This Selected Issues paper on Hungary describes the main factors behind the evolution of output in Hungary since 1990, and examines Hungary’s future growth prospects with specific focus on the role that structural and macroeconomic policies can play in enhancing those prospects. In this paper, the shortfall in growth relative to the other advanced transition economies is attributed to relatively slow progress with macroeconomic stabilization, stalled structural reform between 1993 and mid-1995, and specific features in the design of Hungary’s reform program. The paper also analyzes debt dynamics in Hungary.


This Selected Issues paper on Hungary describes the main factors behind the evolution of output in Hungary since 1990, and examines Hungary’s future growth prospects with specific focus on the role that structural and macroeconomic policies can play in enhancing those prospects. In this paper, the shortfall in growth relative to the other advanced transition economies is attributed to relatively slow progress with macroeconomic stabilization, stalled structural reform between 1993 and mid-1995, and specific features in the design of Hungary’s reform program. The paper also analyzes debt dynamics in Hungary.

V. Banking Sector Issues78

93. Hungary’s financial system is still dominated by the banking sector, despite rapid growth in the securities and equity markets. Within the banking sector, a remarkable transformation has taken place since the establishment of the two-tier banking system in 1987. Burdened by an inheritance of nonperforming loans, and coupled with inadequate prudential regulations and lax supervision, the health of the large state-owned banks deteriorated further in the early 1990s following the output decline that accompanied the transition process. Nonetheless, numerous small (mainly foreign or jointly-owned) banks were able to compete successfully in this environment owing to their greater efficiency and the absence of a bad-loan burden, by skimming off the more profitable clients of the state-owned banks. Against this background, a costly series of state-financed operations were undertaken during 1992–94 to reduce the volume of nonperforming loans and to recapitalize the large state-owned banks. This chapter focuses on developments in the banking sector since the implementation of the consolidation and recapitalization programs, which laid the foundation for the recent extensive privatization of the banking sector.79

A. Structural Changes in Bank Lending and Deposits

94. Financial innovation, capital market liberalization, the heavy tax burden on banking activities (including through reserve requirements), and heightened macroeconomic uncertainty have contributed to a number of structural changes in the banking sector over the past four years, including a drop in the real level of bank credit and private savings in banks, an increased share of domestic bank credit absorbed by the enterprise sector at the expense of households, and a decline in banks’ maturity transformation ratio. In 1996, the real decline in domestic banking activities was partially reversed in response to a drop in intermediation spreads and the improving financial position of the corporate sector.

95. Between 1993 and 1995, real credit provided by domestic banks (excluding credit provided by the NBH) fell by 20 percent, while real deposits and bank-issued securities held by the private sector (noncash M3) declined by 10 percent (Tables 8 and 9). During the same period, the stock of outstanding discount treasury bills increased from 12 percent of noncash M3 to more than 25 percent. Although some banking sector disintermediation would be expected from the introduction of non-bank-issued financial instruments, disintermediation was hastened by the heavy taxation of banking activities through the imposition of high reserve requirements (which peaked at 17 percent in 1995), coupled with low rates of remuneration (especially on reserves accumulated against forint-denominated deposits). As a result of these regulations, during 1993–95 banks forewent interest of 3–3½ percentage points on their forint liabilities by holding mandatory reserves rather than Treasury bills (Figure 21). Following the decline in the burden of reserve requirements and the overall improvement in macroeconomic conditions in 1996, banks’ lending and deposit-taking activities began to recover, with noncash M3 and bank credit rising in real terms by 3½ percent and 1¼ percent, respectively, with a particularly strong acceleration since the second half of 1996 of credit to enterprises (Figure 1 of the main report).80

Figure 21.
Figure 21.

Hungary: Opportunity Cost of Reserve Requirements 1/

Citation: IMF Staff Country Reports 1997, 103; 10.5089/9781451817836.002.A005

Sources: NBH monthly bulletin and staff calculations.1/ Reserve ratio times the difference between the yield on a 3-month T-bill and the remuneration rate on mandatory reserves held against forint-denominated liabilities.

96. Credit allocated by domestic banks to all sectors of the economy declined in real terms during 1993–95 (Table 8). Credit to the corporate sector, which accounted for about 50 percent of total bank credit, contracted by more than 15 percent. The decline in domestically-sourced corporate credit, which occurred in the context of capital account liberalization, was triggered by the large intermediation spreads of domestic banks (Figure 22), which made foreign financing relatively cheap. This tendency was reinforced in 1995 with the reversal of the foreign interest differential following the introduction of the crawling peg exchange regime (Figure 23), which made borrowing in foreign exchange relatively cheaper. As a result of these factors, and the strong presence of foreign companies in Hungary, the share of corporate credit sourced abroad increased from 24 percent in 1993 to 44 percent in 1995 (Figure 24 and Table 10).81 With the decline in domestic bank intermediation spreads in 1996, domestic bank lending to enterprises recovered rapidly. Moreover, reflecting the lower cost of borrowing in foreign currencies, domestic bank lending to enterprises denominated in foreign exchange increased more rapidly than lending in forint. As a result, foreign currency credits accounted for nearly 30 percent of domestic bank-allocated corporate credit in the first five months of 1997, up from less than 10 percent in 1993.

Figure 22.
Figure 22.

Hungary: Intermediation Spread 1/

(3-month moving average)

Citation: IMF Staff Country Reports 1997, 103; 10.5089/9781451817836.002.A005

Source: NBH Monthly Bulletin.1/ On loans and deposits of less than one year.2/ BB, MHB, K&H, and MKB.3/ Weighted average of all loans and deposits.
Figure 23.
Figure 23.

Hungary: Interest Differential on Forint Denominated Assets 1/

Citation: IMF Staff Country Reports 1997, 103; 10.5089/9781451817836.002.A005

Source: Staff calculations.1/ 12-month t-bill relative to German interbank rate, assuming a 1.0 percent monthly rate of crawl for the forint after August 15, 1997.
Figure 24.
Figure 24.

Hungary: Composition of Corporate Credit

(in percent)

Citation: IMF Staff Country Reports 1997, 103; 10.5089/9781451817836.002.A005

Source: National Bank of Hungary.
Table 8.

Hungary: Bank Credit to the Nonbank Sector, 1993–97

(In billions of forint; end of period)

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Source: NBH Monthly Report, various editions; data provided by the NBH; and staff calculations.

Including banks’ holdings of government securities.

Table 9.

Hungary: Banking Sector Liabilities, 1993–97

(In billions of forint; end of period)

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Sources: NBH Monthly Report, various editions; data provided by the NBH; and staff calculations.

Enterprise foreign exchange deposits increased temporarily in December 1993 due to the privatization of MATAV. In November 1993, enterprise foreign currency deposits were FT 86.2 billion.

Table 10.

Hungary: Composition of Corporate Credit, 1993–97

(In billions of forint, end of period)

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Sources: NBH Monthly Report, various editions; and staff calculations.

Including intercompany loans.

97. As to the sectoral allocation of bank lending, the share of government credit was relatively stable at around 35 percent during 1993–96, reflecting banks’ desire to reduce the riskiness of their loan portfolios by maintaining the share of lower risk public sector lending despite sharply lower real yields (Figure 25). With respect to the enterprises, an acceleration in real activity and a recovery in profitability beginning in 1995, led to increased credit demand by this sector, which was satisfied from both domestic and foreign sources. As a result, the share of corporate credit in total bank credit rose from 47 percent in 1993 to 51 percent in 1996. The share of corporate credit expanded rapidly in 1997, reaching almost 60 percent by May, and crowding out the government sector. As to households, their share of bank credit declined slowly from 15 percent to 8½ percent, reflecting limited provision of mortgage financing following the termination of the state-subsidized housing loan scheme in 1991. The establishment in 1997 of three mortgage lending institutions is expected to relieve the credit constraints facing the household sector. With respect to the liability side of banks’ balance sheets, an increase in the range of nonbank savings instruments (including Treasury bills and government bonds) and improved marketing of these instruments contributed to a real decline in private sector bank deposits and bank-issued securities between 1993 and 1996. Reflecting the wider array of financial assets available to enterprises, corporate deposits fell by 20 percent in real terms.82 In contrast, real household savings held in banks increased slightly during this period, as the domestic banking system maintained its position as the primary depository for household financial savings (Table 11). This was due in part to the regional monopolies held by the National Savings Bank and the 250 savings cooperatives, and to the relatively high per unit transaction cost associated with purchases of government paper.83

Figure 25.
Figure 25.

Hungary: Sectoral Allocation of Bank Credit

(in percent)

Citation: IMF Staff Country Reports 1997, 103; 10.5089/9781451817836.002.A005

Source: National Bank of Hungary.
Table 11.

Hungary: Household Financial Savings, 1993–97

(In percent; end of period)

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Sources: NBH Monthly Report, various editions; and staff calculations.

98. As to the currency composition of bank deposits, the share of household savings at banks denominated in foreign currency increased from 22 percent at end-1993 to 30 percent at end-1995, as households attempted to preserve the real value of their savings in the context of moderately-high inflation and foreign interest differentials that discouraged forint saving (Figure 26). The share of corporate deposits held in foreign exchange increased sharply in 1995 as enterprises were permitted (from April 1995) to retain their export proceeds in bank deposits, thereby avoiding the surrender requirement. This change was intended to encourage enterprises to repatriate foreign exchange earnings, rather than hold them offshore. The proportion of household and enterprise deposits in foreign exchange has since declined, reflecting the growing credibility of the crawling peg exchange system and (in the case of households) the relaxation of controls on the purchase of foreign exchange.

Figure 26.
Figure 26.

Hungary: Currency Composition of Non-cash M3

(in percent)

Citation: IMF Staff Country Reports 1997, 103; 10.5089/9781451817836.002.A005

Source: National Bank of Hungary.

99. The willingness of banks to engage in maturity transformation declined over the past four years. Less than 29 percent of short-term enterprise and household deposits and bank securities were transformed into loans in excess of one year in 1996, down from 39 percent in 1993. This may reflect improvements in banks’ lending practices, which have reduced the tendency for “automatic” long-term lending to unviable enterprises. In addition, banks’ ability to assess the creditworthiness of potential clients, especially start-up firms, may not be fully developed yet, leading to greater caution in extending long-term credits. Finally, uncertainty about the pace of disinflation may have discouraged banks from locking-in long-term interest rates on loans when the majority of deposits are short term.

B. Market Structure, Competition, and Specialization

100. Despite several mergers and license revocations, the number of banks operating in Hungary declined only slightly from 43 in 1993 to 42 at present (Table 12).84 Seven of these banks have a market share (measured in terms of total assets) in excess of 4 percent, and 10 have a market share between 1 and 4 percent, little changed from several years ago. Five of the seven large banks are remnants of the monobanking system, which was disbanded in 1987.85

Table 12.

Hungary: Number of Financial Institutions by Type, 1990–96

(End of period)

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Source: National Bank of Hungary.

101. Market concentration in Hungary’s banking system continued to decline over the past four years, with the market share of the seven large banks falling from nearly 80 percent in 1993 to 70 percent in 1996. The main beneficiaries were the medium-sized banks, which have seen their market share expand by 8 percentage points to more than 19 percent of total assets. The National Savings Bank (OTP) remains the largest bank, having maintained its share of total assets at around 30 percent, largely reflecting its continued branch monopoly in the regions of the country. In terms of nonbank deposits, the share of the five largest banks remained around 60 percent between 1992 and 1996, while that of the next five largest banks increased from less than 10 percent to 16 percent over the same period. Competition in retail banking remains limited, and the large retail banks (notably OTP and Postabank) still account for more than 80 percent of household deposits. A factor behind the continued dominance of these banks is the relatively high cost of establishing a branch network.86

102. The activities of each of the large banks remain highly specialized in either retail, commercial, or foreign-trade related banking. While Postabank and the savings cooperatives are significant in the retail market, OTP remains dominant in deposit taking, reflecting the fact that it owns about 40 percent of the entire branch network. As a result of this liquidity segmentation, OTP retained its systemic position as the major source of funds for the interbank market, while the large commercial banks remain the main borrowers in the market. Nevertheless, improved access to foreign credit by Hungarian banks has tended to weaken commercial banks’ reliance on the OTP.

103. The increase in foreign ownership of the banking system—especially of medium-sized banks (see next section)—has led to heightened competition in corporate banking. Large commercial banks (including the recently privatized banks) have seen their share of corporate loans decline by nearly 10 percentage points between 1993 and 1996, to 62 percent, whereas the proportion of corporate loans provided by medium-sized banks has risen by the same amount to 27 percent. Competition among banks for elite corporate clients (including multinationals and large Hungarian firms) has been very active, leading to a sharp drop in intermediation spreads from over 9 percent at end-1993 to about 4 percent at end-1996 (Figure 22).87 Spreads at large commercial banks have consistently remained above those at other banks reflecting, inter alia, a less aggressive approach to attracting corporate clients and higher operating costs. More recently, however, the margin between spreads at large commercial banks and other banks has narrowed considerably, which could reflect a more forceful approach to competition by the banks’ new foreign owners. Moreover, increased competition has contributed to a greater pass-through of changes in money market rates to lending rates in all banks.88

C. Ownership Structure and Privatization

104. Over the past four years, foreign ownership in Hungary’s banking sector increased substantially. While the number of foreign or jointly-owned banks rose only from 28 in 1993 to 31 in 1996 (out of a total of 42 banks), the share of bank assets under foreign or joint ownership increased from less than a third to over three quarters, reflecting the privatization of several large state-owned banks. Moreover, the share of foreign registered capital reached 50 percent, up from 12 percent in 1993.89

105. The increase in foreign ownership is attributable to several factors: privatization of state-owned banks to foreign owners; exit of Hungarian-owned banks and establishment of new foreign-owned financial institutions in Hungary; and foreign banks raising their equity capital at a faster rate than Hungarian-owned banks. With respect to the first factor, privatization of majority stakes in the large and medium commercial banks was carried out through strategic foreign investors in order to raise banking efficiency and to meet internationally-based prudential regulations, and is the most important factor accounting for the increase in foreign ownership.90 As a result, nearly two fifths of bank capital is currently held by foreign banks (as opposed to foreign institutional investors).91 Foreign investors were attracted to Hungary’s commercial banks in order to meet the demand for banking services from foreign firms operating there, to establish a platform for operations in the region, and to tap the underdeveloped retail banking market. The relatively rapid increase in equity in foreign-owned banks is due in part to the requirement in several of the privatization agreements that foreign strategic owners inject new capital into the banks.92

D. Bank Soundness, Profitability, and Supervision

106. The quality of banks’ portfolios improved substantially over the past four years. While in 1993, 28½ percent of loans were classified as problematic and more than 13 percent were classified as bad, at end-1996, these ratios had fallen to 11½ percent and 3 percent, respectively (Table 13).93 Several factors contributed to this turnaround. Bank recapitalization and loan consolidation schemes carried out in 1993–94 replaced banks’ non-performing loans with government paper and injected sufficient capital to enable banks to fully provision against, and subsequently write-off, a large part of their problem loans.94 Second, foreign owners instituted more prudent lending practices, and state-owned banks were required to implement restructuring programs in order to participate in the recapitalization schemes.95 Third, increased profitability in the enterprise sector tended to improve the outlook for corporate loans.

Table 13.

Hungary: Banks’ Loan Portfolios, 1991–96 1/

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Source: National Bank of Hungary; and staff calculations.

From December 1993, includes savings cooperatives.

Prior to loan consolidation.

After loan consolidation.

According to 1991 classification rules.

According to 1993 classification rules.

107. Reflecting the improvement in loan quality, banks at present are required to hold fewer specific risk provisions.96 As a result, at end-1996 the level of banks’ specific provisions declined to 3½ percent of total loans (one third of classified loans), from 15 percent of total loans (half of classified loans) at end-1993. However, while the current level of risk provisions satisfies minimum prudential requirements, it falls short of the upper bound of existing provisioning requirements (see footnote 18) by about 14 percent of classified loans (Ft 64 billion).97

108. In contrast to their management of specific risk, Hungarian banks have tended to adopt a more cautious approach to systemic risk, holding general reserves well in excess of the level required to achieve the minimum mandated 8 percent risk-weighted capital adequacy ratio (CAR) (Table 14). Moreover, the average CAR has continued to increase steadily, rising from 11½ percent in 1993 to nearly 19 percent in 1996. Reflecting the impact of bank recapitalization, the CARs of large banks almost doubled in 1994 from below the minimum required level. Small and medium-sized banks have tended to maintain higher-than-average CARs.

Table 14.

Hungary: Banks’ Risk Weighted Capital Adequacy Ratios, 1993–96

(End of period; in percent)

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Source. National Bank of Hungary.

Market share (measured in terms of balance sheet total) exceeds 4 percent for large banks, is between 1 percent and 4 percent for medium-sized banks, and is less than 1 percent for small banks.

109. Several factors explain the tendency to maintain CARs in excess of the minimum required level. First, the 8 percent “Basle Capital Accord” rule may not be sufficient in transition and developing countries (including Hungary), which have less stable macroeconomic environments. Second, according to the Bank of International Settlement’s (BIS) accounting rules, government paper is accorded a zero-risk weighting. Large commercial banks, in particular, hold a large stock of long-term, fairly illiquid government paper which they acquired during the bank recapitalization program. Owing to the relative illiquidity of these assets, a higher risk weighting could be applied, thereby lowering the effective CAR. Moreover, with the decline in yields on government paper, in the near future banks may choose to switch their assets to corporate loans (this trend is already apparent in the first five months of 1997), which carry a 100 percent risk weighting, again tending to lower CARs. Third, banks require a large amount of capital to finance their risky expansion into the retail sector.

110. The profitability of the banking system improved markedly during 1993–96, when after tax profits increased to Ft 67 billion from a loss of Ft 154 billion,98 and return on assets increased monotonically by nearly 8 percentage points (Table 15). The turnaround in profitability was due primarily to improvements in loan quality: The cost of accumulating specific provisions within a given year declined by more than 7 percent of total assets, while net revenues from reducing previously accumulated provisions rose by 1 percent of total assets. In contrast, the contribution from net interest income was quite modest overall. Prior to 1996, however, growth in interest income outpaced that of the income base, (also a reflection of improvements in loan quality). More recently, increased competition contributed to an erosion in intermediation spreads, and a decline in the net interest earnings ratio.

Table 15.

Hungary: Banks’ Profit Accounts, 1993–96

(As percentage of average total assets)

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Source: NBH Annual Report, various editions; and staff calculations.

111. Despite the increase in private sector ownership and anticipated productivity improvements, the costs of banking operations have shown little improvement. The ratio of operating costs to net interest income and revenues from fees and commissions remained around 50 percent in 1993–95, and increased to 56 percent in 1996, while as a share of total assets, operating costs have risen continuously.99 The persistence of high cost ratios comes despite a 7 percent reduction in financial services employment between 1994 and 1996, and reflects the tendency for relatively high wage increases in the financial sector (relative to the rest of the economy). In addition, however, cost increases also reflect the improvement in the quality and the increase in the range of services offered by banks. Large upfront expenditures on much-needed technology upgrading and the installation of a network of automatic teller machines also reduced profitability, but these costs should be recoverable through future productivity improvements. A major factor in banks’ costs in 1996 was the extension of branch networks. However, it is unclear whether future profitability in the sector as a whole will increase sufficiently to compensate for these added expenditures since customers may only be diverted from other banks, with no increase in total banking services provided.

112. Against a background of improved portfolio quality and greater bank profitability, supervision of the banking system was nonetheless inadequate prior to the adoption of a new Banking Law on January 1, 1997. The deficiencies of the previous system were due primarily to the fractured nature of supervision and to a severe shortage of resources. Under the previous system, responsibility for bank supervision was divided somewhat arbitrarily between the State Banking Supervision (SBS) Agency and the NBH. Moreover, the securities operations of banks’ subsidiaries were supervised by a separate agency, thereby precluding a consolidated approach to the supervision of financial institutions. These problems have been remedied under the new Banking Law by merging the two supervisory bodies to form a unified agency capable of supervising a universal-type banking system. In addition, the supervisory responsibilities of the NBH have been restricted to those areas related to the operation of monetary policy and the foreign exchange system.

113. Banking supervision also suffered from a serious shortage of qualified technical staff, due to insufficient revenues from fees collected from banks and the fact that employees were covered by the civil service pay scale. As a result, staff turnover was extremely high as employees of SBS left for better-paying jobs in private financial institutions. In addition, owing to inadequate funding, SBS was unable to contract sufficiently with external auditors to fully compensate for its own staff shortage.100 As a result, bank audits were carried out infrequently, and on an ad hoc basis, with many banks never having undergone a comprehensive audit. The new banking law addresses these problems by exempting staff of the supervision agency from the civil service pay scale—thereby enabling the agency to match private sector salaries—and raises the fees the agency levies on banks.101 Concurrent with the improvement in funding, the new Law requires the supervision agency to perform continuous off-site inspections and to undertake on-site examinations of each bank and savings cooperative at least once every other year. However, a note of caution is warranted: These changes are quite recent, and thus their effectiveness has yet to be fully tested in the field.

E. Conclusions

114. Over the past four years the Hungarian banking sector has undergone a dramatic transformation. The heavy burden of nonperforming loans has largely been eliminated, the majority of the sector has been privatized, largely through strategic foreign investors, and competition in corporate banking activities has strengthened. While profitability has improved on average, the banking sector will face a new set of challenges in the future brought on by greater competition. These challenges will arise from the greater inroads into household banking by the nontraditional retail banks, the increase in banks’ exposure to the more risky segments of the economy in response to the saturation of the market for elite corporate clients, and the greater capital and financial market liberalization agreed in the context of OECD membership. These changes may well portend a further round of consolidation in the banking sector within the next few years.


Prepared by Rachel van Elkan.


For a more extensive discussion of earlier developments in the banking sector, see SM/95/51, March 15, 1995.


However, this recovery in banking activity was interrupted by a run on Postabank in early March. As a result, during the first five months of 1997, real non-cash M3 declined by 6 percent.


At end-1996 nearly a quarter of foreign credit was due to loans from foreign parent companies to their Hungarian subsidiaries.


The decline in corporate deposits accelerated sharply in the first half of 1997, as firms drew down their savings to finance their investment needs.


The role of banks as a depository for personal savings will be buoyed beginning in 1998 when wages of public sector employees will be transferred automatically to bank accounts.


Reflecting Hungary’s liberal licensing regulations and the initially under-banked nature of the economy, the number of banks in Hungary increased sharply from 20 in 1990 to 35 in 1993. Most of these new institutions were foreign or jointly-owned small or medium-sized banks. A new Banking Law, which came into effect on January 1, 1997, tightened regulations for bank licensing and imposed more stringent requirements on the qualifications of bank managers and members of the board. In particular, banks must hold at least Ft 2 billion in registered capital (double the previous minimum requirement which was set in 1991, and whose value has been substantially eroded), and the previous one-step automatic licensing process has been replaced with a two-step application for establishment and operation, which must be approved by the Banking and Capital Markets Supervision Agency.


The National Savings Bank (OTP) and the Foreign Trade Bank (MKB) existed under the previous system to collect household savings and to provide foreign-exchange related services, respectively. The other three banks that are remnants of the monobank system were established to assume the commercial banking activities of the NBH. The loan portfolio of the NBH was allocated to these banks on a sectoral basis, with the loans of the Credit and Commercial Bank (K&H) concentrated in agriculture, those of the Hungarian Credit Bank (MHB) concentrated in the chemical and machine-building sectors, and those of Budapest Bank (BB) concentrated in the coal mining and construction sectors. At present, the other two large banks are the retail-based Postabank, established in 1988 with the post office and the Ministry of Finance having the largest stakes, and the NBH and foreign-owned Central-European International Bank (CIB), established in 1979. Until 1997, CIB operated as an offshore bank and therefore was not strictly part of the domestic banking system.


While there are no legal restrictions on the establishment of branches by banks already operating in Hungary, the costliness of establishing such a network has so far acted as a constraint on competition. This said, the establishment by non-traditional retail banks of home banking facilities and automatic teller machines, which obviate the need for a costly retail network, are expected to undermine the existing regional retail banking monopolies. Competition in the banking sector will be further enhanced from 1998 when foreign-operated offshore banks will be permitted to open branches in Hungary without having to establish expensive local headquarters facilities.


Also contributing to the drop in intermediation spreads is the improvement in the quality of loan portfolios (see Section 4), which reduced the need to generate provisions out of net interest income.


Cottarelli (1997) finds that in Hungary the impact effect on, and subsequent pass through to, bank lending rates from a change in Treasury bill yields is higher in the period since January 1994 than during January 1989 and May 1993. (See Disinflation in Central and Eastern Europe, IMF, mimeo, 1997).


Owing to the 1993–94 state-financed bank recapitalization program, the share of bank capital owned by the state (defined as the Ministry of Finance, the privatization agency, and the social security funds) rose from 40 percent in 1992 to nearly 70 percent in the following year. With the privatization of the recapitalized banks, this share declined to 33 percent in 1996. (See SM/95/51 for details of the recapitalization program.)


Prior to 1995, the state maintained effective control of the five large banks which formed the basis of the domestic financial system. Bank privatization accelerated in 1995, with the privatization of Budapest Bank and the partial sale of the National Savings Bank (OTP). In the following year, privatization of the Foreign Trade Bank was completed and Magyar Hitel Bank was sold. The privatization of a minority share of Kereskedelmi & Hitel (K&H) Bank was concluded in July 1997.


In contrast, a minority holding in the National Savings Bank was privatized through public share offerings, primarily to foreign financial investors.


Plans are underway to eliminate the state’s legally-mandated permanent shareholding in OTP from the current 25 percent plus 1 vote, following approval of an amendment to the Privatization Law. With the privatization and related equity injection in K&H, the state (as defined in footnote 10) will not hold a majority interest by the end of the year in any of the large banks inherited from the monobank system. However, due to a capital increase in Postabank in mid-1997, the state boosted its interest in the bank to over 50 percent.


Among banks that participated in the recapitalization program, the share of loans classified as problematic fell from 40½ percent in 1995 to 30 percent in 1996, with a larger percentage decline in doubtful and bad loans.


The amount of government bonds issued to banks by end-1994 for recapitalization or to replace their non-performing loans was equivalent to more than 100 percent of banks’ bad, doubtful, and substandard loans.


The effectiveness of these commitments was, however, weakened by the absence of quantitative performance targets, and sanctions for noncompliance. These so-called “consolidation agreements” were replaced in 1995 with pre-privatization plans that corrected the earlier deficiencies.


Current regulations require banks to provision against classified loans as follows: 0–10 percent, 11–30 percent, 31–70 percent, and 71–100 percent against their to be watched, substandard, doubtful, and bad loans, respectively.


In addition, banks are required to provision against their off-balance sheet items. Due to the rapid growth in contingent and future liabilities, the size of off-balance sheet items increased from less than 10 percent of the balance sheet total in 1993 to over a quarter in 1996.


Four banks suffered losses in 1996, amounting to a total of Ft 1.7 billion.


This increase was observed in both state-owned and private banks.


Although faced with a staff ceiling of 120, the average number of staff at SBS in 1994 was only 101.


In addition, the staff ceiling was raised to 260.

Hungary: Selected Issues
Author: International Monetary Fund