Protests Against PM Continue in Hungarian Capital

More than 150 people were injured last night (18 September) as thousands protested in the capital, Budapest, and the state television building was stormed amid demands that Prime Minister Ferenc Gyurcsany resign. The demands followed the leaking of a tape of the Prime Minister at a Socialist (MSZP) party meeting in May, shortly after the government's re-election in April. On the tape, Gyurcsany enlarged on years of inactivity by the government, explicitly saying the electorate had been lied to (see Hungary: 18 September 2006: Re-Elected PM Admits Lying to Win Over Hungarian Public, Damning Tape Reveals). Police restored order in the early hours of the morning, but not before broadcasts had been disrupted, cars burnt and the first violent protests since the end of the former communist regime had been witnessed. Protests began in the capital over the weekend, when around 1,000 mainly anti-government youth protestors turned to demand that Gyurcsany resign. However, a strong message of support from the party, and a swift response from the Prime Minister's office tempered the news initially. This included a reprimand to those who drew comparisons to the spontaneous 1956 uprising that was crushed by the Soviet regime.

Yesterday, minor protests took place across the country, but the largest was seen in the capital. The situation escalated last night, reportedly when a small group of protestors who had been waiting outside parliament with a petition tried to hand it in, but clashed with riot police. As police pulled back, the state television building was stormed, and has apparently been looted. While it took some time to restore control of the building, this morning Prime Minister Gyurcsany was adamant that all measures necessary would be taken to ensure order was restored and reiterated he had no intention of resigning. Justice Minister Jozsef Petretei offered his own resignation after the night of violence, but this was rejected by the Prime Minister. Instead, he slammed the rioters for attacking Hungarian democracy, and today has vowed to restore order by using all means necessary in addition to pressing on with reforms. The National Security Council has been summoned to discuss the situation, and although an escalation is not expected, it cannot be ruled out. Protests resumed this morning, but peacefully.

President Laszlo Solyom accused the Prime Minister of creating a "moral crisis", adding to political pressure for him to go, which is naturally supported by the opposition parties (who elected Solyom in 2005), mostly right-wing parties that narrowly missed out on electoral victory. The main opposition, Fidesz, is to boycott parliament today in protest. Coalition parties MSZP and the Free Democrats (SZDSZ) deputies have pointed out instead that Gyurcsany was merely telling the truth on the tape, no matter how unpalatable.

Economic Situation

Markets yesterday were generally unfazed by news of Gyurcsany's revelations. In terms of what was revealed of Hungary's situation, little was new. Specifically, there has been widespread understanding that the government did not have a handle on the budget situation and that it was misrepresenting the situation deliberately ahead of the 2006 legislative elections.

The reform programme unveiled in the wake of the election was also widely anticipated in the markets. Deep fiscal deficits, deteriorating debt dynamics and tighter global liquidity conditions were forcing the issue, while the re-election of the administration seemingly gave the mandate for change. This was essentially the 'correction' that the markets had been waiting for. Specifically, global interest rates tightened and the forint began to slide against the euro—reflecting investor concern over the concurrence of a large fiscal and current-account deficit. Fiscal reforms, by increasing tax revenues and engineering a sharp slowdown in domestic demand, will be the means by which these imbalances are to be eased.

Consequently, Gyurcsany's admission yesterday, superficially at least, appeared to be nothing new. However, the ensuing political crisis and street violence inject significantly greater uncertainty into the equation, particularity in the short term. Consequently, in early trade this morning, the forint eased back to trade around the 273/euro mark after having fluctuated yesterday around 270/euro.

In the short term, the outlook for the forint will depend on whether street protests escalate and how the government deals with the situation. However, the main risks hang on whether the government can continue to pursue unpopular fiscal reforms in the face of widespread protests and civil disobedience. At this stage, such a reversal of policy remains unlikely. In some sense Gyurcsany's frank admission lays bare to the electorate the need to pursue a path of fiscal consolidation—he made clear in his outburst that the current trajectory was unsustainable. However, and more importantly, these reform proposals had formed the basis for the recent Convergence Report submission to the European Commission and were a major component of the coalition agreement formed with the Free Democrats. If reform proposals were to be watered down, the forint would weaken significantly, government stability would be bought into question, and major long-term uncertainties would dampen the economic outlook. This would be the worst-case scenario. Specifically, Hungary would be faced with higher interest rates, longer-term fiscal degeneration, possible debt downgrades and further delays to the euro adoption timetable.

Outlook and Implications

Ironically, Gyurcsany noted in the tape that support for the government would plummet over the coming months, and that he expected opposition gains in the local elections due in two weeks' time. Although he remains adamant that he will remain in power for now, pressure might be brought to bear upon him, considering the weakened state of the economy, an expected dip in growth in 2007 amid corrective austerity measures, and opinion polls showing a drop in his own support levels (something he also predicted would occur). While many have railed against the tape's revelations, the reality was that the economic picture was apparent, and the alternative scenarios offered by Fidesz in their election campaign would have been at least as imprudent as that of MSZP.

There are few though that have the charisma of Gyurcsany, and his support in the party remains strong partly as a result of his centralisation of power; signs of weakness could start a revolt, but it remains to be seen who is comfortable taking on the mantle of responsibility for sorting out the country's finances. Meanwhile, the markets reacted momentarily to the unrest, but have recovered quickly. Long-term stability is not under threat, but short-term jitters in the weeks prior to the local elections are likely.