In response, at the beginning of 2015 the

government set up the state-owned First National

Public Utility with a view to providing gas and

electricity for household consumers nationwide. In

replacing the former utilities and assuming the

current regulatory conditions, the new public

utility will have to bear financial losses of the

household energy segment, resulting in permanent

capital injection requirements from the state that

might imply budgetary risks and state-aid issues.

Significant obstacles exist in the deployment of

renewable energy sources.

The long-awaited new

feed-in tariff system has not yet been adopted. In

addition under current regulatory conditions,

broader deployment of solar and wind energy is

not envisaged. In recent years, the increase in the

share of renewables in the energy mix was largely

due to the increase in biomass generation. Besides

uncertainties regarding the feed-in tariff system,

investments in renewables is also hampered by

insufficient grid connection infrastructure.

However, Hungary is on track to reach its 2020

renewable energy target.

Primary energy intensity in Hungary has

decreased significantly since 2005, though it

remained above the EU average.

Final energy

consumption is still slightly above the EU average

and projected to decouple from GDP growth and

decrease slightly by 2020 compared to 2013. The

National Energy Efficiency Action Plan has been

adopted by the government and in February 2015

ambitious energy consumption and savings targets

for 2020 were set (from 26.6 to 24.1 Mtoe

expressed in primary energy consumption and

from 18.2 to 14.4 Mtoe expressed in final energy

consumption). The new 2020 energy efficiency

target is better streamlined to the new economic

environment, than the previous version, which was

prepared before the 2008/2009 economic crisis and

assumed higher economic growth and energy

consumption.

Energy efficiency improvements would be

important as residential energy intensity is also

higher than the EU average.

Surveys show that

many citizens are unwilling to renovate their

homes unless non-refundable support is available.

Yet the government has decided to allow only

preferential loans for this purpose. Between 2005

and 2013 there was a 6.8% annual decrease in

combined heat and power generation, which is the

second worst performance among EU Member

States. Combined heat and power generation is not

supported as required by EU legislation.

Hungary currently spends about 6 % of its

GDP on importing energy products (

), which

is twice the EU average.

In recent years, Hungary

had one of the highest energy import bill in

comparison to its GDP in the EU. Decreasing

external import dependency, also by supporting

wider deployment of renewables and energy

efficient technologies, would mitigate the impact

of fluctuating fossil fuel prices and would enhance

energy security. The country is on track to reach its

non-ETS greenhouse gas emission reduction

target.

(

) Member State’s Energy Dependence: An Indicator-Based

Assessment

ECFIN,

p.12

http://ec.europa.eu/economy_finance/publications/occasion

al_paper/2014/pdf/ocp196_en.pdf

swd (2016) 0085 - Ingen titel

3.5. Network industries and environment

Transport and telecommunications

While there is a high quality motorway network

in Hungary, the secondary road network has

been lacking adequate maintenance.

In this

context, the development of new infrastructure or

widening of existing expressways appears to be

less warranted than the maintenance of the existing

network, taking into account the life-cycle costs of

new investments. In terms of infrastructure

financing, the introduction of network-wide

distance-based electronic tolling of heavy goods

vehicles in 2013 was a positive development.

The long-distance rail network and the

navigability of the Danube require continuous

improvement.

particular,

multimodal

transhipment possibilities in the main ports along

the Danube constitute significant bottlenecks. In

view of the poor maintenance condition of the

river, it is positive that Hungary submitted several

inland waterway projects under the first

Connecting Europe Facility calls for proposals in

order to improve its navigability, as well as the fact

that Integrated Transport Operational Programme

is under modification to include investments into

port infrastructure. Nevertheless, the lack of a

modern fleet of vessels, river ports equipment and

connections to railways currently hamper river

logistics. Low quality infrastructure and railway

bottlenecks around Budapest, including the

connection to the airport lead to increased travel

times, lower attractiveness and accessibility. These

and other investments in the Budapest functional

area are being addressed in the on-going Budapest

Node Study which will help select priorities for

financing under the Integrated Transport

Operational Programme.

In recent years road congestion has been

reduced by sluggish economic performance, this

however is changing.

Urban congestion may

become a barrier to productivity in Hungary (

) as

the employment rate and motorisation (

) restarted

to grow. Air pollution causes human-health

(

) According to JRC calculations, urban areas in Hungary

were among the 5 most congested in Europe in 2013 (in

terms of average ratio of actual speed versus free-flow

speed)

(

) EU transport in figures – Statistical Pocketbook 2015,

Tables 2.6.2 and 2.6.6, http://ec.europa.eu/transport/facts-

fundings/statistics/pocketbook-2015_en.htm and Hungarian

Central Statistical Office, Tables 4.6.11, 4.6.15 and 4.6.17,

https://www.ksh.hu/szallitas_kozlekedes

diseases and leads to total external costs in the

range of up to EUR 17 billion/year in Hungary. (

)

Half of the costs are related to road traffic. With

regard to the planned road access charging in

Budapest, although alternatives have been studied,

the introduction of simple yearly and monthly

vignettes risks to raise revenues without significant

effect on congestion (

Hungary improved its fast broadband

infrastructure during 2015.

78 % of homes have

access to at least 30 Mbps (megabit/second)

broadband as of June 2015, up by 2 percentage

points compared to six months ago. This is

considerably above the EU average of 71 %.

Whereas, fixed broadband services are available to

95 % of homes (slightly below the EU average of

97 %). At the same time, Hungary is lagging

behind in the deployment and use of Digital Public

Services and the Integration of Digital Technology

in business processes. Hungary’s businesses could

better exploit the opportunities offered by on-line

commerce, social media and cloud-based

applications. (

)

Environment policy

Hungary plans to improve its resource

efficiency.

Hungary is performing worse than

average in the EU in terms of resource productivity

(how efficient the economy uses material resources

to produce wealth), with EUR 0.89/kg (EU

average 1.95) in 2014. (

) In the 2011 National

Environmental Technology Innovation Strategy,

which is part of the Hungarian National Reform

Programme, Hungary stipulates reducing its

material intensity to 80% of the 2007 level by

2020.

Waste management is

Investment planning and

still inefficient.

prioritisation of

(

) Impact Assessment for the Commission Integrated Clean

Air

Package,

2013,:

http://ec.europa.eu/environment/air/clean_air_policy.htm

(

) The Cost of Air Pollution, Health Impacts of Road

Transport – OECD 2014

(

) The percentage of businesses using technologies such as

electronic information sharing (ERP – 16%), Cloud

services (6%) or social media (11%) in Hungary is among

the lowest in the EU. Very few SMEs sell online (10%),

even less sell online to other EU Member States (4.5%),

and those who do sell online make a very small share of

their turnover from those sales (7.2%).

(

) Eurostat,

http://ec.europa.eu/eurostat/web/europe-2020-

indicators/resource-efficient-europe

swd (2016) 0085 - Ingen titel

3.5. Network industries and environment

environment projects in wastewater and waste

management is lagging behind on EU waste targets

and therefore Hungary misses the cost-savings and

job creation that accompany good waste

management. There is a clear scope to step up

exploitation of economic instruments and other

mechanisms to promote prevention of waste

generation, improve separate collection, recycling

and reduce landfilling. Full implementation of the

existing EU waste legislation could create more

than 13,300 jobs in Hungary and increase the

annual turnover of the waste sector by EUR 1.4

billion.

Hungary does not perform well in using

renewable water sources.

Out of 34 countries

worldwide, Hungary is ranked 32

for use of

renewable water sources. (

) Water resources in

Hungary show regional and seasonal limitations,

which may escalate with climate change (causing

also changes in water consumption patterns). The

water pricing policy currently in place does not

ensure full cost recovery and thereby does not

contribute to the efficient use of this resource.

Management and prevention of floods in

particular using green infrastructure and

nature-based solutions could improve water

management while reducing economic, social

and environmental costs. (

)

The coordinated

preparation and implementation of the 2

River-

Basin Management Plan and the 1

Flood Risk

Management Plan is very important. These two

key planning documents in the water sector aim to

reduce Hungary's exposure to floods and the

damages they cause.

(

) Christian Kroll: Sustainable Development Goals: Are the

rich countries ready?, Bertelsmann Stiftung, p.33.

http://www.bertelsmann-

stiftung.de/fileadmin/files/BSt/Publikationen/GrauePublika

tionen/Studie_NW_Sustainable-Development-Goals_Are-

the-rich-countries-ready_2015.pdf (Also cited in European

Sustainable Development Network (ESDN) 2015 Quarterly

Report (see pp.55-56)).

( ) Between 2002 and 2013, the total direct costs of the 10

major floods recorded in Hungary amounted to €2.7

billion. Study on Economic and Social Benefits of

Environmental Protection and Resource Efficiency Related

the

European

Semester,

RPA,

2014.

http://ec.europa.eu/environment/integration/green_semester

/pdf/RPA%20Final%20Report-main%20report.pdf;

http://ec.europa.eu/environment/integration/green_semester

/pdf/RPA%20Final%20Report-annexes.pdf

swd (2016) 0085 - Ingen titel

ANNEX A

Overview Table

Commitments

Summary assessment (

)

2015 country specific recommendations (CSRs)

CSR 1:

Achieve a fiscal adjustment of 0.5 %

of GDP towards the medium-term budgetary

objective in 2015 and of 0.6 % of GDP in

2016.

CSR 2:

Take measures to restore normal

lending to the real economy and remove

obstacles to market-based portfolio cleaning

considerably reduce the contingent liability

risks linked to increased state ownership in

the banking sector.

CSRs related to compliance with the Stability and

Growth Pact will be assessed in spring once the final

data will be available.

Hungary has made

some progress

in addressing

CSR 2:



Some progress

was made in taking measures to

restore normal lending and removing obstacles to

market based portfolio cleaning. The authorities

started to implement of commitments made in the

Memorandum of Understanding with EBRD,

including the considerable reduction of the tax on

financial institutions. However, net lending to non-

financial corporations does not show a revival yet.

Asset quality of banks' balance sheet is being

addressed through various initiatives (e.g. personal

insolvency legislation, the capacity of the national

Asset Management Company has been extended),

but results are not yet visible.



No progress

was made in reducing the contingent

liability risks. State ownership in the banking

sector has rather been extended following the

completion of the acquisition of Budapest Bank.

CSR 3:

Reduce distortive sector-specific

corporate taxes; remove the unjustified entry

barriers in the service sector, including in the

retail sector; reduce the tax wedge for low-

income earners, including by shifting

taxation to areas less distortive to growth;

continue to fight tax evasion, reduce

compliance costs and improve the efficiency

of tax collection. Strengthen structures in

public procurement that promote competition

and transparency and further improve the

anti-corruption framework.

Hungary has made

limited progress

in addressing

CSR 3:



Some progress

has been made in the reduction

distortive sector-specific corporate taxes. The tax

on financial institutions has been halved. In

response to a suspension injunction by the

European Commission, the progressive rates in the

food inspection fee have been repelled. However,

little change has been made regarding other sector-

specific levies.

(

) The following categories are used to assess progress in implementing the 2015 CSRs:

No progress: The Member State (MS) has neither announced nor adopted measures to address the CSR. This category also applies if

the MS has commissioned a study group to evaluate possible measures.

Limited progress: The MS has announced some measures to address the CSR, but these appear insufficient and/or their

adoption/implementation is at risk.

Some progress: The MS has announced or adopted measures to address the CSR. These are promising, but not all of them have been

implemented and it is not certain that all will be.

Substantial progress: The MS has adopted measures, most of which have been implemented. They go a long way towards

addressing the CSR.

Fully implemented: The MS has adopted and implemented measures that address the CSR appropriately.

swd (2016) 0085 - Ingen titel

A. Overview Table



Limited progress

has been made in removing the

unjustified entry barriers in the service sector. In

the retail sector the high rates of the food safety

inspection fee were lifted, but the overall level of

restrictiveness remains high.



Limited progress

has been made to reduce the tax

wedge for low-income earners. Steps have been

taken (including a 1 pp. cut in the uniform tax rate

of the personal income tax, and an increase of the

family tax allowance for earners with two children)

but measures are not sufficiently well targeted to

achieve a significant effect for low-income earners.



Substantial progress

has been made to fight tax

evasion. Recent policies put in place to combat

VAT avoidance and tax evasion seem to have

produced visible yields and the 2016 budget counts

on further revenue gains.



Limited progress

has been made in the reduction

of compliance costs and the improvement of the

efficiency of tax collection.



Limited progress

has been made as regards

promoting competition and transparency (e.g.

through the adoption of the new Public

Procurement Act, the compliance of which with

EU law is still to be assessed), important actions

are delayed, especially in the field of e-

procurement, and the indicators on public

procurement show that competition and

transparency are still unsatisfactory in public

procurement.



No progress

has been registered in improving the

anti-corruption framework. No changes are

envisaged to make the new National Anti-

corruption Programme more effective in preventing

corruption and applying dissuasive sanctions.

Prosecution of high-level corruption cases remains

exceptional.

CSR4:

Reorient the budget resources

allocated to the public work scheme to active

labour market measures to foster integration

into the primary labour market; and improve

the adequacy and coverage of social

assistance and unemployment benefits.

Hungary has made

no progress

in addressing CSR 4

of the Council recommendation:



No progress

has been made to reorient the budget

resources allocated to the public work scheme to

active labour market measures to foster integration

into the primary labour market. The PWS is the

main Active Labour Market Policy (ALMP)

measure in Hungary. Its budgetary cost quadrupled

swd (2016) 0085 - Ingen titel

A. Overview Table

over the last four years, to 0.8 % of GDP, and is

expected to double again by 2018. Few public

workers manage to find a job on the open labour

market and there is a significant risk of a “lock-in”

effect. In spite of the 2015 CSR, in 2015 the

Hungarian government announced a further

expansion of the scheme.



No progress

has been made to improve the

adequacy and coverage of social assistance and

unemployment benefits. The duration of the

unemployment benefit (UB) is 3 months, the

shortest in the EU. In addition, the non-adjustment

or freezing of amounts in the past years or new

calculation rules have reduced the nominal value of

many benefits. The recent reforms do not expand

and could further restrict access conditions for a

number of benefits and social services.

CSR 5:

Increase the participation of

disadvantaged groups in particular Roma in

inclusive mainstream education, and improve

the support offered to these groups through

targeted

teacher

training;

strengthen

measures to facilitate the transition between

different stages of education and to the

labour market, and improve the teaching of

essential competences.

Hungary has made

limited progress

in addressing

CSR 5 of the Council Recommendation:



Limited progress

has been made in increasing the

chances of disadvantaged pupils, in particular

Roma in inclusive mainstream education and

preparing teachers for this.



No progress

has been made in facilitating

transitions between different stages of education.



Some progress

has been made in facilitating the

transition from education to the labour market.



Some progress

has also been made in improving

the teaching of key competences.

Europe 2020 (national targets and progress)

Europe 2020 national targets

Employment rate target: 75%

Assessment

The employment rate increased by 2.2 pps. y-o-y to

69.7 % in Q3-2015 (age group 20-64), almost 1 pp.

below the EU average (70.6%).

Change in non-ETS greenhouse gas emissions between

2005 and proxy 2014: -30%

Based on the latest national projections submitted to

the Commission and considering existing measures, it

is expected that Hungary will achieve the target by a

margin of 40 pp: -30% in 2020 as compared to 2005.

Greenhouse gas (GHG) emissions target:

+10% compared to 2005 emissions (ETS

emissions not covered by this national target)

swd (2016) 0085 - Ingen titel

A. Overview Table

2020 Renewable energy target: 13%

With a renewable energy share of 9.5% in 2014,

Hungary is on track to reach the target for 2020 (as the

indicative target for 2013-2014 was 6.9%).

Hungary is also in line with its indicative trajectory for

renewable heating and cooling and transport sectors.

However, the share of renewable electricity is below

the value envisaged by the National Renewable Action

Plan (NREAP). Therefore, additional efforts are

needed to ensure meeting the 2020 target.

With 6.9% share in 2014, Hungary is half-way in

reaching the 10% binding target for RES in transport

by 2020.

Energy efficiency target.

Hungary's 2020 energy efficiency target is

24.1 Mtoe expressed in primary energy

consumption (14.4 Mtoe expressed in final

energy consumption.)

Hungary's former 2020 energy efficiency target, being

in force until early 2015, did not seem to incentivise

improvements as the 2013 annual figures were already

significantly lower than the 2020 target. Although the

new 2020 target is better streamlined to the new

economic environment, Hungary needs to continue its

efforts in order to meet the updated target, assuming

that the current economic rebound continues.

In the period of 2007-2013, thanks to a continuous

increase in business R&D expenditures, overall

Hungarian R&D intensity showed a significant growth

with a compound annual growth of 6.5% and reached a

peak of 1.41% in 2013. However, this trend reversed in

2014 with a decrease down to 1.38%. The contrasting

trends in public and private R&D intensities put into

question the sustainability of the overall growth of the

R&D intensity, as the diminishing public R&D

intensity undermines the availability of highly skilled

human resources in science and technology.

In 2014, early school leaving was 11.4% in Hungary,

which was slightly above the EU average. However, in

the period 2011-2014, there is no improvement on

yearly average in the early school leaving rate (11.4%

in 2011).

Hungary updated its tertiary attainment target in

December 2014 and it has achieved this target in the

same year. Attainment rate is well improving,

however, the current admission and drop-out rates may

not ensure this trend in a decade.

The number of people at risk of poverty or social

exclusion decreased from 3.39m in 2013 to 3.10m in

R&D target: 1.8% of GDP and 3% by 2030

(

)

Reducing the rates of early school leaving

below 10%

34% of 30-34–year-olds completing third

level education

Target on the reduction of population at risk

of poverty or social exclusion in number of

(

) A complementary target is that Busiess R&D intensity would reach 1.2% by 2020 from 0.99% in 2014.

swd (2016) 0085 - Ingen titel

A. Overview Table

persons: 450 000

2014 although this is still 302 000 higher than the

baseline in 2008.

swd (2016) 0085 - Ingen titel

ANNEX B

MIP Scoreboard indicators

Table B.1:

The MIP scoreboard for Hungary

Thresholds

Current account balance,

(% of GDP)

3 year average

-4%/6%

-35%

2009

-5.0

-116.1

2010

-2.5

-109.4

2011

0.1

-106.7

2012

0.9

-94.4

2013

2.2

-84.1

2014

2.7

-73.8

Net international investment position (% of GDP)

Real effective exchange

External imbalances rate - 42 trading partners,

and competitiveness HICP deflator

Export market share - %

of world exports

Nominal unit labour cost

index (2010=100)

3 years % change

±5% & ±11%

7.8

-1.2

-4.2

-1.0

-4.0

-7.0

5 years % change

-6%

12.8

3.3

-2.0

-20.9

-20.4

-14.9

3 years % change

9% & 12%

13.1

6.0

3.0

4.0

6.3

6.7

Deflated house prices (% y-o-y change)

-9.0

-5.9

-6.9

-9.4

-4.6

3.1

Private sector credit flow as % of GDP, consolidated

14%

6.0

-4.2

-4.5

-6.1

-1.1

-0.5

Internal imbalances

Private sector debt as % of GDP, consolidated

General government sector debt as % of GDP

Unemployment rate

3 year average

133%

60%

10%

16.5%

117.1

78.0

8.4

1.9

115.6

80.6

9.7

-0.2

114.9

80.8

10.7

6.2

102.0

78.3

11.1

-5.9

95.2

76.8

10.7

-1.0

91.3

76.2

9.6

8.5

Total financial sector liabilities (% y-o-y change)

Activity rate - % of total population aged 15-64 (3 years

change in p.p)

-0.2%

-0.8

0.3

1.2

2.5

2.8

4.6

New employment

indicators

Long-term unemployment rate - % of active population

aged 15-74 (3 years change in p.p)

0.5%

0.8

2.1

1.6

0.8

-0.6

-1.5

Youth unemployment rate - % of active population aged

15-24 (3 years change in p.p)

7.3

8.3

6.5

1.8

0.2

-5.6

Note: Figures highlighted are those falling outside the threshold established in the European Commission's Alert Mechanism

Report. For REER and ULC, the first threshold applies to euro area Member States.

Source:

European Commission

swd (2016) 0085 - Ingen titel

ANNEX C

Standard Tables

Table C.1:

Financial market indicators

Total assets of the banking sector (% of GDP)

Share of assets of the five largest banks (% of total assets)

Foreign ownership of banking system (% of total assets)

Financial soundness indicators:

- non-performing loans (% of total loans)

- capital adequacy ratio (%)

- return on equity (%)

Bank loans to the private sector (year-on-year % change)

Lending for house purchase (year-on-year % change)

Loan to deposit ratio

Central Bank liquidity as % of liabilities

Private debt (% of GDP)

Gross external debt (% of GDP)

- public

- private

Long-term interest rate spread versus Bund (basis points)*

Credit default swap spreads for sovereign securities (5-year)*

2010

132.8

54.6

53.1

10.0

13.9

0.4

-5.2

-4.4

136.9

0.1

115.6

46.0

69.8

453.8

282.1

2011

119.7

54.6

13.7

13.8

-8.5

-13.1

-18.9

128.0

0.4

114.9

47.6

78.5

502.7

342.5

2012

119.1

54.0

50.0

16.0

16.3

-1.4

-5.5

-9.4

110.6

0.7

102.0

52.0

79.6

639.6

418.0

2013

114.6

51.9

46.2

16.8

17.4

2.3

-4.1

-5.4

102.1

3.1

95.2

47.5

75.5

435.3

269.8

2014

108.9

52.5

40.0

15.6

16.9

-20.6

-3.5

-6.1

94.8

3.8

91.3

47.2

77.3

364.6

179.2

2015

103.5

12.7

17.2

4.5

-8.1

-10.2

80.5

5.0

43.5

77.7

293.7

139.1

1) Latest data Q2 2015.

2) Latest data October 2015.

3) Latest data September 2015. Monetary authorities, monetary and financial institutions are not included.

* Measured in basis points.

Source:

IMF (financial soundness indicators); European Commission (long-term interest rates); World Bank (gross external

debt); Eurostat (private debt); ECB (all other indicators).

swd (2016) 0085 - Ingen titel

C. Standard Tables

Table C.2:

Labour market and social indicators

2010

Employment rate

(% of population aged 20-64)

Employment growth

(% change from previous year)

Employment rate of women

(% of female population aged 20-64)

Employment rate of men

(% of male population aged 20-64)

Employment rate of older workers

(% of population aged 55-64)

Part-time employment (% of total employment,

aged 15 years and over)

Fixed term employment (% of employees with a fixed term

contract, aged 15 years and over)

Transitions from temporary to permanent employment

Unemployment rate

age group 15-74)

(1)

2011

60.4

0.0

54.7

66.4

35.3

6.8

9.1

39.3

11.0

5.2

26.0

13.2

11.4

28.2

7.0

2012

61.6

0.1

56.2

67.3

36.1

7.1

9.5

35.3

11.0

5.0

28.2

14.8

11.8

29.8

6.0

2013

63.0

0.9

56.9

69.3

37.9

6.8

10.9

38.2

10.2

4.9

26.6

15.5

11.9

32.3

9.0

2014

66.7

4.8

60.2

73.5

41.7

6.4

10.8

7.7

3.7

20.4

13.6

11.4

34.1

2015

(4)

59.9

-0.3

54.6

65.5

33.6

5.9

9.8

39.2

11.2

5.5

26.4

12.6

10.8

26.1

8.0

68.6

2.8

61.9

75.5

44.8

6.2

11.1

7.0

3.2

17.9

(% active population,

(2)

Long-term unemployment rate (% of labour force)

Youth unemployment rate

(% active population aged 15-24)

Youth NEET

(3)

rate (% of population aged 15-24)

Early leavers from education and training (% of pop. aged 18-24

with at most lower sec. educ. and not in further education or

training)

Tertiary educational attainment (% of population aged 30-34

having successfully completed tertiary education)

Formal childcare (30 hours or over; % of population aged less

than 3 years)

(1) Unemployed persons are all those who were not employed but had actively sought work and were ready to begin

working immediately or within two weeks.

(2) Long-term unemployed are peoples who have been unemployed for at least 12 months.

(3) Not in Education Employment or Training.

(4) Average of first three quarters of 2015. Data for total unemployment and youth unemployment rates are seasonally

adjusted.

Source:

European Commission (EU Labour Force Survey).

swd (2016) 0085 - Ingen titel

C. Standard Tables

Table C.3:

Labour market and social indicators (cont.)

Expenditure on social protection benefits (% of GDP)

Sickness/healthcare

Invalidity

Old age and survivors

Family/children

Unemployment

Housing and social exclusion n.e.c.

Total

of which: means-tested benefits

Social inclusion indicators

People at risk of poverty or social exclusion

(% of total population)

Children at risk of poverty or social exclusion

(% of people aged 0-17)

(3)

(1)

2009

5.6

2.0

10.2

2.9

0.9

0.7

22.4

1.2

2009

29.6

37.2

12.4

20.3

11.3

6.2

57.1

624955

-0.2

3.5

2010

5.7

1.8

10.2

2.9

0.9

0.5

22.1

1.1

2010

29.9

38.7

12.3

21.6

11.9

5.3

56.7

599141

1.1

3.4

2011

5.5

1.7

10.4

2.7

0.8

0.4

21.5

1.0

2011

31.0

39.6

13.8

23.1

12.2

6.1

52.2

601200

7.4

3.9

2012

5.0

1.6

11.0

2.6

0.6

0.3

21.2

0.9

2012

32.4

40.9

14.0

25.7

12.8

5.3

48.3

614952

2.8

4.0

2013

4.9

1.5

10.8

2.5

0.5

0.3

20.6

0.9

2013

33.5

43.0

14.3

26.8

12.6

6.6

45.6

574130

3.6

4.2

2014

31.1

41.4

14.6

23.9

12.2

6.4

44.5

583861

3.9

4.2

At-risk-of-poverty rate

(2)

(% of total population)

Severe material deprivation rate (% of total population)

Proportion of people living in low work intensity households

(4)

(% of people aged 0-59)

In-work at-risk-of-poverty rate (% of persons employed)

Impact of social transfers (excluding pensions) on reducing

poverty

Poverty thresholds, expressed in national currency at constant

prices

(5)

Gross disposable income (households; growth %)

Inequality of income distribution (S80/S20 income quintile

share ratio)

(1) People at risk of poverty or social exclusion (AROPE): individuals who are at risk of poverty (AROP) and/or suffering from

severe material deprivation (SMD) and/or living in households with zero or very low work intensity (LWI).

(2) At-risk-of-poverty rate (AROP): proportion of people with an equivalised disposable income below 60 % of the national

equivalised median income.

(3) Proportion of people who experience at least four of the following forms of deprivation: not being able to afford to i) pay

their rent or utility bills, ii) keep their home adequately warm, iii) face unexpected expenses, iv) eat meat, fish or a protein

equivalent every second day, v) enjoy a week of holiday away from home once a year, vi) have a car, vii) have a washing

machine, viii) have a colour TV, or ix) have a telephone.

(4) People living in households with very low work intensity: proportion of people aged 0-59 living in households where the

adults (excluding dependent children) worked less than 20 % of their total work-time potential in the previous 12 months.

(5)For EE, CY, MT, SI and SK, thresholds in nominal values in euros; harmonised index of consumer prices (HICP) = 100 in 2006

(2007 survey refers to 2006 incomes)

Source:

For expenditure for social protection benefits ESSPROS; for social inclusion EU-SILC.

swd (2016) 0085 - Ingen titel

C. Standard Tables

Table C.4:

Structural policy and business environment indicators

Performance indicators

Labour productivity (real, per person employed, y-o-y)

Labour productivity in industry

Labour productivity in construction

Labour productivity in market services

Unit labour costs (ULC) (whole economy, y-o-y)

ULC in industry

ULC in construction

ULC in market services

Business environment

Time needed to enforce contracts

Time needed to start a business

(1)

2009

-10.04

7.65

-4.60

7.18

0.51

6.00

2009

(days)

(2)

2010

17.80

8.39

13.38

-5.51

1.58

0.53

2010

395

4.0

2010

1.15

4.90

2.22

2011

-2.51

4.69

1.31

7.00

0.79

1.90

2011

395

4.0

1.04

2011

1.20

4.71

2.98

2012

2.40

-3.90

-0.24

5.21

6.38

2.40

2012

395

4.0

2012

1.27

4.07

0.94

2003

2.11

0.79

2.86

3.31

2013

3.44

6.62

0.66

3.96

-4.52

0.70

2013

395

5.0

0.67

2013

1.41

0.46

2008

1.54

1.44

3.02

1.87

2014

0.03

7.86

-2.13

-0.01

-12.21

0.76

2014

395

5.0

1.01

2014

1.38

0.18

2013

1.33

2.06

3.05

1.73

335

5.0

0.66

2009

1.14

5.12

2.32

(1)

(days)

Outcome of applications by SMEs for bank loans

Research and innovation

R&D intensity

Total public expenditure on education as % of GDP, for all levels of

education combined

Number of science & technology people employed as % of total

employment

Population having completed tertiary education

(3)

Young people with upper secondary level education

Trade balance of high technology products as % of GDP

Product and service markets and competition

OECD product market regulation (PMR) , overall

OECD PMR , retail

OECD PMR , professional services

OECD PMR , network industries

(5)

(6)

(5)

(4)

(1) The methodologies, including the assumptions, for this indicator are shown in detail here:

http://www.doingbusiness.org/methodology.

(2) Average of the answer to question Q7B_a. "[Bank loan]: If you applied and tried to negotiate for this type of financing

over the past six months, what was the outcome?" Answers were codified as follows: zero if received everything, one if

received most of it, two if only received a limited part of it, three if refused or rejected and treated as missing values if the

application is still pending or don't know.

(3) Percentage population aged 15-64 having completed tertiary education.

(4) Percentage population aged 20-24 having attained at least upper secondary education.

(5) Index: 0 = not regulated; 6 = most regulated. The methodologies of the OECD product market regulation indicators are

shown in detail here: http://www.oecd.org/competition/reform/indicatorsofproductmarketregulationhomepage.htm

(6) Aggregate OECD indicators of regulation in energy, transport and communications (ETCR).

Source:

European Commission; World Bank — Doing Business (for enforcing contracts and time to start a business); OECD (for

the product market regulation indicators); SAFE (for outcome of SMEs' applications for bank loans).

swd (2016) 0085 - Ingen titel

C. Standard Tables

Table C.5:

Green growth

Green growth performance

Macroeconomic

Energy intensity

Carbon intensity

Resource intensity (reciprocal of resource productivity)

Waste intensity

Energy balance of trade

Weighting of energy in HICP

Difference between energy price change and inflation

Real unit of energy cost

Ratio of labour taxes to environmental taxes

Environmental taxes

Sectoral

Industry energy intensity

Real unit energy cost for manufacturing industry

Share of energy-intensive industries in the economy

Electricity prices for medium-sized industrial users

Gas prices for medium-sized industrial users

Public R&D for energy

Public R&D for environment

Municipal waste recycling rate

Share of GHG emissions covered by ETS*

Transport energy intensity

Transport carbon intensity

Security of energy supply

Energy import dependency

Aggregated supplier concentration index

Diversification of energy mix

kgoe / €

kg / €

% GDP

% of value

added

ratio

% GDP

kgoe / €

% of value

added

% GDP

€ / kWh

% GDP

kgoe / €

kg / €

HHI

2009

0.29

0.73

1.23

-4.8

13.69

3.1

17.0

7.1

2.6

0.14

32.6

10.38

0.13

0.04

0.01

0.02

24.9

33.5

1.19

3.21

58.5

60.6

0.25

2010

0.29

0.73

1.12

0.19

-5.1

14.73

1.6

19.4

6.3

2.8

0.14

36.1

10.40

0.11

0.03

0.00

0.01

29.6

34.0

1.06

2.85

58.1

59.2

0.25

2011

0.28

0.70

1.09

-6.0

15.47

1.9

20.5

6.5

2.6

0.14

36.6

9.44

0.10

0.04

0.00

0.01

32.7

34.1

1.03

2.72

51.8

52.9

0.25

2012

0.27

0.67

0.96

0.18

-6.3

16.77

0.3

6.5

2.7

0.13

9.35

0.10

0.05

0.01

34.6

34.5

0.95

2.57

52.3

58.7

0.24

2013

0.26

0.63

1.10

-6.3

17.04

-11.7

6.7

2.6

0.18

8.52

0.10

0.04

0.02

35.4

33.3

0.88

2.40

52.3

61.0

0.23

2014

1.23

-6.1

16.99

-10.9

6.8

2.6

8.49

0.09

0.04

0.01

33.5

All macro intensity indicators are expressed as a ratio of a physical quantity to GDP (in 2005 prices).

Energy intensity: gross inland energy consumption (in kgoe) divided by GDP (in EUR).

Carbon intensity: greenhouse gas emissions (in kg CO2 equivalents) divided by GDP (in EUR).

Resource intensity: domestic material consumption (in kg) divided by GDP (in EUR).

Waste intensity: waste (in kg) divided by GDP (in EUR).

Energy balance of trade: the balance of energy exports and imports, expressed as % of GDP.

Weighting of energy in HICP: the proportion of "energy" items in the consumption basket used for the construction of the

HICP.

Difference between energy price change and inflation: energy component of HICP, and total HICP inflation (annual %

change).

Real unit energy cost: real energy costs as a percentage of total value added for the economy.

Environmental taxes and labour taxes : from European Commission, ‘Taxation trends in the European Union’.

Industry energy intensity: final energy consumption of industry (in kgoe) divided by gross value added of industry (in 2005

EUR).

Real unit energy costs for manufacturing industry: real costs as a percentage of value added for manufacturing sectors.

Share of energy-intensive industries in the economy: share of gross value added of the energy-intensive industries in GDP.

Electricity and gas prices for medium-sized industrial users: consumption band 500–20 00MWh and 10 000–100 000 GJ;

figures excl. VAT.

Municipal waste recycling rate: ratio of recycled municipal waste to total municipal waste.

Public R&D for energy or for the environment: government spending on R&D (GBAORD) for these categories as % of GDP

Proportion of greenhouse gas (GHG) emissions covered by EU Emission Trading System (ETS): based on greenhouse gas

emissions (excl land use, land use change and forestry) as reported by Member States to the European Environment

Agency Transport energy intensity: final energy consumption of transport activity (kgoe) divided by transport industry gross

value added (in 2005 EUR).

Transport carbon intensity: greenhouse gas emissions in transport activity divided by gross value added of the transport

sector.

Energy import dependency: net energy imports divided by gross inland energy consumption incl. consumption of

international bunker fuels.

Aggregated supplier concentration index: covers oil, gas and coal. Smaller values indicate larger diversification and

hence lower risk.

Diversification of the energy mix: Herfindahl index over natural gas, total petrol products, nuclear heat, renewable energies

and solid fuels; * European Commission and European Environment Agency.

Source:

European Commission (Eurostat) unless indicated otherwise