Author: György Matolcsy, Governor, Central Bank of Hungary
The Silk Road is the future of globalization. The network of silk roads, One Belt, One Road is a Chinese concept, almost a philosophy. I believe that opening toward the Silk Road will give Hungary the opportunity to catch up with Austria, Baden-Württemberg or even Lombardy and Bavaria.
Edited Version of the Opening Presentation Delivered at the 54th Annual Meeting of Economists on 15 September 2016
There is a Hungarian town, Kecskemét, which had implemented its own turnaround before the national elections in 2010. It had focussed on the renewal of their approach to the local economic policy and a local tax reform. With a brave but risky decision, the leadership and the community of the town anticipated the turnaround in the economic policy and the tax reform adopted on a national level after the subsequent change of government. Kecskemét – together with a series of other Hungarian towns, within the framework of the excellent scheme of the government – is on the right track to become a modern, 21th century “Smart City”. A Smart City, the concept of which quite obviously bears the hallmark of Kecskemét. In China, twenty Smart Cities are being built. In South Korea three have already been built. The President of India has set up a scheme of establishing a hundred Smart Cities, and we, Hungarians also know that our modern towns will soon be Smart Cities.
But it is not only Smart Cities through which we can connect with the Far East. This region – and China in particular – is the answer to the question what can make domestic GDP double, what the source of the second one-hundred billion-euro gross domestic product is. For Hungary, this is not an ordinary question. How can we become rich and developed? The future of globalization assists, and the Silk Road is the future of globalization. The network of Silk Roads, since it is the Chinese concept, almost the philosophy of One Belt, One Road. I believe that opening toward the Silk Road will give Hungary the opportunity to catch up with Austria, Baden-Württemberg or even Lombardy and Bavaria.
Hungarian Healing, Greek Disease
Where are we now in the catch-up process? In terms of history and the history of economy, Hungary and the Central European region lag behind Western Europe. Hungarian GDP is €100 billion, the Austrian is €300 billion, that of Baden-Württemberg is €460 billion, the Bavarian one is €500 billion. The difference is great, and still, it is reasonable to talk about the idea of implementing a sustainable catch-up turnaround and process in the next 30 years. Sustainable catch-up is within reach, because we have avoided Greece’s path. We have chosen our own path. Mingling traditional and untraditional instruments of economics, we implemented successful crisis management and a complete turnaround of the economic policy. Without this, we would be exactly in the same situation as Greeks are.
As we were extremely similar in terms of fundamental macroeconomic problems and the signs of the crisis in the spring of 2010. Remember, the Greek financial crisis erupted then. The Hungarian financial crisis would have arisen then as well if the change of government had not intervened. But it did, and these two countries are in very different positions now. Can you remember that Greece almost left the euro, and the Eurozone almost excluded Greece? We can see that the Greek patient has not recovered ever since but we cannot talk about the Hungarian patient any more.
Where did these two countries start from, what were the common conditions? The budgetary position was extremely unfavourable in both countries, government debt sharply increased, the current account had an enormous deficit, employment was very unbalanced – owing to the poor economic policy pursued in both countries from 2003 to 2008. In addition, Hungary’s economic growth dropped below 1 % as early as in 2007-2008, that is, we were in a slightly worse situation than the Greeks were and we did not have the safety net of the Eurozone, either.
Who tried to solve the situation and how? The Greeks went down an orthodox, traditional, conventional path of economy policy forced on them by the “troika” (IMF, European Committee, European Central Bank). We chose a specifically Hungarian path, focusing on structural reforms, and we were able to preserve the autonomy of our economic policy. In Greece, they responded to the deteriorating balance with a traditional, orthodox, restriction-based economic policy, which resulted in the slowdown of growth, and later decelerating budget revenues. By contrast, in Hungary we put structural reforms in place. It triggered the growth in employment and the decrease of unemployment immediately, in August, 2010. The employment turnaround had already started when crisis management just commenced. With time, economy reinvigorated and a solid budget evolved.
These are two completely opposite paths. The path forced by the troika narrowed Greece’s room for manoeuvre. The way we chose broadened Hungary’s room for manoeuvre. Later it became obvious to everyone: in the eyes of our opponents and of our friends expressing their doubts. What did the Greeks do? They raised income tax, introduced property tax, the policy was accompanied by lay-offs and pension cuts. The minimum wage was lowered and they tried to implement privatisations. What did we do? We cut income taxes and the taxation balance was shifted to turnover and sectoral taxes. We introduced public employment and the career model. Our structural reforms were included in the first and second Széll Kálmán Plans.
I think we successfully applied this traditional instrument in our economic policy mingling traditional and untraditional instruments since all economists agree structural reforms are necessary. Yes, they are; but they do not work if restrictions are added. We avoided the social explosion with structural reforms. In the Central Bank, we regard fifty structural reforms crucial in the successful implementation of a fiscal consolidation after the political and economic turnaround. These fifty reforms are responsible for the fact that Hungary has been progressing on the Hungarian path, and not on the Greek one, and has been doing so successfully and not doomed to failure.
It is worth having a look at the data of unemployment. The Hungarian curve did not increase significantly after crisis management. The Greek figure, however, rose sharply, and the restriction-based economic policy did not manage to reduce this rate under 20%. The pace of growth had slowed in both countries before the crisis, the price of failed economic policies soon appeared. The Greek policy is still slipping further into the depth, cannot really steady itself, is near zero. Ours, although to a modest extent, is continuously in the positive range. Let us take a look at the budgetary positions: we used to be in a very similar situation in this respect as well before the crisis, then, due to two very different economic policies, we found ourselves in completely different situations in the years following 2010. We firmly keep the level of government deficit around 2 percent, which is a fantastic achievement. Hungary is one of the three best performers in the European Union regarding public debt reduction, and Greece is one of the five worst performers, despite the outstanding efforts it took to improve the situation. But the result speaks for itself!
Poland Won the Reform Competition
In conclusion, the two countries were in very worrying situations before the crisis. One of them, Hungary, left it. We managed to exceed the baseline situation in all respects, except for competitiveness. And this latter one is very important, there is a lot to learn from Poland about it. In the past 20 years, the Polish have been the best in the European Union. With their annual GDP growth of 4% lasting for twenty years, they glided, slid over the crisis of 2008-2009 and there was not a downturn. There is a reform competition going on in the entire region. The Polish are in a better position because they introduced structural reform 10 years earlier, at the beginning of the 2000s, when we indebted. What did these reforms include? With their measures, the Polish basically responded to the Agenda 2000 Programme of the German Chancellor and the did so immediately. The direction of the Polish reforms and the Hungarian transformation commencing 10 years later was the same. For example, the rates of income tax and corporate tax were lowered, the tax base was merged and simplified. The Polish won the competition between 2000 and 2010. There are two or three similar countries in the European Union, such as Germany, where the global financial crisis did not toss the economic performance into the depth.
But why had the Polish introduce the reforms ten years earlier? Because they were in a crisis then. They were motivated to the reform policy by the challenge. In line with John Maynard Keynes, we, economists recommend governments should accrue budgetary savings in a boom cycle and in times of steady growth. And that is what the Polish did: growth was strong, and they introduced a strict budget. But we did just the other way round. An upside-down economic policy – that is what Hungary had from 2002 to 2010. We lost the reform competition against Poland in the 2000s, but since then we have been standing firm.
We could present tables and graphs for each tax which demonstrate the Polish took the right step. They had taken seriously that, structural reforms should be the answer to, first, the crisis, second, the German competitiveness programme, third, the challenges posed by the countries in the region, such as the Visegrád Group. And we can draw another sad conclusion from the comparison of Poland and Hungary: the differences measurable in education. For example, the ratio of graduates in higher education has dropped 10 percentage points between the two countries in just nearly ten years. It also indicates that structural reforms shall be implemented in education as well. It is important to see that the Polish reforms did not stop despite the good results they produced. On 16thFebruary, 2016 the Polish Deputy Prime Minister announced a 25-year economic development programme of US$250 billion which will produce an investment rate over 25% and concern five main fields, including re-industrialisation.
Reform Politics After Succesful Turnarounds
Hungary implemented a fiscal turnaround, a successful budgetary consolidation from 2010 to 2013. Then, from 2013 to 2016, the Central Bank of Hungary – relying on the fiscal results of the government – implemented a comprehensive monetary turnaround. And these two resulted in a turnaround in growth. And what we still need is a turnaround in competitiveness.
Within the framework of the fiscal turnaround, we shifted the focus of tax revenues onto turnover and the consumer sector. Today, the surplus of VAT revenues derives from whitening the economy. Economy has already understood what should be done differently than before. The resources from the EU should not primarily be poured into iron or concrete, but brains and hands. It is a significant change that now 60% of the funds received from Brussels are spent on the development of the economy; it was only 16% in the previous cycle. Our credit rating has improved, although credit rating agencies do not always accept the methods we apply.
The turnaround of the monetary policy has embodied in the Funding for Growth Scheme, the cycles of interest rate cuts, the conversion of FX consumer loans into forints and the self-financing scheme. We have now added some new programmes, including a programme supporting growth. The turnaround of the monetary policy could promote approximately the half of the GDP-growth from 2013 to 2016. Thirty-four thousand micro, small and medium-sized enterprises have taken part in the Funding for Growth Scheme. Who will produce the second €100 million of the Hungarian GDP? They will, to a significant extent. And those who have not been even born. We have launched our new loan scheme, and we expect it to boost credit growth in the micro, small and medium-sized sector by 5 to 10%. It alone can increase the pace of GDP growth by 0.5 to 1 percent.
In addition, the soaring Hungarian base rate lowered to the ground, as part of the monetary turnaround. Within government debt, the ratio of loans taken out domestically has grown significantly, and the ratio of foreign currency-based loans has decreased significantly, and this process is still going on. We converted FX loans into forints, and we did so in time. We read the minutes of the European Central Bank and we became suspicious that something was going to happen in Frankfurt, that is why we brought the necessary steps forward, and took them in autumn. I thank Mihály Patai, President of the Hungarian Bank Association, on behalf of the entire Hungarian community of economists. Without him, the secret arrangement quickly putting an end to FX loans could not have been made in that foggy afternoon.
Now a turnaround in competitiveness should come. Like structural reforms, competitiveness also requires a brand new, powerful and dynamic wave of reforms, a new reform policy. If we could decrease the duality of Hungarian economy, it alone would increase the level of domestic GDP by four percent. Today there is a striking difference between productive and less productive sectors.
Silk Road: 64 Countries, Two-Thirds of World Population
It is also important that all our schemes must be prepared concentrating on three big centres of world economy. First, naturally, we must pay attention to Europe, since we are members of the European family. North America is significant. But Northeast Asia and East Asia are also significant, since new markets are created in emerging countries.
The second €100 million of the Hungarian GDP can be found in Asia. How? Through German companies? Yes. We take part in globalisation mostly through Germany. But parallel, there are other channels through which we can get to Asia. However, we should pay attention to Germany’s self-developed programme, Industry 4.0. We should consider it because China considers it. When we intend to find new markets on the Silk Road, we must study the plans of economic development and economic policy China has until 2025. It wants to build four kinds of competitive power in the market, regarding companies, strategy and talents, and highlights 10 industries, based on the German Industry 4.0 programme. We should pay attention to the world. The Chinese do so. And I suggest we should pay attention to the Silk Road because it is where the second €100 million can be achieved.
But what is this New Silk Road? It encompasses sixty-four countries, including China, two-thirds of the world’s population, and currently only 40 per cent of the global GDP. But there are development programmes ready, and the required financial institutions are available. This Silk Road will connect the participants constituting the new, 21st century phase of globalisation. It can already be seen that the network of the Silk Road consists of a northern, a middle and a southern branch. The southern branch is the railway Silk Road. There is a maritime Silk Road which is especially promising. There was no northern route on the ancient Silk Road. But there is one now, and enters the European Union through Poland.
Hungary and the Silk Road
Significance of the Budapest – Belgrade route
faster than by ship (e.g. Venice, Genoa)
the other transport routes are overloaded (e.g. passes of the Alps)
it is easier and cheaper to build and buy infrastructure satisfying the needs of China (e.g. port of Piraeus and Burgas)
they consider several routes, a safe road network
the southern centre of the East-Central European region is here
it is close to Germany, the heart of the EU
labour is more expensive in the west
Role of the Central Bank of Hungary
real economic benefits
closer financial relations
Renminbi programme of the Central Bank
PBoC agency agreement
Renminbi initiative in Budapest
But there is another interesting thing here. Medieval Hungary had already been once on the Silk Road. But opposite to medieval and ancient Silk Roads, the maritime Silk Road does not come to anchor in Venice but in Piraeus, Athens. From Asia’s and China’s viewpoint, there are three key countries in the Silk Road network heading towards Europe: Poland in the north, Greece and Hungary in the south. We could find interesting answers if we asked the question – although I do not recommend that – why the Greek and Hungarian economic policies have been attacked from 2010.
Hungary is on the Silk Road, and its location is special. Ultimately, there are two Silk Roads running through us. One of the is the southern railway route: Athens, Beograd and Budapest. The Maritime Silk Road is related to this; it arrives in Piraeus, the port of Athens, and then becomes a railway and road route. We know that transportation costs are the most important for the Chinese. Waterways are the cheapest, railway and road transport are both four times more expensive than that, and air traffic is four times more expensive than road transport. That is why maritime and railway routes play such an important role in building the Silk Roads.
Why is Hungary a key country? There are several reasons for this. For example, the fact that we are close to the heart of the EU, the German market and a Central European economic hub is really evolving, as Poland is considered one in the north. The Central Bank of Hungary has already taken the first steps on the Silk Road. We established effective cooperation with one of the largest financial institutions of the world, the Bank of China. After the United Kingdom, we were second to sign an agreement with the People’s Bank of China – China’s central bank – and since then we have been using a lot of creative, innovative instruments within this framework. We want to understand what steps they take and why, and we want to take part in this process.
Thus, Hungary is on the Silk Road. Hungary can create and find its welfare, prosperity and development in this evolving Silk Road network. The Hungarians must scrutinize the Chinese development programme the same way as the Polish scrutinized the German one.