AN ECONOMY IN CRISIS

HUNGARY BOLDLY TRIES ANOTHER WAY

MARY NEMETH November 13 1989

AN ECONOMY IN CRISIS

HUNGARY BOLDLY TRIES ANOTHER WAY

MARY NEMETH November 13 1989

AN ECONOMY IN CRISIS

HUNGARY BOLDLY TRIES ANOTHER WAY

In Hungary, so-called Goulash Communism has turned sour. For more than two decades, the Communist government has introduced elements of free enterprise, but the reforms have been piecemeal, and the country now faces a severe economic crisis. Hungary owes more than $22 billion to Western banks, inflation is running at nearly 17 per cent, and living standards have fallen to 1973 levels. Hungarian officials now concede that the country has to introduce a completely freemarket economy to stave of! disaster. And they say that they need Western investment, technology and management skills to achieve that goal. Last week, Hungarian Minister of State Imre Pozsgay met with Canadian business leaders and politicians, including Prime Minister Brian Mulroney and Quebec Premier Rob-

ert Bourassa, in an effort to drum up foreign investment. At an investment conference in Toronto last week, Pozsgay told 225 Canadian businessmen and academics that Hungary will guarantee that foreign firms can repatriate all their profits and investments. The Hungarian economy is “crisis-stricken,” he acknowledged, but “it provides excellent opportunities for business.”

Overhaul: Hungary’s drive to overhaul its economy has coincided with sweeping political reforms. Next year, the country will hold its first free, multiparty elections in more than 40 years. And several Western countries have pledged economic assistance to promote those changes. U.S. President George Bush has proposed a $532-million aid package for Hungary and Poland, which is also introducing economic

reforms, and Congress is now working on an even larger package. And last month, Mulroney pledged $42 million to the two countries.

Venture: Western businesses also are playing a part in Hungary’s economic restructuring. Sotheby’s of London is auctioning antiques at its new branch in Budapest, while Levi Strauss & Co., along with a Hungarian joint-venture partner, is operating a jeans factory in Kiskunhalas, 120 km south of the capital. And last week, a Western-backed mutual fund, the First Hungary Fund, opened an office in Budapest. The $93.6-million fund, the first of its kind in the Eastern Bloc, was formed by Andrew Sarlos, chairman of the Toronto investment-management firm Andrew Sarlos & I Associates Ltd., along with 5 two other Western partners s and the National Bank of I Hungary. Sarlos, who fled ^ Hungary after taking part in I the 1956 revolt, said that ? Western participation is essential for Hungary’s democratic and economic reforms. And if Western companies provide technology and know-how, he predicted that “Hungary can catch up to the West in six years.”

Radical: Not all Western experts are as optimistic, but because Hungary has dabbled in economic reforms since the mid-1960s, they say that the country is better prepared than its more conservative Communist allies to introduce radical change. In 1968, under former Communist party leader János Kádár, the government introduced a new economic policy that was intended to replace the country’s authoritarian, centrally planned economy with market relations among firms. But indirect controls persisted, and private firms were allowed to hire only a handful of employees.

In 1972, the Hungarian government for the first time permitted firms to form joint ventures with foreign companies, although the regulations were so restrictive that, until the mid-1980s, only a few deals were signed. Still, the Kádár regime, by borrowing heavily from Western banks and buying oil below the world price from the Soviet Union, was able to import goods and steadily improve living standards until the early 1980s. But by then, the price of Soviet oil and interest rates were both rising rapidly. As a result, living standards started to fall, and Kádár faced growing pressure to make substantial changes.

A major liberalization came last fall when the government introduced new corporate and foreign-capital laws that allowed private enterprises to hire as many as 500 people and guaranteed that foreign firms entering joint

WESTERN AID IS NEEDED TO MAKE THE ECONOMIC REFORMS SUCCEED

ventures could repatriate their investment and export profits. And Hungary—going further than any other Communist nation—has an embryonic stock market.

Still, the government faces enormous obstacles in its effort to create a completely free market. Private companies make up only about five per cent of the Hungarian economy. Said Peter Reiniger, Hungary’s deputy minister of industry: “To nationalize an economy, all you need is a piece of paper that says that, from tomorrow, everything belongs to the state. But to privatize an entire economy, that is without precedent.”

Produce: Hungary’s current economic crisis will not make the transformation any easier. At present, Hungary’s industrial sector employs 1.3 million people—five times as many as what Reiniger says is necessary to produce the economy’s $23 billion worth of goods. And although the country has had a bankruptcy law since 1986, only about 100 companies, most of them small ventures, have been liquidated.

Still, not all moves towards improving efficiency are popular. When Ferenc Horváth, the Hungarian minister of industry, went to the Mecseki Uranium Mine (MEB) in southern Hungary two months ago to explain to the 2,600 workers there that the mine must be closed because the cost of production is more than five times the world price for uranium, he was shouted down.

Ontario Hydro is one of the Canadian companies that has stepped in to help the Hungarians make their transition.

This year, Hydro has agreed to sign a $150,000 contract with the Hungarian government to help the Hungarians manage the issues surrounding the closure of the MEB mine and to explore alternative uses for it.

Accepted: Another group, consisting of Italians, Americans, Canadians and Hungarians, has formed the International Management Centre in Budapest to teach Hungarian managers the finer points of

Western business practices. Charles Mayer, a professor of international marketing at Toronto’s York University who is director of the centre’s Canadian advisory board, said that, since the institution opened last March, it has

accepted 28 full-time students and has offered several seminars on marketing, accounting, financing and production organization. Mayer added that, while Hungary has many highly qualified workers and has made significant scientific innovations, the country needs trained managers who can organize, distribute and market their products.

Other Western firms, like Toronto-based Deprenyl Research Ltd., a drug manufacturing and distribution company, have helped Hungarians bring their products to market. Deprenyl chairman Morton Shulman told businessmen at the Toronto conference last week that his personal physician told him 2 2Vz years ago about a new 0 drug for Parkinson’s disease 1 developed at Budapest’s I Semmelweis University. In I February, 1988, Shulman, § who has Parkinson’s himself,

purchased the drug’s Canadian marketing and distribution rights from an American company for just over $1 million. “The Hungarians don’t market anywhere outside their own country,” Shulman explained in an interview. In the first nine months of 1989, Deprenyl sold $1.2 million worth of the drug, named Eldepryl in Canada.

Sarlos was one of Deprenyl’s founding shareholders and, in September, he and several other investors also purchased part of Skala Co-op Commercial & Industrial Ltd., one of

Hungary’s largest department stores. And Sarlos said last week that the democratic changes sweeping Hungary have intensified investor interest in the country. He said that the First Hungary Fund, which was originally slated to raise $58.5 million, closed on Oct. 27 with $93.6 million. He added that he is now working to put together a second fund of $234 million.

Tragedy: But even with the current levels of Western investment, Hungarian officials say that the country’s standard of living will get worse before it gets better. They add that free markets will inevitably lead to unemployment and the country’s enormous foreign debt will continue to drain the economy. Said Reiniger: “I don’t think that the situation is good. If we couldn’t get support from the Western part of the world, it can happen that the reform will lose, and this will be a tragedy.” Clearly, for Pozsgay and other Hungarian leaders, appealing to Western investors has become almost as important as listening to voters in their own fledgling democracy.

MARY NEMETH with SUE MASTERMAN in Vienna

SUE MASTERMAN