Hungary sees recession in 2009, nears IMF deal

BUDAPEST (Reuters) - Hungary's government will make painful spending cuts next year and said on Tuesday it expects the economy to slide into a recession, while the country's financial markets firmed on hopes of imminent financial help from the IMF.

The International Monetary Fund (IMF) is expected within days to agree a standby loan to help Hungary after three weeks of crisis but it is setting tough conditions for the ruling Socialist government.

Prime Minister Ferenc Gyurcsany announced on Tuesday the government will reduce the budget deficit to 2.6 percent of gross domestic product (GDP) next year from an earlier target of 2.9 percent, at the price of cutting social spending and public sector wages which had been regarded as taboo until now.

Gyurcsany said the moves were necessary as the global financial crisis threatened Hungary's financial stability and will drag the economy into a recession next year.

"I propose that we should plan for the worst and hope for the best; we should prepare for Europe and the world to struggle with recession and we should plan for Hungary's economy not to grow but contract by up to 1 percent," Gyurcsany told a meeting with parliamentary parties.

Analysts expect the IMF to lend billions of dollars to help Hungary restore confidence in its banking system, which is heavily exposed to foreign financing at a time when investors are pulling back from developing economies worldwide.

Hungary, which hiked benchmark interest rates by a full 3 percentage points last week to 11.50 percent to halt a slide in the forint, may be in for up to $12.5 billion from the IMF in the form of a standby loan, analysts say.

Gyurcsany indicated some of the new measures were the condition of IMF support but he declined to detail what specific form of help the country could expect.

"We are in intensive negotiations with the EU and the IMF," Gyurcsany said.

"The goal is to provide Hungary with a protective shield, so we have access to financial resources and even in the most extreme situation we are not facing the threat of a default... We expect a final deal in the coming day or two," he added.

The European Union (EU) is preparing a financial aid plan for Hungary, the European Commission said, but it did not make clear whether its scheme would be part of a package agreed in principle between Budapest and the IMF or come on the top of it.

IMF CONDITIONS

"The IMF had two reasonable conditions. One: plan a budget in which even in the most pessimistic case, you plan spending which you have funds for. Two: in a situation like this, don't commit to reducing revenue," Gyurcsany said.

The government, when it submitted the 2009 draft budget to parliament, projected 1.2 percent growth but a slowdown in western Europe will hit Hungary's exports and slower lending growth is seen dampening domestic demand just as the economy is emerging from a slump prompted by public belt-tightening.

To reduce spending, Gyurcsany said wage bonuses for public sector workers will be scrapped next year while wage increases may also be cut. The government will cap the so-called 13th month pension payment, an extra month of pension paid to the country's almost 3 million pensioners.

He also said the central government would introduce strict spending controls.

Hungary has been one of the hardest hit countries in the global financial crisis as doubts over its short-term financing ability sent its debt and currency markets into a tailspin.

The forint, which hit a record low at 285.30 in overseas trade last week, rallied over 2.5 percent to 262.95 versus the euro by 1252 GMT on Tuesday mainly on hopes of an IMF deal.

The stock market surged 8.2 percent but traders said it will take longer for the government bond market to recover.

(Reporting by Gergely Szakacs and Balazs Koranyi; editing by Stephen Nisbet)