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Commission about Hungary: Corruption & shadow economy

The European Commission has published an overview table of the32 areas tacked in the country specific recommendations. The section on Hungary shows that there are 11 areas where the government should make some kind of progress or adjustment, such as labour market activity, promoting competition and transparency in public procurement, poverty reduction and social inclusion, combating the shadow economy and corruption. The latter issue was set as a task for seven EU member states, so Hungary belongs to a relatively small group.

The country specific recommendations list the areas where the European Commission sees progress and/or urges improvements. We will discuss  these recommendations later in this article.
A comprehensive table shows Hungary is yet to tackle 11 problematic issues, which is average and the areas highlighted are mostly those that other EU member states are also struggling with. The exceptions are the following:

  • Reduce the tax burden on labour was a recommendation only for four countries. (The high tax wedge for low-income earners remains a problem in Hungary.)
  • Unemployment benefits was named a problem only at five member states. (The EC reminded that the maximum duration of unemployment benefits (three months) is the lowest in the EU in Hungary, adding that this is significantly shorter than the average time necessary to find a job.)
  • Shadow economy and corruption was named as a problem only in the case of seven EU member states, including Hungary. (The EC said, limited progress has been made as regards promoting competition and transparency in public procurement (for example by adopting the new Public Procurement Act, the compliance of which with EU law has still to be assessed), while unpredictable regulatory changes and administrative burden hamper private business and investment. "A comprehensive e-procurement strategy aiming at improving efficiency and transparency has not yet been developed and the risk of corruption remains high. Changes would be needed to make the new National Anti-Corruption Action Programme (NAP) 2015-2018 more effective in preventing corruption in public institutions and applying dissuasive sanctions. 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.")

Necessary fiscal adjustments for Hungary
The European Commission recommends Hungary to achieve an annual fiscal adjustment of 0.3 % of GDP towards the medium-term budgetary objective in 2016 and of 0.6 % of GDP in 2017. The EC also urges the government to lower sector-specific taxes, reduce the tax wedge for low-income earners and facilitate the transition from the public work scheme to the primary labour market.
The European Commission has published its country specific recommendations for Hungary on Wednesday. It has made three key recommendations:

  • In view of the high risk of a significant deviation from the medium-term objective (MTO), achieve an annual fiscal adjustment of 0.3 % of GDP towards the medium-term budgetary objective in 2016 and of 0.6 % of GDP in 2017, unless the medium-term budgetary objective is respected with a lower effort, by taking the necessary structural measures.
  • Further reduce sector-specific taxes and reduce the tax wedge for low-income earners. Strengthen transparency and competition in public procurement through eprocurement, increased publication of tenders and further improvement of the anticorruption framework. Improve the regulatory environment in the services sector and in the retail sector by addressing restrictive regulations and ensuring predictability.
  • Facilitate the transition from the public works scheme to the primary labour market and reinforce other active labour market policies. Improve the adequacy and coverage of social assistance and unemployment benefits. Take measures to improve educational outcomes and to increase the participation of disadvantaged groups, in particular Roma, in inclusive mainstream education.

Besides the aforementioned recommendations the EC made the following observations:

  • Hungary's convergence programme indicates that the budgetary impact of the exceptional inflow of refugees is significant. According to the Commission's assessment, the eligible additional expenditure amounted to 0.04% of GDP in 2015 and currently no further incremental costs are expected in 2016.
  • Hungary is currently in the preventive arm of the Stability and Growth Pact and subject to the debt rule. In its 2016 convergence programme, the government plans the headline deficit to increase to 2.4% of GDP by 2017 and then to decrease gradually to 1.2% by 2020. The government plans a gradual improvement of the structural balance in order to reach its revised medium-term budgetary objective - a deficit of 1.5% of GDP in structural terms - by 2019. However, the recalculated structural deficit would remain higher than the medium-term budgetary objective, the EC projected.
  • The Council is of the opinion that there is a risk that Hungary will not comply with the provisions of the Stability and Growth Pact. Therefore further measures will be needed in both years to ensure compliance.
  • The EU executive noted that recent labour market developments are favourable in Hungary, with unemployment having fallen to pre-crisis levels. Employment creation in the private sector is picking up, but the public works scheme has also contributed to reducing unemployment, it added. The scheme is the main active labour market policy in Hungary, the EC also said.
  • The EC said Hungary's budgetary cost more than quadrupled over the last five years. In its view, however, the scheme does not seem sufficiently to improve the reintegration of participants into the open labour market.
  • In the first half of 2015, the rate of successful exit from the scheme to regular employment was 13.1%, but around 60% of the participants who left it in that period returned to the scheme within 180 days. This significantly risks locking participants into the scheme, particularly low-skilled workers and people in disadvantaged regions.
  • Although the scheme targets the long-term unemployed, the low-skilled and unemployed people living in disadvantaged areas, 47% of participants in 2015 had secondary or tertiary education. The proportion of unemployed people involved in public works is also significant in counties with well-performing labour markets, the EC added.
  • Internal financial imbalances have been reduced and the banking system has become less vulnerable, but challenges remain. Considerable progress has been made in reducing private sector debt, previously mostly denominated in foreign currencies. Lending to households showed signs of recovery but a turnaround in corporate lending has yet to take place.
  • The profitability of the banking sector has started to recover, helped by 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 capitalised and highly liquid. The main remaining challenge for banks is to reduce the still high share of non-performing loans that hinder new lending and put pressure on profits. The contingent liability risks linked to the increased ownership of the state in the banking sector are still high.
  • Despite considerable recent improvements in tax policies and the tax administration, Hungary's reliance on sector-specific taxes remains a potential barrier to investment. The selective design of these taxes causes distortions across sectors.
  • The labour tax wedge for low-income earners is still high, especially for those without children. This can have a negative impact on their employability and can also hamper investment. Steps have been taken to reduce the tax wedge (including a one percentage point cut in the uniform tax rate of the personal income tax and an increase of the family tax allowance for earners with two children). However, measures are not sufficiently well targeted to have a significant effect for low-income earners. There is a potential for shifting tax away from labour to areas less distortive to growth.
  • Several measures have been taken to improve compliance and reduce compliance costs, although tax compliance costs remain high. Despite improvements in recent years, Hungary still faces challenges regarding the efficiency of tax collection. The Hungarian government announced a major institutional reform, to be launched in 2016, targeting efficiency in the tax administration.


Last Updated on Thursday, 19 May 2016 13:22



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