How To Plan A Bankruptcy
By Charles McPhedranMarch 7, 2012
Hungary flatly denies suggestions the country is on the brink of bankruptcy, but that hasn’t quashed the fears of bankers, economists, neighbouring countries or the many broke Hungarians waiting to see if they will be evicted from homes they no longer can afford.
Like the rest of the continent, Eastern Europe today is economically riven - between those who have made it, in the north (think Poland and the Czech Republic), and their poorer, southern cousins. Few of the Eastern European economies were permitted to join the Eurozone. Yet very quietly, many of the countries along the Danube River, including European Union members, are nearing economic collapse.
In early February, Romanian Prime Minister Emil Boc resigned after weeks of street protests against his government.
Just like the leaders in Southern Europe's "Club Med" (Greece, Portugal, Italy and Spain), Boc was unpopular because of tough austerity measures implemented in response to a 2009 loan from the troika of the European Union, International Monetary Fund and World Bank. Days later, he was replaced by the head of Romania's external secret service, Mihai Răzvan Ungureanu.
Yet Romania may be better set up to cope with the potential effects of any possible national Eurozone bankruptcy come the northern spring than its neighbour, Hungary. US credit ratings agency Standard & Poor's has evaluated Hungary as likely to be worse affected by Eurozone attempts to pay down debt or deleverage; only Turkey was more vulnerable, says the S&P study released on March 1.
In Hungary, the Standard & Poor's assessment will weigh on Viktor Orbán's conservative government, which already is facing an economy in deep recession. With as few as 55 per cent of adults in work, an ageing population and a high level of public and private indebtedness, the country was in a funk long before the Great Recession affected the rest of Europe.
Since it took office in 2010, the Hungarian government has resisted austerity measures similar to those imposed in Romania any way it could. It let lapse an IMF refinancing program designed to continue after Orbán's party, Fidesz, won government. The party, which began as a liberal party in the 1990s, has now taken a conservative, some say populist, direction. With a two-thirds majority in parliament, the party - along with its tiny Christian Democrat coalition partner - now has carte blanche to do what it likes in Hungary. It has completely rewritten the Hungarian constitution, for example.
Fidesz's decision to buck the IMF doesn't appear to have left Hungary better off. The government is now paying up to 10 per cent on its 10-year bonds - a level considered unsustainable for governments looking to refinance. In November, the government applied for another IMF bailout.
And now, area specialists are debating whether Hungary's government is manoeuvring towards a voluntary state bankruptcy. It's a claim that not even the highest ranked international officials working in Hungary will rule out.
YOU COULD CALL THEIRS a "riches to rags" story. Attila, Judith and Petra Gyöngyösi are a nondescript Hungarian family. They live in a threadbare homeless shelter for families on the edge of greater Budapest. As Hungary's economy unwound in the mid-2000s, so too did the family's finances.
In the years before the crisis first impacted on Hungary in 2006, things were going well for the couple and their daughter. They owned their own house and co-managed a small supermarket nearby.
Their partner sold off the supermarket around the time the financial crisis worsened in 2008 - when Hungary applied for its most recent IMF bailout.
Attila ended up working as a locksmith on a project that the Hungarian National Infrastructure Development Company had contracted out.
That was in 2009. He was never paid.
"There were 51 men working on that  project. Two of them committed suicide," he says. The contractor, according to Attila, has opened a new company that again is receiving government contracts.
Meanwhile, Attila's family kept shifting flats - the cheaper, the better. But paying the rent every month grew more and more difficult.
The family handed back the keys to their last flat in December 2009, and the three have been living in shelters ever since. They share the crisis hostel in Budapest's mostly dilapidated 15th district with drug and alcohol victims, the mentally ill and feuding spouses.
"There are a lot of arguments here about petty little things. We try to stay out of them," Attila says.
"It's worst of all for the kid. She's the most psychologically affected by it. She's sick, and her condition is getting worse," he continues, declining to specify the illness from which his daughter is suffering.
The family has met "at least 500 people in similar situations" on their journey through Hungary's various homeless shelters.
Attila and Judith's story is becoming increasingly common as the European economic crisis worsens, says Gábor Keleman, a social worker at the shelter.
"As a result of the crisis...a new type [of homeless person] appeared, the once-well-to-do kind," Keleman says.
"This week a family who live in a beautiful two-room flat in a posh area knocked on our door. They have a mortgage and utilities bills that they haven't paid in months. The electricity and the gas are now switched off - the kids and their parents are wearing winter coats and boots at home," he says.
With Hungary again asking for IMF assistance, Keleman is worried that he will be overwhelmed with evictees unless a new bailout is conceded: "The banks have suspended the eviction of people who can't pay their loans [for the moment]. They are waiting to see how the IMF and EU agreements will end up."
No one - neither the IMF nor the Hungarian government - is prepared to say right now that an agreement on a new loan to Hungary will be concluded. Negotiations haven't even started; they have been delayed for months. The IMF has been objecting to new central banking regulation that it believes "calls into question the authorities' commitment to central bank independence", a spokeswoman told The Global Mail.
This lack of a bailout agreement for Hungary leaves a very large group of potential evictees waiting and hoping for one. About 500,000 Hungarian households took out loans in Swiss francs during the construction boom in the early 2000s. With the franc having risen sharply against other European currencies as the financial crisis has worsened, an unbearable number of families in the country face potential eviction.
Rather than let those mortgage holders go broke, rupturing the Hungarian economy as they do so, Viktor Orbán's government has decided try out what Zoltán Kovacs, Hungary's minister for governmental communication, describes as a form of "burden sharing".
"It was not only the population who had to assume their share of the burdens of the structural changes [the government introduced], but all other participants in the economy who, earlier, did good business and could pay their share," he says.
Orbán's decisions - what Kovács calls "structural reforms" Hungarian-style - were novel. The government imposed a 0.5 per cent tax on bank assets as early as 2010, well before the rest of Europe started considering the idea. It later fixed the exchange rate at which Hungarians were repaying their Swiss franc mortgages - although many Hungarians still have not signed up to take part in the government program.
Still, the banking reforms have caused liquidity issues at Hungarian banks, says a senior banker at an American bank in Budapest. She divides the country's banks into two categories: foreign banks, which are currently "reticent" to lend to Hungarians, and domestic banks.
"The latter group indeed lacks resources. These banks - aside from having to pay the new bank tax - now also have to pay half of the exchange rate differentials" resulting from government mortgage fixing, she tells The Global Mail.
The senior banker believes that Hungarian banks are still "covered" by their pre-crisis profits for the moment. But she concedes that in January, Hungarian savers were very worried about the potential of a Hungarian state bankruptcy. That fear threatened the liquidity of the system; early January saw large numbers of Hungarians move their savings abroad.
"The factors contributing to the bank runs were the fact that the country's debt was downgraded to junk status, the news about the IMF talks was negative and there were rumours of a default, during which - in theory - the state can confiscate people's private bank savings."
HUNGARY's banks and mortgage holders may be in difficulty. But the country's government is hardly doing financially well either.
Almost everyone The Global Mail spoke to - in the Hungarian government, independent economists and anti-government protestors - asserts that the Socialist/Liberal governments that held office for much of the 2000s left the Hungarian economy highly indebted and in recession.
"By the time we took over, the Hungarian economy and society had reached their limit after the restrictions introduced by the [former Prime Ministers] Gyurcsány and then the Bajnai governments," says Mihály Babák, a Fidesz member of the Hungarian parliament's committee on budget and finance.
Babák lists the failures he believes the socialists failed to address: "There was high unemployment, corruption, shady privatization, corruption, weakened public safety, growing extremism, rapidly increasing national debt and thus high interest rates."
After gaining office, Fidesz decided it had to pay down the national debt, then at around 80 per cent of GDP. It decided to nationalise one pillar of Hungary's pension system, its compulsory private superannuation funds.
That brought Hungarian debt down very quickly: the funds made up around 10 per cent of GDP.
But a Yale political sociologist says that may have only won the Hungarian government limited time.
Iván Szelényi believes Hungary is in much deeper trouble than anyone is willing to believe. He cites calculations estimating that the total growth potential of the Hungarian economy is 1.5 per cent.
Szelényi's hypothesis is that Viktor Orbán's Coalition government became aware after it came to power that Hungary could not overcome its high public indebtedness.
So, he argues, it came up with a highly original strategy: preparing Hungary for a voluntary state bankruptcy, what economists call a "unilateral default".
"I assume that this was at the back of their minds from day one onwards," Szelényi tells The Global Mail.
"In the very first months [of the Orbán government], Fidesz politicians were already talking about a default.
"They inherited the over 80 per cent debt and they began to realize that it would be very difficult to put [Hungary] on a growth trajectory," he says.
Szelényi believes that Fidesz may be preparing for what he calls "the Argentinian strategy": defaulting, generating inflation, devaluing the currency and making the country attractive to investors through a competitive exchange rate.
In his view, the only thing that is left to be decided is the date - he believes Orbán's government wants to ensure the timing of any default is as politically advantageous as possible.
That view remains a "minority" position among specialists, according to one economist working at Budapest's Central European University.
Zoltan Adam says the Hungarian government "could have been considering that strategy, but they are not doing that - they have opted for an IMF-EU loan strategy".
And the Hungarian government flatly denies Szelényi's claims.
However, the continued speculation about a possible Hungarian default will alarm Eurozone leaders, because Italy's banks - already facing problems due to the euro crisis - are highly exposed to Hungary.
Neighbouring Austria, meanwhile, would be even worse affected by a Hungarian bankruptcy.
In January, despite Austria's healthy domestic economy, the country was downgraded by ratings agency Standard & Poor's.
The agency cited the situation in Hungary as one of the factors influencing its decision.
Erika Teoman-Brenner is the Austrian trade representative in Hungary. She's worried about the consequences of a Hungarian default for Austria:
"If all of the payments stopped - including the public payments - if there were no longer contracts being made, if there wasn't any [money] coming from infrastructure development, if domestic demand collapsed, it would affect our economy very badly indeed."
With a default possible in both Greece and Portugal this northern spring, it isn't just Rome and Vienna which are praying that Yale professor Szelényi is wrong. A Danube default would add to the financial chaos in Europe right now. It's the last thing Brussels needs.