Press Release No. 24/300

IMF Executive Board Concludes 2024 Article IV Consultation with Hungary

August 2, 2024

Washington, DC: The Executive Board of the International Monetary Fund (IMF) concluded the Article IV Consultation[1] with Hungary and considered and endorsed the staff appraisal on a lapse-of-time basis without a meeting.[2]

A modest recovery is underway, while the disinflationary process remains on track. Following a contraction of 0.9 percent in 2023, real GDP growth is projected at 2.3 percent in 2024, driven by domestic consumption. Growth is expected to accelerate to 3.3 percent in 2025 as investment gradually picks up, and then converges to its potential of around 3 percent over the medium term. Headline inflation has fallen to 3.7 percent in June, within the MNB’s one percentage point tolerance band of the 3 percent target and is projected to increase to 4.2 percent year on-year in Q4 2024 before durably converging to 3 percent in 2026. A modest current account surplus is expected in 2024 with gradual improvement over the medium term in line with the anticipated increase in battery and electric vehicle exports.

The recession in 2023, elevated borrowing costs, and spending pressures are weighing on public finances. Despite a less expansionary fiscal stance than in 2022, the headline deficit stood at 6.7 percent of GDP in 2023, as the recession reduced revenues and spending on interest and energy subsidies increased. The public debt ratio declined slightly but remained well above pre-pandemic levels. In the absence of additional measures, the deficit will reach 5 percent this year, above the authorities’ 4.5 percent revised budget target, and exceed the Maastricht limit of 3 percent of GDP through 2026, while the public debt ratio will remain above 70 percent of GDP through 2028.

The outlook is clouded by uncertainty, with risks tilted to the downside for growth and upside for inflation. The absence of measures to address still sizeable fiscal imbalances and structural policy challenges could weaken investor confidence and deter needed private investment. Lack of progress in governance reforms could result in the prolonged suspension of important EU funds. A resultant increase in risk premia and forint depreciation could prolong tight monetary policy and weaken growth. Inflation could increase again in the event of further disruptions to energy supply caused by an escalation of geopolitical risks, which would also adversely affect the external balance, or if Hungarian wages grow faster than expected. Furthermore, monetary policy miscalibration by major economies could impact Hungary’s macroeconomic and financial stability.

Executive Board Assessment

In concluding the 2024 Article IV consultation with Hungary, Executive Directors endorsed staff’s appraisal, as follows:

Hungary is emerging from a period of shocks. The pandemic, Russia’s war in Ukraine, and crisis-related stimulus widened fiscal and external imbalances and triggered double-digit inflation in 2022. Thanks to an effective monetary policy response aided by falling commodity prices and a tighter fiscal stance in 2023, inflation has declined rapidly. A large current account deficit in 2022 turned into a surplus in 2023, labor markets and the financial sector have remained resilient, and output is starting to recover.

However, significant challenges remain. Fiscal imbalances, windfall taxes, interest rate caps and subsidized lending, and delays in the disbursement of EU funds create investor uncertainty. Mutually reinforcing challenges are holding back Hungary’s productivity, including a strong presence of state-owned enterprises in some key sectors, inequalities of opportunities, and lagging digitalization. Policy uncertainty has also constrained investment, contributing to an external position stronger than implied by fundamentals (Annex III). 

A credible fiscal adjustment would help safeguard fiscal sustainability. In the absence of measures, staff projects that the authorities will miss the targets set in their latest EU Convergence Program. Measures should aim at achieving a deficit of below 3 percent of GDP by 2026, while bringing the structural deficit to 1.5 percent of GDP by 2029, in line with the preliminary assessment of what the new EU fiscal framework would require. This fiscal path should be anchored in a credible medium-term framework.

Tax reforms should focus on improving the efficiency and equity of the tax system. A universal VAT rate with fewer exemptions would simplify administration. Higher marginal personal income tax rates for high earners would enhance progressiveness. Taxation of corporates could be made more equitable by rationalizing tax incentives and increasing the tax rate, while using the additional revenues to eliminate distortive windfall taxes. There is also scope for raising more revenue from property taxes. Hungary should reduce its reliance on distortive taxes such as financial transaction taxes and windfall taxes that create uncertainty and undermine investment.

Reducing subsidies and rationalizing other current spending would create room for a more growth-friendly spending mix. Retail utility subsidies should be limited to a basic subsistence amount to protect vulnerable households. A rationalization of the public wage bill and goods and services spending would provide further savings and free room for more productive spending, including on investment and education. Reforms are also needed to contain long-term spending pressures, and to improve monitoring of contingent liabilities stemming from the rapid expansion of SOE assets and government guarantees.

Policy rates should remain in restrictive territory into next year to deliver a sustainable return of inflation to target. The loosening of the monetary policy stance has been broadly appropriate so far. But there is limited scope for further rate cuts this year as underlying inflation pressures remain elevated, particularly for services. The exchange rate is likely to also be a binding constraint on the pace of loosening given its importance for inflation dynamics. The flexible exchange rate regime and maintaining adequate reserves can help Hungary manage external shocks. Central bank autonomy should be protected by appropriate legal frameworks.

Now is still an opportune time to bolster financial sector resilience, while distortions to market-based credit allocation should be removed. The introduction of a positive neutral countercyclical capital buffer, of 1 percent from July 2025, represents an important step to further mitigate systemic risks. While the MNB should play an active role in climate-risk supervision, initiatives should be consistent with its core mandate of price and financial stability. Hungary should prioritize implementing the EU's AML/CFT 2024 legislative package and enhancing risk-based measures for non-profit organizations. State-owned banks' subsidized lending should be better targeted, while remaining interest rate caps should be phased out. Scaling back the various fiscal incentives for house ownership would help moderate future house price growth and safeguard financial stability.

Deeper reforms are needed to drive more balanced growth. Investment in STEM education, implementation of the new EU AI Act, reduced fossil fuel subsidization coupled with transfers for the vulnerable, and targeted incentives for investment in disadvantaged areas would have mutually reinforcing benefits. Further progress on governance reforms would foster a growth-friendly environment and unlock EU financing. The state’s strong presence in some sectors, including through recent telecom and airport acquisitions, should be guided by legal, regulatory and policy frameworks that ensure fair competition.

Table 1. Hungary: Selected Economic Indicators, 2019-2029

[1] Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country’s economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.

[2] The Executive Board takes decisions under its lapse-of-time procedure when the Board agrees that a

proposal can be considered without convening formal discussions.