The Orbán government’s “action plan”

The long awaited speech of the Hungarian prime minister took place this afternoon. It was a 29-point laundry list. The immediate domestic reactions, from the right as well as the left, were restrained. Most economists admitted that they couldn't pass judgment on the proposals for the simple reason that they were vague. Moreover, it was almost impossible to judge whether the austerity measures would suffice to meet the 3.8% budget deficit that is demanded by the IMF and the EU.

Just to give you an idea of how vague some of these announcements were here are two examples. Viktor Orbán announced the introduction of a special tax on the profits of lending institutions. This surcharge will be in effect for three years and it will yield 200 billion Hungarian forints. Economists and bank experts who listened to the speech couldn't decide whether the government was hoping for additional revenue of 200 billion in one year or over three years. (As it turned out by the evening, they expect 200 billion every year, starting in 2010.) The second example is the 15% cut in the salaries of government employees. Again, there was disagreement over whether this 15% across the board cut would affect only the civil service or all government employees, i.e. all people who work in the public sector. The difference in numbers is quite substantial. There are only about 40,000 civil servants but about 700,000 people, including teachers and healthcare workers, are public sector employees. (Again as it turned out after hearing János Lázár's interview with Olga Kálmán of ATV it will affect everybody in the public sector.)

As promised there will be tax cuts, but if I understand it correctly the chief beneficiaries of these cuts will be the top 10 percent of society. Right now ninety percent of the wage earners belong to the lower tax bracket of 17% and only about ten percent pay at the higher rate of 32%. The Orbán government will introduce a flat tax of 16% but this flat tax will be combined with deductions for children. Thus 90% of wage earners will receive a tax cut of 1% plus the "family" deduction. Not exactly substantial. On the other hand, people with large incomes will also pay only 16% instead of 32%. That is substantial, though I assume that some currently untaxed income such as long-term capital gains will now be taxed. At the same time the poorest stratum of society, people who receive the minimum wage (73,500 Ft) and who at the moment pay no taxes, will be taxed. Again, it is not clear whether the government is planning to raise the minimum wage in order to compensate for their loss of income. (Even Lázár couldn't answer that question.)

Even people who are very well versed in financial matters like Péter Ákos Bod, former chairman of the Hungarian National Bank and an economist close to Fidesz, or Tamás Bauer who belongs to the other camp couldn't follow the twenty-nine points Orbán outlined in his speech. Considering that the speech itself was just about 40 minutes and the "action plan" wasn't the only topic covered it is obvious that not much information could be squeezed into this time frame. But here's a summary of the salient points.

First he claimed that with the introduction of these twenty-nine points "an entirely new economic system" will be established. Seven of the points concerned taxation. (1) Business tax that is quite low even now (19%) will be lowered to 10% for companies whose profits don't exceed 500 milllion forints per annum. I assume the rest will still be taxed at the old rate and most multi-national companies are in this category. (2) Introduction of the 16% flat tax but its introduction wouldn't be immediate but during the next two years while "1.3 million new people would be included in the system of taxation." That can only mean those who until now didn't pay taxes. (3) Ten kinds of taxes that only complicated filling out the tax forms but brought in little revenue will be abolished. (4) A new wage concept will be introduced. If I understand it correctly, it means that if someone with income that has already been taxed hires someone to mow his lawn on a weekly basis this man wouldn't have to be pay taxes. (To tell you the truth that sounds nonsensical to me. In addition it is a perfect way to avoid paying taxes period.) (5) Any kind of movement of money among blood relatives–dead or alive–will not be taxed. So, no more gift tax, no more inheritance tax. (6) As it stands now to establish a business one needs 51 different permits. One-third of these will be repealed. (7) The present form of taxation on temporary work should be scrapped and the authorities will return to the earlier practice. (Since I have no idea about the present or earlier system, I am not sure what he was talking about. My feeling is that the majority of Hungarians don't have a clue either.) (8) The owner of rental real estate property shouldn't be considered an entrepreneur. (9) Brewers of rotgut stuff will be legal in the future. (Huge applause from the right.)

From here on I will mention only the most important plans. The first is that the government will cut its yearly expenditures by 120 billion forints by freezing wages and no longer hiring outside experts among other things. They are introducing a wage ceiling of 2 million forints a month and that ceiling is applicable even to the chairman of the Hungarian National Bank. (Perhaps Orbán is hoping that András Simor will get so disgusted that he will resign. His current pay is over 7 million. That amount was arrived at during the first Orbán government's tenure at the insistence of Zsigmond Járai, the finance minister who moved over to the National Bank.) The 15% savings in the wages of government employees that I wrote about above would mean another 48.2 billion forints per year. Political parties that are getting money from the budget will receive 15% less in the future. (I assume the government party will have other sources of income.)

Then came the announcement of the special tax on financial institutions. Banks, leasing companies, and insurance companies will have to pay a special tax for the next three years. According to MTI's report this tax that exists even now to the tune of 13 billion forints a year will be raised to 200 billion. This amount will have to be paid starting this year. We don't know what the reactions of these institutions will be. After all, their combined after-tax annual profit is about 400 billion forints. Half of this money would go to the government's coffers. The effect of this move is hard to predict but it might be very negative. The banks might introduce a tighter lending policy.

The government will propose legislation that would forbid the use of foreign currency mortgages. That might be a sensible move but it will undoubtedly have a negative effect on the real estate business and thus on the building industry Fidesz wanted to bolster.

Finally he mentioned a couple of decisions that would help people who got into financial hot water. Some of these people have been unable to pay their mortgages and thus can be removed from their houses or apartments. The government will extend the moratorium on evictions until December 31 and at the same time it will start mediation between lenders and debtors although he added that he knows that the lending institutions don't support this idea.

I think that this is a fairly complete summary of the most important points of Viktor Orbán's speech. But we don't know how thoroughly Matolcsy's team has modeled the potential financial consequences of these changes. Foreign analysts want more details. I have the feeling that the IMF and the EU will also demand more than a laundry list.

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Mark
Guest
Well I think you can say five things very clearly. Firstly, the net effect of these changes will be restrictive. At the moment the revenue to support the tax giveaways for the very rich are being paid through the salary cuts in the public sector and the bank tax. However, the bank tax will only last three years, and given that growth will not be spectacular, in order to place the new tax system on sustainable foundations we can expect very deep cuts in public expenditure over the next three years (my guesses are local authorities, health and pensions). Secondly, this is a spectacular redistribution in favour of the rich. It is quite breathtakingly reactionary, and far more neo-liberal than anything Lajos Bokros has suggested, or any previous Hungarian government has attempted. Indeed in its ambition to bring the working poor into the tax system it goes even further than Slovakia’s psuedo-flat tax (which actually allows quite substantial tax free income for lower earners). I trust we will hear less in future about the opposition being the party of oligarchs, given that FIDESZ are doing far more for oligarchs than the MSZP or SZDSZ ever dared suggest. Thirdly, the cuts… Read more »
Alias3T
Guest
I don’t see how it helps the budget either. Every measure in there that would increase pressure on the budget is certain – flat tax, tax exemptions for certain classes of work, cut to corporate tax rate, buy-out of homeowners in negative equity, moratorium on evictions – is certain to lead either to a rise in the burden on the budget or a loss in tax revenues. There are only two measures that push in the opposite direction: the attack on the public sector – and a pay freeze only deliver results over several years – and the bank tax. But how does the bank tax work? If it’s a windfall tax on profits then it just gives an incentive to the banks to book their profits elsewhere – no problem, since they all have subsidiaries all around the region. If it’s levied on revenues, it’s just a disincentive to invest in or make money in Hungary. So they’ll just cut their lending, which will have its own economic impact. Even OTP would be better off lending their capital in Ukraine or Romania, or buying another bank in the region, and not repatriate any profits to Budapest. So how, exactly,… Read more »
Headless
Guest

Alias3T:
Like you, I cannot fathom how these will work. The bottom line on all these policies is vagueness as to when and how they will be implemented. For instance, as regards this banking tax, well, Orban says that they are still being discussed. I guess we’ll have to wait for them to come before Parliament to see the real nitty-gritty details before drawing any concrete conclusions.

Headless
Guest
An
Guest
Orban Viktor is a genius. He manages to sell restriction masked as tax cuts to the electorate. The elements that are bad for the average Hungarian are masterfully communicated. Only 16% income tax! O, by the way, that would mainly affect high earners who currently pay 32% and we are going to tax minimal wage which is currently tax-free…You see how good this is for you, average Hungarian! You’ll be paying 16% instead of your 0% or 17% that you pay today. If you have a job, that is, because we are going to lay off people in the public sector (or decrease their salaries). (The number of people employed in the public sector in Hungary is substantial). Similarly, he is selling restriction as a stimulus plan…how taxing banks are going to stimulate the economy, that’s a mystery. What actually is going to be stimulated by cutting the higher 32% bracket to 16% is vacation trips to Greece by the higher earners. So we’ll be stimulating the Greek economy? He manages to calm down the financial markets, too. They see the intent to save money by cutting bureaucracy and the public sector. It seems that the government gave up the… Read more »
Eva S. Balogh
Guest

An: “He manages to sell restriction masked as tax cuts to the electorate.”
People only hear that the banks will pay big and because they hate the banks they concentrate on that announcement and pay no attention to the rest.

Sandor
Guest

The very minimum effect is that if the banks had to pay an extra 200 billion they will simply transfer the burden to their clientele. There is no way that they would accept a 50% cut to their profit. They will find a way to evade the attack on their bottom line and the customers will have to pay the difference.
Which of course, will reduce the number of qualified borrowers able to pay the increased costs. Where that would lead can easily be anticipated.

Mark
Guest
Alias3T: “It looks like a roll-the-dice-and-hope-for-the-best source of revenue.” It is intended to be a stop gap (by the way, if were guessing I’d guess that foreign-owned banks like Erste are repatriating their profits anyway). And it may not work, for all the reasons you and other give. What is more interesting is how they plan to pay for their new tax regime when the bank tax expires. It takes time to restructure public services so that those restructures deliver savings. Local authorities are one obvious target (though the UK experience of reducing the number of local authorities suggests that the savings are more apparent than real). Health is another – though I’m waiting to see how FIDESZ explain themselves when they have to re-introduce co-payments into health. It is clearly an area where serious re-structuring is needed for all kinds of reasons. Pensions are another – but a government that would even think of nationalizing private pension funds is not one that has a coherent idea of what it is doing. The other is to achieve significant reductions in the numbers employed in public services through restructuring over and above the salary reductions already planned. And given the problems… Read more »
Gábor
Guest

I think many people still don’t grasp the severity of some of these measures. For example the 15% reduction of wages in the public sector (or in the publicly owned companies? Or both? It is still not clear.) means at least 25% cut in this year as we are heading towards the second half of the year and the intention is to reduce the yearly amount. Even if the distribution of wage payments is not entirely equal (as usually extras are paid in December) it means a very heavy cut for the second half of the year.

nwo
Guest

This plan at first blush is incredibly regressive.
The best part of this, as far as I am concerned, is that we can now maybe start rectifying the horribly confusing aspect of Hungarian politics where certain right wing parties espoused economic polices well to the left of the left wing parties. Maybe FIDESZ is finally realizing this, and is ditching some of its left wing populism for some more traditional right wing trickle down.
It will make explaining Hungarian politics easier to the very few people outside of Hungary who might have a passing interest in such a thing.
Finally, I do not see why banks with branches in multiple countries could not offer fx loans to Hungarian citizens out of their non Hungarian branches?

Steve
Guest

I find it funny, that the average commenter of this blog so much supported the drastic austerity measures and tax-increases of Bajnai government which badly affected all of the general population, yet sees the tax-cut and government bourocracy reduction measures of Orbán government as bad.
Why don’t you plainly tell that you are MSZP supporters, and are siding yourself against whatever Fidesz does, just because of your political ideology?

Mark
Guest

Steve: “I find it funny, that the average commenter of this blog so much supported the drastic austerity measures and tax-increases of Bajnai government which badly affected all of the general population, yet sees the tax-cut and government bourocracy reduction measures of Orbán government as bad.”
I didn’t support the Bajnai government.
But what I do find funny are those FIDESZ supporters who will have to explain to poor voters with large families why they have to pay for the large tax cuts they are giving to people like Ferenc Gyurcsány!

Mark
Guest

NWO: “Finally, I do not see why banks with branches in multiple countries could not offer fx loans to Hungarian citizens out of their non Hungarian branches?”
As I’m sure you know the single European market in financial services remains a work in progress. The problem is that the lender would need to be sure that the court in the country where the asset the loans was secured against would be prepared to enforce the contract if the borrower decided to stop paying (normally when someones takes a mortgage to buy a second property in another country, the mortgage is secured against the first home in the country of residence). For as long as there remains a risk that this wouldn’t happen, I’d guess that responsible lenders wouldn’t make these loans.

Kata
Guest

@ Steve and Mark
Sorry, I’m not an economist, but why do they not introduce progressive taxation? The more you earn the more tax you pay? Like in the UK, if I’m not mistaken?

Kata
Guest

What I meant is higher tax brackets after a certain level of income.

Mark
Guest
Kata: “Sorry, I’m not an economist, but why do they not introduce progressive taxation? The more you earn the more tax you pay? Like in the UK, if I’m not mistaken?” It is a very good question. The UK will operate a system based on three income tax brackets from April 2011 – at 22%, 40%, and 50% (the top one was introduced as a deficit cutting measure). The first c.£4,500 of income is taxed at 0%. To fall into the 50% bracket a taxpayer has to earn over £150,000 gross per year placing them in the top 9% of the income distribution, and to fall into the 40% bracket about £37,000 per year placing them in the top 30%. It is worth noting that no western European country operates a flat tax of the kind proposed by FIDESZ, nor do Canada or the United States. It has been a fashion in Central and Eastern Europe with states including Russia, the Baltic States, Romania and Slovakia adopting one in recent years. However, as should be clear from the economic meltdown in the Baltic States it clearly contributed to the credit bubble that has produced an economic meltdown far worse than… Read more »
pgyzs
Guest
These worries are justifiable, however, I still say wait it out. The restrictions on the poor people will only have full effect in two years, and there is a plethora of ways to compensate until then. E.g. a raise in the minimal salary would not be outrageous as a part of a complex plan (I ephasize this, do not counterargument me by tellig what it would do on its own). I don’t say that they will do it (although I strongly hope they will), but I would advise against raging out prematurely. I do not find the bank tax this outrageous as well. Even in the time of crisis, this sector is making record profit year after year. And it’s not that easy for them to avoid this by creative bookkeeping too. If it is projected somehow to their profit, they are restricted by the sheer fact that their shareholders demand the good book figures. The management can’t just offshore the money and say we did not make any profit, that would do them much more harm than paying the tax for three years. I know it is a bit populist, but this is indeed the only sector that has… Read more »
pgyzs
Guest

On the other hand I’m not a supporter of flat taxing either. I agree with the radical simplification of the system, but I do not see why don’t keep at least a second treshold level above middle class. (Because with the strenghtening of the middle class I agree with without hesitation). Again in this case, we do not know how the family discounting will work, so I’m curious about the particular solution.

Kata
Guest
@Mark and @pgyzs I asked that question because I want to give the benefit of doubt to FIDESz’s new government policy. I want to beleive that there is some reason why they are reluctant to introduce taxation based on tax bands. Since Mark mentioned that flat tax has been the accepted practice in many countries of the former Communist block, I glean that the reason might be to facilitate the rise and development of monied bourgeoisie which obviously could not develop in those countries. However, this taxation should not be so lenient to those groups who in the past 20 years became unjustifiably rich. Of course they can also hide and take their fortunes out of the country so it is all much more compilacted to see how things are connected. And I do not feel sorry for the bank sector either. And yes, since Jeffersonian times, to mention an archetypal democracy, one cannot help the thought that governments are formed by the rich for the rich. However, I have to admit, I was very pleased when I heard that the Tories in the UK are planning to raise the tax free band from £4.500 to £10.000. That’d be a… Read more »
Mark
Guest
Kata: “I glean that the reason might be to facilitate the rise and development of monied bourgeoisie which obviously could not develop in those countries. However, this taxation should not be so lenient to those groups who in the past 20 years became unjustifiably rich.” This here is the problem – that group are Hungary’s moneyed bourgeoisie, and this process could not have happened in any other way. If you introduce market relations and private property into an economy, it was always going to be those who occupied the key managerial positions in the pre-transition system that would be able to convert that position into wealth. If you also have an economy with a need for capital, and even income distribution and low rates of saving then the capital to modernize companies has to come from abroad. Those who become rich inside the country will be those who are able to play the “middle-man” role, who understand the structure of rules, regulations, and business practices inside the country, but can also connect companies to the external environment and those who wish to invest in them. This is what happened, and short of keeping the economy in state hands (scarcely an… Read more »
Steve
Guest
It has no sense to try to explain the flat tax as some kind of “ideology”. Its not. The socialists may choose a taxation method as a tool to accomplish their ideology, but it is obvious, that Fidesz does not. Orbán said, that they have chosen the flax tax so that the country to be more competitive. Its a good point towards investors if the country has a flat tax. It sounds reasonable. There is no need to further explain the reasons for choosing it. But, the flat tax has major advantages versus progressive tax: 1. No tax brackets, more simple 2. Flat tax is fixed, if you pay taxes you pay 16%, there is no possibility for you to earn more later the year, and be forced to pay more than 16% tax, because you stepped into another bracket. Because of that, once you paid the tax to the government, you are finished with the transaction. There is no possibility that at the end of the year, you would have to pay extra, or the government had to pay a refund to you. This is the reason why flat tax is so advantageous. Once you pay the tax, you… Read more »
An
Guest
Steve: “Orbán said, that they have chosen the flax tax so that the country to be more competitive” How does decreasing the personal income tax rate make the country more competitive? So those in the higher income bracket now going to invest in businesses and create jobs? More likely they are going to spend it on luxury consumption, most of it on imported goods and maybe for travel. It’s good news that according to the latest details they want to decrease the tax burden on lower earners too, as this may have a potential to stimulate the economy, to some extent, as lower earners are more likely to spend on food and alike that is produced locally. And please note the differences between business and personal taxes. Yes, if you decrease the taxes on companies (business taxes), this may make a country more competitive, as more companies may want to start business in the country. But decreasing the personal tax rate has no such effect. As in Hungary it’s the extra contributions businesses pay after salaries (social security) are really high, and the corporate tax is already relatively low, those contributions should be decreased to make the country more competitive.… Read more »
pgyzs
Guest

Steve: And also next year, the raise of the minimal-wage is announced:
http://index.hu/gazdasag/magyar/2010/06/10/jovore_emelik_a_minimalbert_vonzobb_lesz_a_10_-os_tarsasagiado-kulcs/
Can’t wait to see the technical details.
One more thing: Where did you get your 100 000 min-wager figure? The one I heard about is much larger. But of course, we all have a feeling what percent of these people really earn min-wage.

Steve
Guest
An: “Yes, if you decrease the taxes on companies (business taxes), this may make a country more competitive, as more companies may want to start business in the country.” A business does not care which tax is which. It only interests itself in what the TOTAL cost is. They think in GROSS salaries. Everyone in business sector is thinking in gross salaries. How much this employee costs me in TOTAL? Personal tax is just as important (for a business with large human work-force even more), than the company tax. If the company makes developments, it decreases its profits, so the company tax also decreases. But it HAS TO pay its employees wages and has to pay income taxes too (each month). If the company can choose between two countries: first country with small income tax, the second higher. If it would choose the second one, then the employees would there get smaller net wages for the same GROSS amount. But is it worth for a company to pay its employees less? Less paid employees are less happy. The company gets less “employee satisfaction” for the same total money in the second country. And less employee satisfaction means less motivated workforce,… Read more »
Mark
Guest
Steve: “Orbán said, that they have chosen the flax tax so that the country to be more competitive. Its a good point towards investors if the country has a flat tax. It sounds reasonable. There is no need to further explain the reasons for choosing it.” You make the points that are often made by supporters of flat taxes. Unfortunately your points are reflective of the provincialism with which this issue is often discussed in Hungary. It actually pays no attention to the evidence from countries – mostly, with exceptions like Hong Kong, which are in the small corner of the world known as the ex-Soviet Union and Central and Eastern Europe. It perhaps ought to worry people that aside from a few tax havens, no developed country considers a flat tax suitable. But that aside ….. There is no international evidence that suggests an improvement in competitiveness. There is no solid evidence that it affects the size of the informal economy and peoples’ propensity to pay tax. And there is no evidence either that they increase tax revenue (in fact the balance of the evidence is the other way). The picture is quite complex, and economists at the IMF… Read more »
An
Guest

Steve: “A business does not care which tax is which. It only interests itself in what the TOTAL cost is. They think in GROSS salaries.”
Exactly my point. And the business pays social security contribution (to the state) on top of the gross salary (which goes to the employee)which is almost as much as the gross salary itself. I’ve heard not one businessmen complaining about that…though even with the contributions added, Hungarian wage costs are still not as high as the Western European, but still, not as competitive, as emerging markets. And most of these costs are paid to the state in the form of contributions.
Now if the income tax is lower, the employee can take home more money, which is great for the employee, but does not affect the cost of the business. It may make a happier employee, but I’ve never seen employee happiness calculations included in investment decisions.

nwo
Guest

Mark
In a true commercial deal, one could get a judgment from another European jurisdiction enforced in Hungary. In jurisdiction x, the bank goes to court to prove the breach of contract, then they would go to the Hu ct to have that enforced on the mortgage. Not sure if there are rules prohibiting this for consumer loans. I would be surprised. One could also use an arbitration provision for the original judgment, and then get that enforced in Hu (via NY convention). This does seem less likely, though in U.S. this is what happens on broker/dealer contracts.

An
Guest

Steve:
And as for the flat tax rate legalizing some incomes, well, it may have some effect on that, though I doubt it will be substantial. I guess we shall see.
The reason I doubt this because a lot of the upper middle class consists of well-paid professionals, who take home a salary (including CEOs and managers as well) and their taxes are just as automatically deducted now with the higher rate as it will be with the lower.
Those high net worth individuals who draw other incomes (from business, investments, who knows what else)may or may not feel encouraged to declare their incomes more truthfully.. I wouldn’t get my hopes too high up on that.

Mark
Guest

NWO: “Not sure if there are rules prohibiting this for consumer loans”
I think that the EU would have to cut away the separate national regulation practices that operate, and the various discrepancies between consumer protection legislation in relation to consumer credit for this to work, especially where a loan agreement made in one state is secured on an property in another. It isn’t the only example, but you would be amazed I think at how poorly integrated the markets are in this regard. I would like to see the EU do this.

Gábor
Guest
Steve, I wouldn’t count Orbán as an expert on taxation and economy. He lacks every kind of qualification to claim this position, therefore I would rather have more reasoning. (But rest assured, I like exposing logical fallacies – in this case a typical argument form authority -, you caused me some nice moments.) However, as I recall Orbán also mentioned our regional peers as good examples of the advantages of flat tax. My problem is that their examples do not prove even one part of your reasoning – apart form the ones based on the simplicity of the taxation process. Funnily usual estimates of gray and black economy show significantly higher tax avoidance in Estonia, Latvia, Lithuania, Romania, Bulgaria (over 25% of GDP in some cases over 30%), Slovakia (!) over 20% while in Hungary it is usually considered to lie somewhere around 16-18%. Of course Slovakia attracted a lot of tax optimizers and money launderers form Hungary paying taxes to the Slovak state but I wouldn’t call them investors. There is very few evidence that flat tax itself is a decisive factor of productive investment, the individual cases – for example in Slovakia – were negotiated between Dzurindas government… Read more »
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