Hungary is a land-locked country in the heart of Europe. Blessed with extensive low-lying, fertile plains, the country's economy prior to World War II was primarily oriented toward agriculture and small-scale manufacturing. Hungary's strategic position in Europe and its relative lack of natural resources have also dictated a traditional reliance on foreign trade.
In 1968, Hungary was the first country in Central and Eastern Europe to initiate political and economic reforms by introducing the "New Economic Mechanism". By the late 1980s and early 1990s, fundamental laws on the banking system, foreign investments, the foundation of companies, trade, competition, labour, intellectual property and bankruptcy were laid down, while imports, prices and wages were liberalised.
Hungary was the first country in the region to launch market-based privatisation, including in strategic sectors such as energy and banking, and public sector reform of health and education. As a result, the number of foreign direct investments increased rapidly.
In 1996, the Hungarian currency became convertible and Hungary joined the OECD. By the end of the 1990s, the privatisation process was essentially complete. Less than 20% of state assets - mainly in strategic industries - remained in government control and Hungary was ready to join the European Union in May 2004.
Foreign ownership of and investment in Hungarian firms are widespread, with cumulative foreign direct investment totalling more than EUR 60 billion (USD 80 billion) since 1989. Foreign capital is attracted by skilled and relatively inexpensive labour, tax incentives, modern infrastructure and a good telecommunications system.
GDP growth in Hungary was driven by the expansion of exports and investments. Between 2001 and 2008, export growth was exceptionally high at 11.5% per annum and the structure of exports showed an upward trend. After 1998, the share of technology-intensive and high-value-added sectors such as machinery, transportation equipment and ICT products grew significantly.
From 2006, Hungary's economic development had slowed and GDP growth remained below 4% as fiscal consolidation became the focus of economic policy. The government's austerity programme has reduced Hungary's large budget deficit, but reforms have dampened domestic consumption, slowing GDP growth to less than 2% in 2007 and 0.6% in 2008.
Hungary is an open, export-driven economy. As a consequence, the global slowdown and faltering demand in its main export markets has had a negative impact on economic growth, especially in the export-orientated automotive and consumer electronics sectors.
In 2009, the Hungarian economy shrank by 6.3%. This was attributable to three factors: the slump in agricultural output following the sector's outstanding growth in 2008; the increasingly rapid decline in other sectors that began as early as 2008, and, finally, the continuing downturn in the construction sector that began two years ago (although at that stage, it was limited to only 5%).
In 2010 the new government implemented a number of changes including cutting business and personal income taxes, but imposed "crisis taxes" on financial institutions, energy and telecom companies, and retailers. The economy began to recover in 2010 with a big boost from exports, especially to Germany, and achieved a growth of approximately 1.4% in 2011.
On The Way To Recovery
Since 2010, the government has backpedaled on reforms and taken a more nationalist and populist approach towards economic management. The government has favored national industries, and specifically government-linked businesses, through legislation, regulation, and public procurements. In 2010 and 2012, the government increased taxes on foreign-dominated sectors, such as banking and retail, because the move helped to raise revenues and decrease the budget deficit, thereby allowing Hungary to maintain access to EU development funds. The policy deterred private investment, however.
In 2011 and 2014, Hungary nationalized private pension funds. The move squeezed financial service providers out of the system, but it also helped Hungary curb its public debt and lower its budget deficit to below 3% of GDP, as subsequent pension contributions have been channeled into the state-managed pension fund. Hungary’s public debt (at 73.9% of GDP) is still high compared to EU peers in Central Europe. Despite these reversals, real GDP growth has remained robust in the past several years because EU funding increased, EU demand for Hungarian exports rose, and domestic household consumption rebounded. To further boost household consumption ahead of an anticipated 2018 election, the government has announced plans to increase the minimum wage and public sector salaries, decrease taxes on foodstuffs and services, cut the personal income tax from 16% to 15%, and introduce a uniform 9% business tax for small and medium-sized enterprises and large companies. Real GDP growth slowed in 2016 due to a cyclical decrease in EU funding, but increased to 3.8% in 2017, in part as Budapest front-loaded drawdowns of EU funds ahead of the planned 2018 election.
Sources: CIA Factbook, MTI, IMF, OECD, FocusEconomics