1. Hungary: assessing the impact of the package István Hamecz Director Head of Economics and Monetary Policy Directorate

2. ESA deficit expected for 2006

3. The change in the fiscal path (2006)

4. The fiscal adjustment (2006)

5. Expected fiscal performance after the adjustments

6. Fiscal demand impact developments

7. On the expected impact 4 „pure type” ( Horváth et al, MNB Ocasional Papers 52, 2006) The standard shock makes 1% of GDP fiscal adjustment Current adjustment: Linear combination of the 4 pure shock The tool we have used: MNB NEM model –Neo-keynesian model, backward looking expectations –estimated for the Hungarian economy

8. 1. Fiscal consolidation through goods markets Cut in public consumption or investment relative large first year growth drop (0,5-0,9 multiplier) The negative impact of investment cut is smaller due to higher import content Positive but small inflationary impact: max - 0,35% after 3 years

10. 2. Consolidation through disposable income Indirect effects – tax hikes, transfer reductions –Through disposable income –Important: No supply side reactions modeled The effects „slowly” appears Smaller output loss in the short run, larger in the long run Small positive inflationary impact

12. 3. Consolidation through labour markets Reducing public employment or increasing social security contributions (SSC) Slow but strong impacts Largest long term GDP sacrifice Inflation: different in the two scenario –SSC case increases inflation –Reduction in employment decreases inflation SSC case raises a monetary policy dilemma

14. 4. Consolidation through prices or inflation (non-energy) regulated price hikes or indirect taxation indirect taxation: temporary rise in inflation and small GDP decline (non-energy) regulated price : persistent inflationary impact, larger negative long term growth impact –It raises monetary policy dilemma

16. The monetary policy dilemma Three type of adjustment from monetary policy point of view –GDP hardly change, inflation rises temporary (VAT case, 4A) –GDP and inflation both declines in the short run (1, 2) –GDP declines, inflation rises in the short run (regulated prices, SSC increase, 3, 4B) The implied monetary policy reaction –1st type: no reaction needed –2nd type: policy loosening –3rd type: ambiguous policy reactions How important is the inflation in the reaction function? How well anchored the inflationary expectations are?

17. Our preliminary quantitative assessment

18. Qualitative assessment First step to the right direction to reduce vulnerabilities Poor quality from the long term sustainability point of view –Revenue oriented –Inflationary Fiscal transparency has not improved (so far) Poor communication

19. Thank you for your attention! The views expressed here are those of the authors and do not necessarily reflect the official view of the central bank of Hungary (Magyar Nemzeti Bank).