Hungary's Orbán announces 0.5 million forint "gift" for young people

Hungary's PM Viktor Orbán has announced on Friday morning a rather peculiar economic policy measure, namely personal income tax exemption for young employees, up to the gross national average wage. The move should not be a surprise for three reasons.

• Firstly, parliamentary elections in the spring of 2022 are drawing closer. 
• The PIT exemption for young people is a logical second step after the PIT exemption granted for mothers. (As of 1 January 2021, mothers of four or more do not need to pay personal income tax. The measure affects some 45,000 women in Hungary). An extension of this exemption was raised as a possibility by Orbán before, and Katalin Novák, minister without portfolio in charge of family matters said recently that including mothers of three in this PIT exemption could be the next key step once the coronavirus pandemic was beaten. Apparently, that move was preceded by the tax exemption granted to young people.
• Thirdly, the lower house of Poland's Parliament passed legislation in mid-2019 that grants PIT exemption to those under 26, i.e. some two million people in the country. 

What, how much, how?

Orbán said the PIT exemption for young employees under 25 and up to the national average wage would go live on 1 January 2022 and would cost the budget HUF 130-150 billion. The impact of the revenue loss could be dampened if the group in question spends some of their windfall gains, which would generate additional VAT revenue for the budget. 

According to the latest data (for January-October 2020), employees under 25 years of age earned gross HUF 278,600 on average per month, while the monthly gross average wage in the national economy was HUF 370,500. It is safe to assume that practically the entire group of employees younger than 25 will be able to enjoy the tax exemption, considering that almost all of them will earn less than the national average at the beginning, simply because they are career-starters or initially lack higher-level training and qualifications. 

According to the Q3 2020 data by the Central Statistical Office (KSH), there were 28,400 people employed from the 15-19 age group, and 251,100 people aged 20-24 had jobs in the reporting period. This implies that the tax new measure would now affect nearly 280,000 employees. Most of them are men (164,000) and a smaller number of them are women (115,000). The major difference may stem from the fact that this is typically the child-bearing age for women. 

Considering that the gross average wage of those under 25 years of age is HUF 278,600 per month, the exemption from the 15% PIT leaves them with HUF 41,790 more. 

This means a young employee with an average monthly earning will take home net huf 500,000 more per year thanks to the exemption, from 2022.

Obviously, if you earn less than the average wage or does not work in a full-time job, the gain will be proportionately smaller. 

Major economic consequences

As regards the impacts of the measure we should highlight that it is aimed at remedying a very real economic challenge, namely the high rate of unemployment and inactivity among young people. (According to the latest end-2020 figures , the employment rate in the age group of under 25 was 28.1% versus the national average of 60%.)

The PIT exemption could incentivise businesses to hire young people who would be able to secure themselves a relatively high net wage even if their gross monthly pay is lower. And let's keep in mind that employees younger than 25 are currently exempted from the social contribution tax for two years that is also an incentive for companies to recruit young workers. 

Another potential objective of the government with the measure is to put a stop to or at least dampen young people's migration from Hungary, and there could be a demographic angle, as well. The latter consideration could be that higher monthly salaries may urge young people to check out of the 'mummy hotel', i.e. leave their parent's house, stand on their own feet, settle down and start a family.

However, we need to differentiate between groups of employees under 25 too. Those that continue their studies after middle-school will be able to start a career only after they get they degree, so the tax exemption will help more educated youngsters only for a couple of years. It is also true, though, that their degree will probably land them more lucrative jobs. 

Also note that the currently ruling Fidesz party (with absolute legislative majority) had the ceiling for compulsory education lowered to 16 from 18 in 2011 ( it was raised by the previous Socialist government to 18 from 16 in 1996). Owing to the lower ceiling the measure could be a serious help for young adults that leave school early and find employment instead of studying. Their employment could whiten further as a result of the PIT exemption. 

In view of the above, we can expect a large share of the extra payment to appear in rural areas (to a much greater extent than how the geogpraphical distribution of the country's population would warrant it). 

At this point it is difficult to assess what dynamic effects the PIT exemption will have. We find it unlikely, though, that employers will readjust gross wages, skimming the gains made available by the exemption. This way, employees will be able to keep all of the extra earning in the short term. It is possible, however, that employers in the longer term will tweak starting salaries to adapt to the PIT exemption, and they might try to offer lower gross wages if the labour market gives them this opportunity.

We might also find companies applying restrained enthusiasm when it comes to bumping up the salaries of employees that are approaching their 25th birthday, knowing that stabilising their net wage after the age ceiling is reached will entail a significant rise in wage costs. Such adaptions could become increasingly modest the tighter the labour market becomes. Should labour shortage arise again, we are unlikely to see them at all. 

Political considerations among the motives

Make no mistake, Viktor Orbán and his party/government have their eyes on the 2022 general election. And they know from various polls - conducted by independent or by government-friendly institutions - that the ruling Fidesz party is not that popular among young people than among older citizens. The tax exemption becoming effective in the election year is quite a sell in government propaganda and might even help boost the appeal of the Fidesz/KDNP coalition. 

We should also point to another recent government decision that will benefit rural farmers, including young ones. The cabinet plans to step up its rural development game by spending HUF 400 billion more in this area annually, and most of this extra expenditure could also find its way to households.  

The KSH's population data show that there are currently about 864,000 people aged between 18 and 25 in Hungary, which corresponds to 8.8% of the roughly 9.8 million population and less than 11% of the roughly 8 million eligible voters. By 2022, the ratios will not be much different at 8.3% and 10.2%, respectively. The governing parties would apparently like to secure the vote of this not negligible group in 2022. 

Fiscal effects

The announcements made by the government over the last few weeks make it clear that the cabinet will immediately exploit any fiscal wiggle room it might have during the year. Or if there's no elbow room, it will make one, or it could possibly give temporary priority to economic policy measures over the planned deficit trajectory. The probability of the latter happening is the lowest, because a slower reduction of the budget shortfall would further exacerbate the already stressed debt course that could look like this in the future.

The PIT exemption for young employees would go into effect in 2022 when the cabinet projects the country's budget deficit to fall to 4.8% of GDP from 6.5% pencilled in for 2021. The GDP forecast for 2022 is a robust 5.4%. It is in this fiscal environment (targeting a decreasing shortfall) where the cabinet would need to find room for new economic policy measures, including the PIT exemption for young employees or greater state contribution to rural development projects. This is quite a challenge, but at least the direction in economic policy is clear. 

On the whole, the measure announced today gives the right answer to an existing problem, and compared to the extravagant spending of the last few weeks and months it is a more targeted and more effective step that is expected to have a stronger spill-over effect in the economy than the fiscal profligacy we witnessed at the end of 2020. 

Cover phot: Viktor Orbán's Facebook page