European Union planning to withhold €495M in development funds from Hungary because country failed to reduce its deficit

Cindy Allen

BRUSSELS , February 22, 2012 (Associated Press) – The European Union's executive arm said Wednesday it plans to withhold euro495 million ($655 million) in EU development funds from Hungary after the country failed to reduce its deficit.

The proposal to withhold the funds is the latest stage in a protracted dispute over the country's finances and suspected violation of civil rights. Before it can be applied, it has to be endorsed by the EU's other 26 member states.

It is the first time the European Commission has proposed to suspend development funds from one of its members over an excessive deficit. The so-called cohesion funds, which are targeted in the sanction, support transport and environmental projects in the EU's poorer regions.

The Commission has been pressuring Hungary to cut its budget deficit, which has been breaking the bloc's limit of 3 percent of economic output ever since the country joined the bloc in 2004 when one-off measures are stripped out.

Despite several warnings, the government in Budapest has so far failed to take any more structural actions to reduce its spending.

"This decision today is to be regarded as an incentive to correct a deviation, not as a punishment," said Olli Rehn, the EU's economic affairs commissioner.

Since the funds that the Commission is threatening to withhold are for 2013, Hungary has until January next year to take action and avoid sanctions.

Regional Policy Commissioner Johannes Hahn, meanwhile, said that the other development funds — social and regional development funds — would continue as usual, and commitments to projects already made as part of the cohesion funds would also be paid.

Complicating the picture, Hungary has also requested rescue loans from the EU and the International Monetary Fund after its funding costs rose. Although the request was made late last year, neither institution has so far committed to giving aid.

The EU is also in a broader conflict with Hungary saying that new laws in the country violate EU rules by restricting the independence of the central bank and the court system. The Commission has also raised concerns over Budapest's restrictive media laws.

Last year, Hungary nationalized nearly $14 billion of assets belonging to private pension funds to avoid running a deficit. But the Commission says this one-off measure, equivalent to around 10 percent of Hungary's gross domestic product, is not enough to put the country's economy on a sustainable path.

The sanctions could have a real impact on Hungary's finances. The plan to withhold euro495 million is equivalent to around 0.5 percent of the country's GDP and 29 percent of its allocated cohesion funds for 2013.

In recent months, all three major rating agencies downgraded Hungary's creditworthiness to junk.

And in January, the forint fell to an all-time low of 324 forints per euro, creating problems both for the government and its citizens who have taken out a lot of foreign-currency loans.

The forint has since recovered to around 290, helped by the wider improvement in the appetite for risk in the markets and Hungary's plan to seek more outside help.

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