COMMISSION STAFF WORKING DOCUMENT Accompanying the document Recommendation for a Council decision establishing that no effective action has been taken by Hungary in response to the Council Recommendation of 4 December 2018 Recommendation for a Council recommendation with a view to correcting the significant observed deviation from the adjustment path toward the medium-term budgetary objective in Hungary
Date: 2019-06-05
Institutions: Directorate-General for Economic and Financial Affairs, European Commission
Subjects: Hungary, budget deficit, economic policy, economic reform, financial control, gross domestic product, multilateral surveillance, public finance, stability pact, stability programme

EN 

  EN 

   EUROPEAN COMMISSION  Brussels, 5.6.2019  SWD(2019) 534 final  COMMISSION STAFF WORKING DOCUMENT Accompanying the document Recommendation for a Council decision establishing that no effective action has been taken by Hungary in response to the Council Recommendation of 4 December 2018  Recommendation for a Council recommendation with a view to correcting the significant observed deviation from the adjustment path toward the medium-term budgetary objective in Hungary {COM(2019) 534 final} - {COM(2019) 539 final}  
 
 
COMMISSION STAFF WORKING DOCUMENT 

Accompanying the documents 

Recommendation for a Council decision establishing that no effective action has been 
taken by Hungary in response to the Council Recommendation of 4 December 2018 

Recommendation for a Council recommendation with a view to correcting the 
significant observed deviation from the adjustment path toward the medium-term 
budgetary objective in Hungary 

1. 

INTRODUCTION 

Since 2013, Hungary has been subject to the preventive arm of the Stability and Growth Pact, 
which  requires  sufficient  progress  towards  the  medium-term  budgetary  objective  (MTO). 
Hungary’s  general  government  debt  remains  above  60%  of  GDP  and  it  is  expected  to 
diminish at a satisfactory pace in line with the debt-reduction benchmark.  

This  staff working document has a double purpose. First,  it explains the reasons  behind  the 
Commission recommendation for a Council decision establishing non-effective action in 2019 
in  response  to  the  Council  Recommendation  addressed  to  Hungary  on  4  December  2018. 
Second,  it  supports  the  Commission  recommendation  for  a  Council  recommendation  with  a 
view  to  correcting  the  significant  observed  deviation  from  the  adjustment  path  toward  the 
medium-term  budgetary  objective  in  Hungary  in  2018,  as  adopted  by  the  Commission  on  5 
June 2019. 

On 22 June 2018, the Council decided in accordance with Article 121(4) of the Treaty on the 
Functioning of the European Union ("TFEU") that a significant observed deviation from the 
MTO  occurred  in  Hungary  in  2017.  In  view  of  the  established  significant  deviation,  the 
Council  on  22  June  2018  issued  a  recommendation  for  Hungary  to  take  the  necessary 
measures to ensure that the nominal growth rate of net primary government expenditure1 does 
not exceed 2.8% in 2018, corresponding to an annual structural adjustment of 1.0% of GDP2.  

On  4  December  2018,  the  Council  found  that  Hungary  had  not  taken  effective  action  in 
response to the 22 June 2018 recommendation and issued a revised recommendation. In the 
revised recommendation the Council asked Hungary to take the necessary measures to ensure 
that the nominal growth rate of net primary government expenditure does not exceed 3.3% in 
2019,  corresponding  to  an  annual  structural  adjustment  of  1.0%  of  GDP3.  It  recommended 
Hungary  to  use  any  windfall  gains  for  reducing  its  deficit,  while  budgetary  consolidation 

1  

2  

3  

Net  primary  government expenditure  is comprised of  total government expenditure excluding interest 
expenditure,  expenditure  on  Union  programmes  fully  matched  by  Union  funds  revenue  and  non-
discretionary  changes  in  unemployment  benefit  expenditure.  Nationally  financed  gross  fixed  capital 
formation  is  smoothed  over  a  four-year  period.  Discretionary  revenue  measures  or  revenue  increases 
mandated by law are factored in. One-off measures on both the revenue and expenditure sides are netted 
out. 
Council Recommendation of 22 June 2018 with a view to correcting the significant observed deviation 
from  the  adjustment  path  toward  the  medium-term  budgetary  objective  in  Hungary  (OJ  C  223, 
27.6.2018, p. 1). 
Council  Recommendation  of  4  December  2018  with  a  view  to  correcting  the  significant  observed 
deviation from the adjustment path toward the medium-term budgetary objective in Hungary (OJ C 460, 
21.12.2018, p. 4-5). 

1 

 
 
 
                                                 
measures should ensure a lasting improvement in the general government structural balance in 
a growth-friendly manner. The Council established a deadline of 15 April 2019 for Hungary 
to  report on the  action taken in  response to  the  recommendation. The Hungarian authorities 
submitted their report on action taken in response to Council recommendation (hereafter: "the 
report")  on  15  April  2019.  Moreover,  on  20  March  2019,  the  Commission  undertook  an 
enhanced  surveillance  mission  in  Hungary  for  the  purpose  of  on-site  monitoring  under  the 
Article  -11(2)  of  Council  Regulation  (EC)  No  1466/97  and  subsequently  reported  to  the 
Council on 5 June 2019 and made its findings public. 

Based  on  the  Commission  2019  spring  forecast,  Section  2  of  this  document  presents  a 
summary  of  macroeconomic  developments  in  2018  and  the  outlook  for  2019  and  2020. 
Section  3  presents  a  summary  of  fiscal  developments  in  2018  and  updated  budgetary 
projections  for  2019-2020.  Section  4  presents  an  assessment  of  compliance  with  the 
obligations  stemming  from  the  Stability  and  Growth  Pact  in  2018,  including  an  overall 
assessment  of  the  reasons  for  the  deviation  from  the  requirements  of  the  preventive  arm. 
Section  5  assesses  compliance  with  the  Council  Recommendation  of  4  December  2018. 
Section  6  proposes  a  fiscal  effort  for  2019  and  2020  to  address  the  significant  deviation, 
including a new applicable expenditure benchmark rate compatible with the suggested annual 
improvement in the structural balance. Section 7 provides overall conclusions. 

2. 

MACROECONOMIC DEVELOPMENTS AND OUTLOOK IN 2018-2020 

GDP  growth  increased  in  2018  to  4.9%,  exceeding  earlier  forecasts.  Growth  was  driven  by 
domestic demand. High employment and wage growth supported private consumption, while 
investment activity expanded rapidly in both the private and the public sector. GDP growth is 
expected to slow in 2019 and 2020 as capacity constraints become binding. The economy is 
approaching  full  employment,  administrative  wage  increases  moderate  while  inflation 
increases, all of which lead to slower real private consumption growth. Capacity shortage in 
construction is expected to limit further real investment growth. The Commission 2019 spring 
forecast expects GDP growth to decelerate to 3.7% in 2019 and to 2.8% in 2020. 

Strong  internal  demand  growth  and  capacity  constraints  in  the  construction  and  service 
sectors  are  raising  prices  and  further  deteriorating  the  external  balance.  The  tight  labour 
market and modest productivity growth result in high unit labour cost growth (6.7% in 2018). 
Inflation is rising further, from 2.9% in 2018 to 3.2% in 2019 and 2020. Rising construction 
costs also feed into the GDP deflator, which rose by 4.5% in 2018 and is forecast to rise by 
4.0% in 2019. At the same time, increasing import demand and losses in cost competitiveness 
result in lower net lending vis-à-vis the rest of the world. 

The Commission GDP growth forecast for 2019 and 2020 was revised up since autumn 2018, 
on the back of higher-than-projected GDP growth in 2018 and high-frequency indicators. In 
particular, household  income and consumption growth were revised up.  When assessing the 
path of nominal GDP and main tax bases, the Commission forecast for 2019 is broadly similar 
to  the  authorities’  assessment.  For  2020  the  macroeconomic  scenario  of  the  2019 
Convergence Programme is more favourable. The Commission forecast expects that capacity 
constraints exert a stronger effect on prices and the external balance, which in turn limits real 
GDP growth. 

Based  on  the  Commission  2019  spring  forecast  and  the  commonly  agreed  methodology  for 
calculating  the  cyclical  position  of  the  economy,  the  positive  output  gap  is  projected  to 
stabilise in 2019 and then narrow in 2020. 

2 

 
 
Table 1. Macroeconomic developments and forecast 

3. 

FISCAL DEVELOPMENTS AND OUTLOOK IN 2018-2020 

In  2018,  the  general  government  deficit  remained  unchanged  at  2.2%  of  GDP  while  the 
economy  grew  significantly  above  its  potential.  In  spite  of  tax  cuts,  including  a  further  2.5 
percentage  points  reduction  in  employers’  social  contribution  rate  following  similar  cuts  in 
2017  (by  5  percentage  points)  and  in  2018  (by  2.5  percentage  points),  tax  revenues  grew 
relatively fast thanks to the high growth of nominal income and consumption. New measures 
to  improve  tax  compliance,  introduced  in  July  2018,  also  bolstered  VAT  revenues.  Higher-
than-budgeted revenues were largely spent at the end of the year, mostly on current transfers 
targeting  nurseries  and  schools,  churches,  sport  facilities  as  well  as  Hungarian  minorities 
abroad.  Public  investment  accelerated  further,  increasing  by  1.2  percentage  points  of  GDP, 
thanks also to the increased absorption of EU funds, which amounted to 1.4% of GDP. As the 
output gap is  calculated  to  have increased significantly, the structural  deficit  is  estimated to 
have increased to 3.7% of GDP in 2018, from 3.4% in 2017.  

The 2018 general government deficit outcome of 2.2% of GDP remained below the target of 
2.4%  of  GDP  set  in  the  2018  Convergence  Programme.  Both  revenues  and  expenditures 
turned out better than planned in the 2018 Convergence Programme. On the revenue side, the 
target for both direct and indirect tax revenues was overachieved, and by a high margin in the 
case  of  the  latter.  On  the  expenditure  side,  capital  transfers  and,  to  a  lesser  extent,  capital 
investment were lower than planned, partly offset by slippages in current expenditure. 

On 20 March 2019, the Commission undertook an enhanced surveillance mission in Hungary 
for  the  purpose  of  on-site  monitoring  under  Article  -11(2)  of  Council  Regulation  (EC)  No 
1466/97.  After  having  transmitted  its  provisional  findings  to  the  Hungarian  authorities  for 
comments, the Commission reported its findings to the Council on 5 June 2019 and made its 
findings public. The Commission report finds that the Hungarian authorities do not intend to 

3 

2017OutturnCP 2018OutturnCP 2018CP 2019COMCP 2018CP 2019COMReal GDP (% change)4.14.34.94.14.03.74.04.02.8Private consumption (% change)4.85.25.44.84.64.94.74.73.8Gross fixed capital formation (% change)18.212.816.57.510.310.43.83.82.4Exports of goods and services (% change)4.77.24.76.95.14.66.75.24.8Imports of goods and services (% change)7.79.27.17.46.56.86.35.45.1Contributions to real GDP growth:- Final domestic demand6.25.56.24.25.15.43.33.72.8- Change in inventories-0.20.00.20.00.00.00.00.30.0- Net exports-1.9-1.1-1.50.0-1.0-1.60.70.10.0Output gap11.81.73.31.52.53.31.12.12.4Employment (% change)2.01.52.21.51.11.41.31.30.4Unemployment rate (%)4.23.43.73.13.33.52.82.93.5Labour productivity (% change)2.12.82.72.63.02.32.72.72.4HICP inflation (%)2.42.52.92.72.73.22.92.83.2GDP deflator (% change)3.82.74.53.13.84.03.03.23.4Comp. of employees (per head, % change)6.29.19.67.99.26.66.38.16.5Net lending/borrowing vis-à-vis the rest of the world (% of GDP)4.35.92.25.91.51.14.12.11.02020Note:1In % of potential GDP, with potential GDP growth recalculated by Commission services on the basis of the programme scenario using the commonly agreed methodology.Source:Commission 2019 Spring forecast (COM); 2018 Convergence Programme (CP 2018), 2019 Convergence Programme (CP 2019).20182019 
 
 
 
act  upon  the  Council  recommendation  of  4  December  2018.  The  authorities  confirmed  that 
their  target  for  2019  remained  the  headline  deficit  of  1.8%  of  GDP  that  had  been  approved 
with  the  2019  budget  in  July  2018.  That  policy  implies  an  improvement  in  the  underlying 
structural  deficit  which,  however,  is  far  from  the  adjustment  required  by  the  Council 
recommendation. 

In their report on action taken, the authorities reiterate their target for the general government 
deficit of 1.8% of GDP in 2019, representing 0.4% of GDP reduction compared to the 2018 
outturn.  The  2019  deficit  target  is  unchanged  compared  to  the  target  set  in  the  2018 
Convergence Programme despite the more favourable macroeconomic scenario and the better 
fiscal  outturn  in  2018.  The  fiscal  space  made  available  thanks  to  the  better-than-expected 
fiscal outturn in 2018 and the more favourable macroeconomic outlook is expected to be fully 
absorbed  by  new  expansionary  measures  announced/adopted  by  the  government  at  the 
beginning of 2019. In particular, according to the report, an important priority for 2019 is to 
increase  potential  growth  and  to  promote  competitiveness;  other  priorities  include  the 
improvement of demographic developments and increasing tax compliance. Contrary to what 
was  required  by  the  Council  recommendation,  the  report  does  not  contain  projections  of 
individual budgetary items or categories. Moreover, the authorities provide only a broad list 
of  discretionary  measures  and  spending  programmes,  without  quantifying  their  budgetary 
impact. On the revenue side, those measures include the additional 2 percentage points cut in 
employers’  social  contribution  rate  from  July  2019,  the  exemption  of  working  pensioners 
from  social  contributions  and  an  improved  taxation  regime  for  companies  engaging  in 
research  and  development  activities.  Those  measures  are  partly  offset  by  an  increase  in  the 
levy  on  unhealthy  products  and  foods  and  by  measures  to  fight  corporate  tax  evasion.  The 
report  also  refers  to  ongoing  efforts  aimed  at  enhancing  VAT  collection  efficiency,  most 
notably the introduction of the online invoicing system as of July 2018 as well as initiatives at 
international  level  to  fight  aggressive  tax  planning.  On  the  expenditure  side,  the  report  lists 
several  already  existing  spending  programmes  (e.g.  Modern  Cities  Programme,  Irinyi  plan, 
Supplier  development  programme),  investment  areas  (road  infrastructure,  rail  network 
renewal,  health,  education,  cultural  investment  and  support  for  business  efficiency 
investment),  wage  increases  matched  by  rationalization  in  the  public  sector  and  the  savings 
related  to  the  lower  take  up  of  the  Public  Work  Scheme.  The  report  also  lists  the  newly 
announced measures, namely the Hungarian Village Programme, the rise in the allowance for 
home  care  and  the  Family  Protection  Action  Plan  (known  also  as  the  ‘demography 
programme’) aimed  at  improving the  fertility  rate mainly through expanded house purchase 
subsidies and a subsidised pre-natal loan for young women, which is convertible to a capital 
grant after the birth of a second and third child. According to the report, the costs of the new 
spending  programmes  are  covered  through  the  better-than-expected  revenue  developments. 
Table 2 presents those measures listed in the report with their estimated impact coming from 
subsequent exchanges with the authorities and the 2019 Convergence Programme.  

Based  on  the  Commission  spring  2019  forecast,  which  takes  into  account  the  measures 
described in the report received from the authorities to the extent they are already enacted or 
credibly announced in sufficient detail, previously adopted measures, as well as information 
from all available sources, the general government deficit is projected to decrease to 1.8% of 
GDP in 2019. This is in line with the authorities’ budgetary target. In the Commission spring 
2019 forecast, total current expenditure is expected to increase rather moderately compared to 
GDP, thus representing the key driver of the reduction in the headline deficit. The projected 
expenditure  restraint  affects  the  main  spending  items  at  a  varying  degree,  with  the  public 
wage  bill  and  social  payments  expected  to  increase  rather  moderately.  By  contrast,  due  to 

4 

 
 
higher level of reserves in the budget, and the authorities explicit intention to use all available 
reserves by the end of the year, other current expenditure is expected to increase substantially. 
In addition, capital expenditure net of EU funds is expected to accelerate substantially and to 
increase as a share of GDP, partly related to spending on the Hungarian Village Programme 
and  the  demography  programme.  The  general  government  deficit  is  projected  by  the 
Commission  spring  2019  forecast  to  decrease  marginally  in  2020  to  1.6%  of  GDP.  The 
decrease is driven by a moderate increase in spending for social transfers, which is expected 
to  grow  below  the  inflation  rate,  and  by  a  moderate  increase  in  public  wages  as  well  as  in 
capital expenditure, due to the phasing out of the Hungarian Village Programme and a lower 
absorption  of  EU  funds.  As  a  consequence  of  the  fiscal  developments  described  above, 
according to the Commission spring 2019 forecast, the fiscal expansion seen in the past two 
years is estimated to be partly reversed with the structural deficit estimated to improve from 
3.7% of GDP in 2018 to 3.3% in 2019 and 2.7% in 2020 (see Table 2). 

Table 2. Discretionary revenue measures included in the Commission 2019 spring 
forecast (fiscal impact in % of GDP) 

In  the  2019  Convergence  Programme,  the  Hungarian  authorities  confirm  a  headline  deficit 
target of 1.8% of GDP for 2019. Total current revenue as a share of GDP is marginally lower 

5 

20192020RevenuesIncrease in road tolls 0.1Reductionofemployer'ssocialsecuritycontribution(SSC)rate(ratereductionfrom22%to19.5% in 2018 and to 17.5% from 1st July 2019)-0.3-0.3Socialsecuritycontributionexemptionofretiredemployeesandexemptionofretailgovernmentbondsfrominteresttaxandreductionoffinancialtransactiondutyforhouseholds-0.1Othersmallertaxmeasures,including:(i)thethirdstepinincreasingfamilyallowancesaftertwochildren;(ii)increaseinthethresholdforKIVA;(iii)changestocorporatetaxation(grouptaxation,incentivesforinvestment);(iv)reductionoffinancialtransactiondutyforhouseholds;(v)exemptionofnewlyissuedretailgovernmentbondsfromincometax;(vi)reductionofthebanklevy;(vii)selectiveVATratecutsoninternetservices,restaurantservices, fish, edible offal of swine, Braille-displays and printers-0.2-0.1ExpenditureOne-year extra benefit and "growth premium" for pensioners 0.20.0Demography programme, including the extension of homebuying subsidies0.10.2Foreign language strategy0.2Hungarian Village programme0.3Net impact on the deficit-1.2-0.8Commission 2019 spring forecasts (COM); Commission calculations.Note:The budgetary impact in the table as included in the Commission 2019 autumn forecast. A positive sign implies that revenue/expenditure increases as a consequence of this measure. The net impact on the deficit is calculated as a difference between renevues and expenditure.Source: 
 
 
 
 
than  in  the  Commission  forecast  (difference  of  0.1  percentage  point).  The  main  difference 
compared with the Commission forecast is in the composition of current expenditure, with a 
higher forecast  for public wages and intermediate consumption compensated by lower other 
current expenditure in the authorities’ forecast. For 2020, the 2019 Convergence Programme 
confirms  a  deficit  of  1.5%  of  GDP,  which  is  marginally  lower  than  in  the  Commission 
forecast.  As  a  share  of  GDP,  the  authorities  project  lower  expenditure  by  0.8  percentage 
points of GDP, mainly explained by intermediate consumption and other current expenditure, 
compensated  by  lower  revenue  by  0.7  percentage  points  of  GDP,  explained  by  both  lower 
current revenue and EU funds. It should be noted that the Hungarian authorities have a track 
record  of  under-budgeting  general  government  revenues  over  the  past  years.  Better-than-
budgeted revenues have subsequently been spent on  ad-hoc non-recurrent expenditure items 
in the last month of the calendar year. 

Table 3. Composition of the budgetary adjustment 

The  Commission 
the  “Családi  Otthonteremtési 
Kedvezmény”  (Family  Allowance  for  Home  Building)  (CSOK)  programme  included  under 

lower  fiscal 

includes  a 

impact  of 

6 

2017OutturnCP 2018OutturnCP 2018CP 2019COMCP 2018CP 2019COMRevenue44.745.544.245.144.644.642.943.344.0of which:- Taxes on production and imports18.018.118.317.918.218.217.618.018.1- Current taxes on income, wealth, etc.7.46.96.97.06.97.07.17.07.0- Social contributions12.812.712.212.612.012.012.211.711.8- Other (residual)6.67.86.87.67.57.56.06.67.1Expenditure46.947.946.546.946.446.444.444.845.6of which:- Primary expenditure44.145.343.944.543.944.042.142.443.2of which:Compensation of employees+Intermediate consumption18.917.817.717.017.617.315.716.717.3Compensation of employees10.910.510.59.910.110.19.39.89.9Intermediate consumption7.97.37.17.17.57.36.46.97.3Social payments13.913.813.513.112.812.912.712.512.6Subsidies1.31.41.31.41.21.21.31.31.2Gross fixed capital formation4.66.05.87.06.86.76.56.36.2Other (residual)5.56.35.86.05.55.96.05.76.0- Interest expenditure2.82.62.52.42.52.42.32.42.4General government balance (GGB)-2.2-2.4-2.2-1.8-1.8-1.8-1.5-1.5-1.6Primary balance0.60.20.30.60.60.70.80.80.8One-off and other temporary measures0.40.00.00.00.00.00.00.00.0GGB excl. one-offs-2.6-2.4-2.2-1.8-1.8-1.8-1.5-1.5-1.6Output gap11.81.73.31.52.53.31.12.12.5Cyclically-adjusted balance1-3.0-3.2-3.7-2.6-3.0-3.3-2.1-2.5-2.7Structural balance2-3.4-3.2-3.7-2.6-3.0-3.3-2.1-2.5-2.7Structural primary balance2-0.6-0.6-1.2-0.2-0.5-0.90.2-0.1-0.42Structural (primary) balance = cyclically-adjusted (primary) balance excluding one-off and other temporary measures.Source:Convergence Programme (CP); Commission 2019 spring forecasts (COM); Commission calculations.1Output gap (in % of potential GDP) and cyclically-adjusted balance according to the programme as recalculated by Commission on the basis of the programme scenario using the commonly agreed methodology.2018(% of GDP)20192020Notes: 
 
 
 
 
the ‘demography programme’, assuming a lower uptake of the subsidies than the authorities. 
In 2019-2020, the cumulated impact of that programme is estimated to increase the deficit by 
0.08%  of  GDP  in  the  Commission  assessment  compared  to  0.25%  of  GDP  in  the  2019 
Convergence Programme.  

General government debt developments 

In 2018, the general government debt-to-GDP ratio decreased to 70.8% of GDP from 73.4% 
in 2017, mainly driven by high nominal GDP growth. That debt level is well below the target 
set  in  the  2018  Convergence  Programme  (73.2%  of  GDP),  also  thanks  to  the  higher-than-
expected nominal economic growth. The sizeable adverse stock-flow-adjustment effect turned 
out lower than anticipated in the 2018 Convergence Programme thanks to an improvement in 
liquidity management. However, higher cash holdings at the end of the year added to the debt 
level.  

According  to  the  Commission  2019  spring  forecast,  debt  is  forecast  to  further  decrease  to 
67.7%  of  GDP  by  2020,  thanks  to  the  improving  budgetary  position  and  the  projected  high 
nominal GDP growth.  

In 2018, Hungary complied with the debt criterion as the debt-to-GDP ratio remained below 
the  debt-reduction  benchmark.  Compliance  with  the  debt  criterion  is  also  expected  in  2019 
and 2020 on the basis of the Commission 2019 spring forecast.  

Table 4. Debt developments 

4. 

COMPLIANCE WITH THE ADJUSTMENT TOWARDS THE MTO IN 2018 

Hungary’s MTO is  defined as a deficit of 1.5%  of GDP in  structural  terms  until  2019.  It  is 
becoming more demanding as of 2020, set as a deficit of 1.0% of GDP in structural terms. 

7 

2017OutturnCP 2018OutturnCP 2018CP 2019COMCP 2018CP 2019COMGross debt ratio173.473.270.869.669.269.266.766.767.7Change in the ratio-2.6-0.4-2.6-3.6-1.6-1.6-2.9-2.5-1.5Contributions2:1. Primary balance-0.6-0.2-0.3-0.6-0.6-0.7-0.8-0.8-0.82. “Snow-ball” effect-2.8-2.2-3.8-2.6-2.7-2.6-2.3-2.3-1.6Of which:Interest expenditure2.82.62.52.42.52.42.32.52.4Growth effect-2.9-3.0-3.3-2.8-2.6-2.5-2.6-2.6-1.8Inflation effect-2.7-1.8-3.0-2.2-2.5-2.6-2.0-2.0-2.23. Stock-flow adjustment0.92.11.7-0.41.81.80.30.71.0Notes:Source:2 The snow-ball effect captures the impact of interest expenditure on accumulated debt, as well as the impact of real GDP growth and inflation on the debt ratio (through the denominator). The stock-flow adjustment includes differences in cash and accrual accounting, accumulation of financial assets and valuation and other residual effects. Commission 2019 spring forecast (COM); Convergence Programme (CP), Comission calculations.(% of GDP)201920201 End of period.2018 
 
 
 
 
On  22  June  2018,  the  Council  issued  a  recommendation  for  Hungary  to  take  the  necessary 
measures to ensure that the nominal growth rate of net primary government expenditure does 
not exceed 2.8% in 2018, corresponding to an annual structural adjustment of 1.0% of GDP. 

In 2018, the growth rate of net primary government expenditure (at 6.3%) was well above the 
expenditure  benchmark,  pointing  to  a  significant  deviation  (deviation  of  1.3%  of  GDP).  In 
parallel, the structural balance deteriorated to -3.7% of GDP from a position of -3.4% of GDP 
in 2017, also pointing to a significant deviation from the recommended structural adjustment 
(deviation of 1.3% of GDP). The size of the deviation indicated by the structural balance is 
negatively  influenced  by  substantial  revenue  shortfalls  as  well  as  higher  investment 
expenditures  amidst  an  overheating  economy,  while  it  is  estimated  to  have  marginally 
benefitted from falling interest expenditure. The expenditure benchmark is strongly negatively 
impacted by the medium-term potential GDP growth applied in its calculation, which includes 
the  very  low  potential  GDP  growth  rates  in  the  aftermath  of  the  crisis.  It  therefore  appears 
more  appropriate  to  consider  as  a  benchmark  for  growth  of  net  primary  expenditure  the 
medium-term  potential GDP growth  rate of 2.5% arising from the Commission  2019 spring 
forecast for the same reference period (2012-2021). In addition, the GDP deflator underlying 
the expenditure benchmark does not seem to account properly for the increased cost pressures 
affecting government spending. After adjusting for those factors, the expenditure benchmark 
appears  to  adequately  reflect  the  fiscal  effort  but  it  still  points  to  a  significant  deviation. 
Therefore,  the  overall  assessment  confirms  a  significant  deviation  from  the  recommended 
adjustment  path  towards  the  MTO  in  2018.  This  assessment  is  also  in  line  with  the  earlier 
conclusion  of  4  December  2018,  in  which  the  Council  found  that  Hungary  had  not  taken 
effective  action  in  response  to  the  Council  recommendation  of  22  June  2018  and  issued  a 
revised recommendation.  

5. 

COMPLIANCE  IN  2019  WITH  THE  COUNCIL  RECOMMENDATION  OF  4  DECEMBER 
2018 

On 4 December 2018 the Council recommended  Hungary to take the necessary measures to 
ensure that the nominal growth rate of net primary government expenditure does not exceed 
3.3% in 2019, corresponding to an annual structural adjustment of 1.0% of GDP. 

Based on the Commission 2019 spring forecast, both  pillars point to  a deviation  from  those 
requirements.  The  growth  of  net  primary  expenditure  is  projected  to  be  well  above  the 
recommended  reference  rate  in  2019  (deviation  of  1.2%  of  GDP).  The  structural  balance  is 
estimated to improve by 0.4% of GDP, to -2.7% of GDP, falling short of the recommended 
adjustment  (deviation  of  0.6%).  Therefore,  both  pillars  point  to  a  deviation  from  the 
requirements set in the revised Council recommendation. The structural balance is negatively 
influenced  by  some  revenue  shortfalls.  The  expenditure  benchmark  is  strongly  negatively 
impacted by the medium-term average potential GDP growth underlying that indicator and by 
the GDP deflator underlying that indicator. After adjusting for those factors, the expenditure 
benchmark  appears  to  adequately  reflect  the  fiscal  effort  but  it  still  points  to  a  deviation. 
Taking  this  into  account,  the  overall  assessment  confirms  the  deviation  from  the 
recommended adjustment. 

Since  the  Commission  autumn  2018  forecast,  which  was  the  basis  for  the  Council 
recommendation  of  4  December  2018,  the  authorities  have  announced  new  expansionary 
measures on the expenditure side. In addition, public wages grew at a faster pace in 2018 and 
new wage increases for some categories were announced since autumn 2018. Finally, higher 
reserves in the budget, with a clear intention for them to be fully spent by the end of the year, 

8 

 
 
have  added  to  the  expenditure  projections  for  2019.  As  a  result,  the  deviation  of  the 
expenditure benchmark is expected to be much larger compared to the assessment performed 
in autumn 2018.  

Table 5. Compliance with the MTO or the required adjustment towards it 

9 

(% of GDP)2018Medium-term objective (MTO)-1.5Structural balance2 (COM)-3.7Structural balance based on freezing (COM)-3.6Position vis-a -vis the MTO3Not at MTORequired adjustment41.0Required adjustment corrected51.0Corresponding expenditure benchmark62.8COMCPCOMCPCOM      Change in structural balance7-0.30.60.40.50.6      One-year deviation from the required adjustment8-1.3-0.4-0.6-0.3-0.2      Two-year average deviation from the required adjustment8-1.3-0.9-0.9-0.3-0.4      Net public expenditure annual growth corrected for one-offs96.36.56.57.77.3      One-year deviation adjusted for one-offs10-1.3-1.2-1.2-1.1-1.0      Two-year deviation adjusted for one-offs10-1.9-1.3-1.3-1.1-1.1Finding of the overall assessmentSignificant deviationDeviationDeviationDeviationDeviationLegendNotesSource:9 Net public expenditure annual growth (in %) corrected for discretionary revenue measures, revenue measures mandated by law and one-offs (nominal)6  Reference medium-term rate of potential GDP growth. The (standard) reference rate applies from year t+1, if the country has reached its MTO in year t. A corrected rate applies as long as the country is adjusting towards its MTO, including in year t. -1.5-1.0Structural balance pillarExpenditure benchmark pillar'Compliance' - the recommended structural adjustment or a higher adjustment is being observed.Convergence Programme (CP); Commission 2019 spring forecast (COM); Commission calculations.20192020Background budgetary indicators1-3.3-2.7Not at MTO10 Deviation of the growth rate of public expenditure net of discretionary revenue measures, revenue increases mandated by law and one-offs from the applicable reference rate in terms of the effect on the structural balance. The expenditure aggregate used for the expenditure benchmark is obtained following the commonly agreed methodology. A negative sign implies that expenditure growth exceeds the applicable reference rate. 1 The most favourable level of the structural balance, measured as a percentage of GDP reached at the end of year t-1, between  spring forecast (t-1) and the latest forecast, determines whether there is a need to adjust towards the MTO or not in year t.  A margin of 0.25 percentage points (p.p.) is  allowed in order to be evaluated as having reached the MTO.2  Structural balance = cyclically-adjusted government balance excluding one-off measures.3 Based on the relevant structural balance at year t-1.4 Based on the position vis-à-vis the MTO, the cyclical position and the debt level (See European Commission:Vade mecum on the Stability and Growth Pact, page 38.). In case of a SDP, the requirement corresponds to the Council recommendation when available, otherwise it refers to the Commission recommendation to the Council.7 Change in the structural balance compared to year t-1. Ex post assessment (for 20XX-1) is carried out on the basis of Commission 20XX spring forecast. 8  The difference of the change in the structural balance and the corrected required adjustment. 5  Required adjustment corrected for the clauses, the possible margin to the MTO and the allowed deviation in case of overachievers.Setting the required adjustment to the MTO--3.33.34.7Not at MTO'Some deviation' - a deviation from the recommended structural adjustment is being observed, but it is below the threshold for a significant deviation.'Significant deviation' - a deviation which has reached or breached the threshold for a significant deviation (i.e. 0.5% of GDP over one year, 0.25% of GDP over two years on average).Compliance with the required adjustment to the MTO1.01.00.750.75 
 
 
6. 

PROPOSED ADJUSTMENT PATH TO THE MTO AND REQUIRED FISCAL EFFORT  

Based on the Commission 2019 spring forecast, Hungary’s structural balance is estimated to 
improve to  -3.3% of GDP in  2019 and to  -2.7% in  2020, slowly approaching albeit  still far 
away from its MTO. Hungary is projected to remain in good economic times, as its projected 
output gap of +3.3% in 2019 and +2.5% in 2020 well exceeds +1.5% of potential GDP. While 
in 2019, real and potential GDP growth are estimated to be the same (at 3.7%), in 2020, real 
GDP growth (at 2.8%) is forecast to be lower than the growth potential (at 3.6%). Finally, the 
general  government  debt  is  set  to  remain  above  the  60%-of-GDP  threshold.  The  required 
structural effort prescribed by Regulation (EC) No 1466/97 and the matrix of requirements4, 
which factors in the prevailing economic circumstances and sustainability concerns, amounts 
to 0.75% of GDP in both 2019 and 2020. 

An additional effort, necessary to correct for the cumulated deviations and to bring Hungary 
back  on  an  appropriate  consolidation  path  following  the  slippages  since  2017,  should 
complement the minimum adjustment requirement in 2019. Hungary’s structural balance has 
increased by 1.6% of GDP in 2017 and by 0.3% of GDP in 2018, to 3.7% of GDP in 2018. An 
additional  effort  of  0.25%  of  GDP  in  2019  seems  appropriate  given  the  magnitude  of  the 
observed significant deviation from the recommended adjustment path towards the MTO and 
to  accelerate  the  adjustment  towards  the  MTO.  For  2020,  the  minimum  adjustment 
requirement  of  0.75%  of  GDP  seems  appropriate,  contingent  on  compliance  with  the 
requested adjustment in 2019. Given the current strong cyclical position of the economy, GDP 
growth  is  expected  to  remain  roboust  despite  the  fiscal  correction,  particularly  if  the 
adjustment is carried out in a growth-friendly manner. 

Based on the Commission forecast, the above-mentioned 1.0% of GDP strucural adjustment 
in  2019  is  consistent  with  a  nominal  growth  rate  of  net  primary  government  expenditure  of 
3.3% of GDP, in contrast to a growth rate of 6.5% projected by the Commission. In 2020, the 
0.75%  of  GDP  structural  adjustment  target  is  consistent  with  a  nominal  growth  rate  of  net 
primary  government  expenditure of 4.7%, in  contrast  to  a growth  rate of 7.3% projected by 
the Commission. 

The Commission  2019 spring forecast  projects  an improvement of the structural  balance by 
0.4%  of  GDP  in  2019  and  by  a  further  0.6%  of  GDP  in  2020.  Therefore,  a  structural 
improvement of 1.0% of GDP in 2019 and 0.75% of GDP in 2020 translates into the need to 
adopt measures of a total structural yield of 0.6% of GDP in 2019 and additonal measures of a 
structural yield of 0.2% of GDP in 2020 compared to the current baseline in the Commission 
2019 spring forecast. 

7. 

CONCLUSIONS 

On  22  June  2018  the  Council  issued  a  recommendation  for  Hungary  to  take  the  necessary 
measures to ensure that the nominal growth rate of net primary government expenditure does 
not exceed 2.8% in 2018, corresponding to an annual structural adjustment of 1.0% of GDP. 
On 4 December 2018, the Council issued a revised recommendation for Hungary to take the 
necessary  measures  to  ensure  that  the  nominal  growth  rate  of  net  primary  government 

4  “Commonly  agreed  position  on  Flexibility  within  the  SGP”,  formally  endorsed  by  ECOFIN  Council  on  12 
February 2016, available at: http://data.consilium.europa.eu/doc/document/ST-14345-2015-INIT/en/pdf 

10 

 
 
                                                 
 
expenditure does not exceed 3.3% in 2019, corresponding to an annual structural adjustment 
of 1.0% of GDP.  

In the  report on action taken in  response to  the  recommendation, the authorities retain their 
initial general government target of 1.8% of GDP despite the better-than-expected outturn in 
2018 and the more positive macroeconomic outlook. Moreover, the base effect due to a better 
2018  outturn  is  planned  to  be  fully  offset  by  the  newly  adopted  expansionary  measures  in 
2019. The Commission 2019 spring forecast projects a general government deficit for 2019 at 
1.8% of GDP, in line with the authorities’ current target. 

In 2018, the structural  deficit is  estimated to  have increased to  3.7% of  GDP from  3.4% of 
GDP. Both the structural balance and the expenditure benchmark pillars point to a significant 
deviation  from  the  recommended  adjustment  path  towards  the  MTO  in  2018.  An  overall 
assessment confims that the observed deviation in 2018 is significant.  In 2019, according to 
the  Commission  2019  spring  forecast,  both  the  structural  balance  and  the  expenditure 
benchmark  pillars  point  to  a  deviation  from  the  recommended  adjustment  path  towards  the 
MTO, which is confirmed also by an overall assessment. 

An improvement in Hungary’s structural balance by 1.0% of GDP in 2019 and 0.75% of GDP 
in  2020  would  put  Hungary  on  an  appropriate  adjustment  path  towards  the  MTO.  Such  an 
improvement  is  consistent  with  the  nominal  growth  rate  of  net  primary  government 
expenditure  not  exceeding  3.3%  in  2019  and  4.7%  in  2020.  This  translates  into  a  need  to 
adopt measures of a total structural yield of 0.6% of GDP in 2019 and additional measures of 
a  structural  yield  of  0.2%  of  GDP  in  2020  compared  to  the  current  baseline  from  the 
Commission 2019 spring forecast. 

11