Emerging Europe

Hungary’s central bank seizes bold strategies

Danny Hakim

Few central bankers are as quotable as Gyorgy Matolcsy.

There was the time Mr. Matolcsy, head of Hungary's central bank, said, "Hungarian tribes 1,500 years ago were well known for their three unique skills: brain surgery, hospitality and gastronomy." Or when, echoing the views of a Korean economist, he wrote that "the telegraph and the washing machine have made a real revolution in society," but "the Internet hasn't." Or when he proclaimed that the Hungarians and the Japanese are related because some of their babies have red dots on their backsides.

Photographer | Collection | Getty Images

His policies are equally unorthodox.

Having previously served as economics minister, Mr. Matolcsy is the financial architect of the populist and autocratic Fidesz party, which consolidated its power in elections this past Sunday. The government, led by Prime Minister Viktor Orban, has promoted the nation's improving economic outlook, falling unemployment rate and easing deficit.

But critics have assailed Mr. Matolcsy for his initiatives as central bank chief and economics minister, and wonder whether they will catch up to Hungary in the long run — and undermine the democratic ideals and free markets that are supposed to underpin the European Union.

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Some recent policy moves have recalled economic missteps that have come back to haunt other emerging markets. Confiscating private pension assets. Depreciating the currency. Imposing price controls in the banking and energy sectors. Weakening institutional checks and balances. Fostering a favored class of insiders and antagonizing foreign corporate interests.

Mr. Matolcsy's appointment in March 2013 was itself contentious. Mr. Orban had described Mr. Matolcsy as his "right hand," prompting concerns the central bank was coming under political control after clashes between the government and Mr. Matolcsy's predecessor. Shortly after he took over, a vice governor resigned, criticizing the bank's waning independence, and there have been reports of tensions with the European Central Bank.

Questions about Mr. Matolcsy's conduct have persisted. A recent book written by his former chief of staff claimed that he tipped off Goldman Sachs bankers, during a lunch in 2011 when he was economics minister, that Hungary was set to begin negotiating a bailout package with the International Monetary Fund; news of the negotiations would later set off a rally in the Hungarian forint. According to a translation of one passage in the book, "the butter knives froze in the hands of the guests." One of the Goldman employees quickly hurried off to the bathroom, and shortly thereafter the group abruptly excused themselves from the lunch.

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Mr. Matolcsy initially praised the book, and later disavowed it after it became a lightning rod. A Goldman representative declined to comment.

As a central banker, Mr. Matolcsy has been best known for aggressively cutting rates, even after the forint fell to a two-year low against the euro in February. The latest rate cut, to 2.6 percent, a record low, came on March 25 and was the bank's 20th straight rate cut. This has helped make exports competitive. But it has put many people who borrowed before the global financial crisis in euros or Swiss francs, which were often available at cheaper rates, in an even deeper bind than they were already.

Mr. Matolcsy, for his part, is not eager to make a case for his policies.

Since taking over the central bank, he has curtailed interactions with the news media. Tourists cannot even step inside the lofty 109-year-old central bank building, an edifice in the late classical style adorned with commerce-themed limestone reliefs.

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"Visitor center and museum closed," a security guard said on a recent visit. "All year."

The central bank would not make Mr. Matolcsy, or anyone else, available for an interview. But the Orban government did comment.

Ferenc Kumin, a spokesman for the Orban administration, said, "Growth has rebounded in each and every economic sector in Hungary," adding that output grew by 1.2 percent last year and the unemployment rate was falling.

"Economic growth and improved employment in turn result in higher incomes, which are expected to fuel household consumption in the future and, simultaneously, to improve the state's fiscal balance," he said.

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Indeed, Hungary's economy came out of recession last year, and the rating agency Standard & Poor's, which upgraded Hungary's outlook to stable last month, also raised its output growth forecast to an annual average of 1.8 percent through 2016.

Still, Hungary has its challenges, like many other European Union members. Output is still below its 2008 peak and the country is suffering from the low inflation rates that are hampering growth across much of Europe. It has the highest amount of debt in Eastern Europe.

And steps forward often come with an asterisk. Unemployment, at 8.6 percent, is below the euro zone average, but Hungary has lifted its numbers by counting temporary workers employed at below minimum wage, and by counting Hungarians living abroad. More than half of the people added to the employment rolls since 2010 fall into these categories, the government said.

Gergely Tardos, an analyst at OTP Bank, Hungary's largest bank, said Mr. Matolcsy's "governorship is seen as controversial," but said it would take years to judge him as a central banker. Critics, he said, have said Mr. Matolcsy "does not embody the archetype of an independent and conservative central banker."

"However, until now his critics' fears have not come true and neither have the risks" attached to many of his policies, he added.

As economics minister, his policies tended to favor the wealthy. Fidesz introduced a flat tax, did away with income tax credits for the poor and increased consumption taxes.

Zoltan Csefalvay, a senior official in the economics ministry, defended the state's approach.

"Our policy is not to punish those who are working hard," he said. "From the first forint you earn you have to pay 16 percent. In Hungary it's important that everybody should pay."

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Others see it differently.

Andrea Gal, who lives in a woodland homeless encampment in a less august part of Budapest, said the government's new flat tax meant that her boyfriend, who does temporary work for the state, has to pay thousands of forints every month to the government, leaving them with only 50,000 forints a month, or about $221, to live on, along with whatever she can earn from collecting old beer cans.

"That's enough for nothing," she said.

She was sitting on her bed in a shack filled with smoke from a makeshift barrel stove; a handgun hung on a wall behind her, testifying to the danger of such a life. Trash was strewn in the woods all around, while her three dogs, Linda, Futyi and Kocos, napped after barking vigorously at a group of visitors.

Data from Tarki, a Hungarian research and polling firm, shows that income inequality has risen since Fidesz came to power, after decreasing over the previous decade. But it is unclear how much is attributable to the financial crisis and how much to government policies like those instituted by Mr. Matolcsy.

"We do have a hypothesis that the changes in the personal income tax system that Fidesz has introduced contribute to increasing inequality," said Marton Medgyesi, a senior researcher at Tarki. "Their new system is less progressive and broadly a flat tax system, and of course this benefits those with higher earnings because they have to pay lower taxes now than before."

Hungary is unlikely to change course. As Mr. Orban put it after the election, "We received a clear and unquestionable mandate to continue what we started."