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tive export markets. Incomes for those members of workforce employed by foreign
firms are therefore higher than the national average.
Moreover, endowed with superior technology TNCs employ large levels of highly
qualified staff. FDI inflows can, therefore, constitute labour market demand shifts in
favour of qualified labour and contribute to already present wage differentials for
skilled labour. Rising educational premiums lead to larger direct market incomes for
skilled personnel in the foreign-owned sector of the economy in comparison to those
employed in the indigenous sectors and the low qualified (Nunnenkamp 2004b: 104-
105).
The evolution of social inequalities casts doubt on the capacity of the state to cater for an equal spread of national income. Direct market inequalities question the
ability of the institutionalised bargaining system to reduce wage dispersion. In part,
this is related to institutional deficiencies. Income inequality is further enlarged by
regressive redistribution, which translates direct market income inequality into
household income disparities through a skewed tax system (Molnár 2004; Kirby
2006).
This context reveals the middleclass bias of the respective FDI-led development
regimes. Low-income groups penalised on the labour market due to their inadequate
levels of education are further disadvantaged by the state following the premises of
political efficacy (Greskovits 1998). The middle class and the affluent are further
buttressed by the tax system and by access to superior private pension, health and
education services, as the state follows the “politics of the median voter” (Hardiman
2000b: 835).
Inequalities also question the level of solidarity of the FDI-level development regime. Biased compensatory policies and low corporate taxation of highly profitable
firms contribute to constraints in the financing of public services and high indirect
taxes (O’Hearn 2001: 190; Rodrik 1997: 64). In contrast, lower income groups are
faced with comparatively poor state services. They are additionally penalised by
high consumption taxes and an inefficient social welfare system. Their prospects of
improving their situation are reduced by the fact that social mobility in both countries remain the outcome of market generated incomes and access to education based
on class positions.
4.2 FDI-led Transition in Hungary
The results of the Hungarian FDI-led development regime are ambiguous at best.
Growth is driven by TNCs and displays a distinct dichotomy. Two enterprise sectors
co-exist characterised by large performance differences and low interdependence.
The first is defined by export-oriented foreign-owned firms, with a low level of
embeddedness in the host economy. The second sector comprises indigenous firms,
who are small in size, specialised in low technology goods production and are
mainly oriented towards the internal market. Consequently, high productivity, high
technology, high profit and TNC-dominated export enclaves have developed. Com-
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petitiveness increasing spillover effects for indigenous firms are slight, as a result of
the oligopolistic nature of TNCs and the unattractiveness of indigenous enterprise.
4.2.1 Economic Impact of FDI in Hungary
The inflows of FDI into Hungary during the 1990s were attracted by two main instruments. Initially, the country’s involvement of FDI in the transition process
through the sale of SOEs to foreign firms was a major source of FDI. TNCs entered
the country via joint ventures and brownfield investments in the form of mergers
and acquisitions. Western firms were eager to benefit from the introduction of western consumption patterns in the previously socialist country and to internalise existing national and regional distribution channels and market shares of their acquired
Hungarian firms (Szanyi 2001a: 27-28).
Export-oriented FDI gained momentum in the latter half of the 1990s. The share
of TNC exports rose from 54% in 1994 to 80% in 1999 (Szanyi 2003: 19). On the
one hand, the rise in exports from foreign-owned firms in Hungary was due to the
results of the restructuring process of privatised SOEs. Foreign-owned privatised
firms were transformed to export-oriented firms and integrated into the global production chains of their new parent firms (Szanyi 2001a: 28-29).
On the other hand, the increase in TNC export-orientation in Hungary is also
partly the result of an increase in greenfield investments after 1995 (Szanyi 2003:
19). The rise in efficiency-seeking FDI was the result of the EPZs (Szanyi 2001a:
30). The number of EPZs grew from 89 in 1997 to 115 in 1999, whereby 75% of the
investments were classified as greenfield investments (Antalóczy/Sass 2001: 42).
The remaining 25% were either previous joint ventures, which were later taken over
by the foreign partner, or brownfield privatisation sales, which were later converted
to EPZs (Szanyi 2001a: 32-33). Accordingly, the EPZ proportion of total exports
increased to the same extent, from 18% to 45% between 1996 and 2000
(Antalóczy/Sass 2001: 50). The EPZ firms were responsible for 6% of manufacturing employment (Szanyi 2001b: 3).
The majority of TNC investments originated from the EU, accounting for almost
75% of Hungary’s inward FDI stock in 2003. Germany was responsible for over
30% of foreign investment, followed by the Netherlands with 15% and Austria with
10%. The US had the largest share of non-European investments with 8% of Hungary’s inward FDI stock (WIIW 2004).
The EPZs acted as important international competitive factors for TNCs by reducing production costs. The incentives attracted FDI predominantly into the manufacturing sector of the economy (Landesmann 2000: 113) leading to the largest stock of
manufacturing FDI in the region with the exception of the former GDR (Günther
2005: 45). Furthermore, TNCs created industrial sectors and activities previously not
present in Hungary (Szanyi 2001a: 33). 70% of EPZ exports stemmed from the
dynamic growth sectors of the economy, i.e. office machinery, mechanical, electrical
and optical engineering and automobiles (Hunya 2001b: 134).
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Extent of TNC Penetration
The following table compares the levels of TNC penetration for different economic
sectors in Hungary and is based on Hunya’s (2001a: 49) methodology to calculate
TNC penetration. The table shows not only the domination of the manufacturing
sector through TNCs, but also that other sectors such as utilities, transport and telecommunications as well as retail and trade display above average rates of foreign
engagement.
Table 2 TNC Penetration Rates in the Hungarian Economy, 1995, 2002 (%) a
FDI Stock Equity Sales Employment Investment GVA b
1995 2002 1995 2002 1995 2002 1995 2002 1995 2002 1995 2002
Agri. 1.3 1.2 5.8 15.6 6.2 10.2 2.6 5.0 7.0 4.0 4.4 10.5
Mining 0.6 0.3 34.8 61.7 27.0 27.0 14.0 15.0 33.1 40.9 18.8 26.8
Manufact. 41.2 45.9 58.1 77.6 45.5 71.6 34.6 43.6 56.1 70.1 42.6 65.7
Utilities 13.6 4.6 34.0 38.0 45.5 43.8 35.0 29.8 48.0 44.0 40.8 48.1
Const. 3.1 1.0 37.6 20.1 27.3 9.0 17.1 5.3 96.3 4.1 22.3 9.0
Trade c 10.3 11.2 35.0 49.3 33.5 40.9 23.5 22.5 42.3 43.2 32.0 41.3
Tourism 1.6 1.1 37.2 45.5 23.7 24.3 24.2 16.5 33.3 31.2 26.4 29.4
Transport 12.0 10.0 29.0 57.8 26.3 34.7 13.4 11.5 48.9 20.4 34.5 33.8
R. Estate 4.6 11.2 17.5 35.3 24.7 27.3 17.4 13.3 3.9 2.3 19.5 27.0
Services d 0.8 1.0 7.7 17.7 20.2 19.2 12.3 8.0 1.6 1.3 10.1 13.9
Total 100 100 35.7 53.5 36.0 46.8 23.9 25.0 30.7 24.7 32.7 43.3
a based on Hungarian official FDI records, which includes all firms with at least a 10% share
of FDI in their equity; b Gross Value Added; c Trade and Retail; d other market services
Sources: Own calculations based on HCSO (2004a, 2004b, 2000, 1999).
Between 1995 and 2002, the proportion of FDI stock, equity, sales, GVA and employment were the highest in the manufacturing sector of the economy. Indeed,
manufacturing TNCs produced almost 25% of both total Hungarian GVA and sales
in 2001 and employed over 15% of the country’s total workforce (HCSO 2004a).
Furthermore, the table also displays the growing participation of TNCs in the service
sectors of the economy. This development is in line with the general observation of
an increase in tertiarization of the Hungarian economy since 1990 (Landesmann
2000: 97-98).
A closer look at the manufacturing branches reveals the extent of TNC penetration of the leading branches of the economy. The following table displays the levels
of TNC penetration in the various manufacturing sub-sectors in comparison to aggregate sector levels.
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Table 3 TNC Penetration in Hungarian Manufacturing Sectors, 1995, 2002 (%) a
FDI Stock Equity Sales Employment GVA
1995 2002 1995 2002 1995 2002 1995 2002 1995 2002
Food Proc. 27.6 14.9 66.1 71.6 49.8 55.2 39.8 36.2 49.8 60.7
Textiles 4.3 1.9 53.5 58.8 42.6 53.9 33.6 33.0 43.2 49.3
Wood 1.6 1.1 56.5 62.9 40.3 41.6 24.4 19.7 37.2 39.8
Leather 0.6 0.6 40.2 72.9 42.6 53.9 31.1 53.3 34.6 62.7
Paper 5.9 3.4 48.8 52.1 50.1 43.7 32.3 23.2 46.9 42.2
Chemicals 12.2 14.1 51.7 67.7 24.0 86.2 30.2 64.1 24.5 80.9
Rubber 4.2 3.9 61.7 71.9 49.2 66.2 32.4 50.9 43.8 65.8
Minerals 8.5 5.4 81.4 76.9 58.2 56.9 48.1 37.4 66.2 62.8
Metals 5.4 3.9 45.3 51.9 31.6 42.5 21.9 28.2 29.4 39.8
Machinery 4.3 6.2 47.3 73.4 43.8 59.6 30.8 43.2 37.6 52.2
Elect. & Opt. 14.6 20.2 60.5 90.7 66.0 88.4 52.5 66.8 59.4 78.3
Transport 9.8 23.9 59.3 97.0 79.2 91.7 37.6 62.2 68.1 86.9
a based on Hungarian official FDI records, which includes all firms with at least a 10% share
of FDI in their equity.
Sources: Own calculations based on HCSO (2004a).
Manufacturing sales are dominated by TNCs. Their proportion of sales is only below 50% in three manufacturing branches (wood, paper, basic metals). While the
role of TNCs in production and their GVA contribution, employment levels are
lower. This points to a high level of capital intensiveness of foreign investments and
is a further indication for the strong productivity of foreign firms.
In the case of the sub-sector “fuels and chemicals”, the penetration level of TNCs
is even higher, if the branches coke and petroleum are separated from chemicals.
Figures for 1996 show that the share of TNC sales in coke and petroleum products
reached 99% and 79% for chemicals (Landesmann 2000: 113).
Furthermore, it is evident that the specialisation of Hungarian manufacturing is
defined by the high output levels in the TNC-dominated capital-intensive and predominantly export-oriented branches of the manufacturing sector (Landesmann
2000: 113). In 2002, Hungarian production structure was led by electrical and optical engineering, food processing, fuels and transport equipment. Together they were
responsible for 69% of the country’s manufacturing sales (HCSO 2004a).
As shown in the table, these four sectors also displayed the highest levels of TNC
penetration in terms of GVA. Furthermore, TNC employment was highest in manufacturing (44%) followed by utilities (30%) in 2002. Within manufacturing, the
branch of electrical and optical engineering (67%) had the highest share of labour
employed by foreign-owned firms followed by fuels and chemicals (64%) and
automobiles (62%) (Fazekas/Ozsvald 2004: 4-5).
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Whilst food processing is predominantly oriented towards the internal market, the
other two branches were mainly responsible for the country’s export production with
a large proportion of high technology content.
ÉltetQ (2001: 7) estimates that the proportion of high technology goods produced
in the manufacturing sector grew from 11.4% in 1993 to 26.4% in 1999. Similarly,
the share of high technology exports increased from 16.8% to 20.7% (ÉltetQ 2001:
10). Accordingly, in 1999 the majority of FDI (37%) was situated in the hightechnology sectors of the economy, 34% was located in low technology and 29%
were active in medium technology sectors (Günther 2002a: 84).
The stock of FDI is more-or-less evenly spread between low, medium and high
technology activities. In contrast, corresponding employment is distributed less
evenly according to the capital intensiveness of production. Hence, capital intensive
high technology industries employed the lowest share of TNC labour (12.3%) in
2002. In contrast, employment in foreign-owned firms was the highest in the medium technology sectors (55%) and the share of labour-intensive low technology
sectors was 33% (Fazekas/Ozsvald 2004: 30).
Impact on Trade
According to Antalóczy/Sass (2001: 51), export proportions of machinery and
equipment exports increased from 30% to 60% between 1995 and 2000. Together
with the commodity group of manufactured exports, machinery and transport
equipment accounted for almost 77% of the country’s exports in 2002 with TNCs
being responsible for 88% of these goods (HCSO 2004a). Hunya (2001a: 58) shows
that Hungary was able to expand its total share in EU export markets by 1% between
1995 and 1999, which was the highest rate for all CEEC economies. The increase
was driven by the growth in EU market shares of three dynamic manufacturing
sectors: motor vehicles (5%), office machinery (2.9%) and radio and TV sets
(2.4%). The exports of all three branches were dominated by TNC affiliates with
export sale shares of over 90% (Hunya 2001a: 59).
The rise in TNC manufacturing exports has led to an increase in intra-industry
and intra-firm trade. In total, Hungary experienced the highest level of growth in
intra-industry trade in the OECD growing from 54% in 1988 to 72% in 2000 (OECD
2002c: 161). Between 1990 and 1998, the TNC-dominated branches of the manufacturing sector show strong increases in horizontal trade, meaning that products of
similar price and quality were exchanged. Furthermore, vertical trade in high quality
products displayed the highest growth levels. Therefore, the quality and price of
produced exports greatly outweighed the price and the quality of their imported
inputs (ÉltetQ 2000a: 99-101). The existence of both horizontal and vertical high
quality trade can be explained by rising proportions of TNC-affiliate trade or intrafirm trade in the leading manufacturing export branches of the country (ÉltetQ
2000a: 102).
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Based on figures for US TNCs, Hungary’s third largest source of FDI inflows in
1999 (Günther 2002a: 82), Bernard et al. (2006: 8-9) show that the share of related
party trade in Hungarian manufacturing exports and imports between US TNC affiliates increased considerably between 1993 and 2000. Intra-firm export shares
between US TNC affiliates increased by 25%, equalling 70% of all imports sourced
by US owned firms in Hungary (Bernard et al. 2006: 8). Similarly, US intra-firm
exports rose by 12% leading to a share of 27% in all US affiliate exports (Bernard et
al. 2006a: 9).
These manufacturing export sectors (electrical and optical engineering and transport equipment) are characterised by the production of capital and skill intensive
goods. Hence, these tendencies imply that the patterns of trade specialisation in
Hungary are not singularly the result of comparative advantages, but are driven by
competitive advantages. This points to the existence of both increasing returns to
scale on firm level (internal economies) and external economies due to the size of
the industry (Krugman/Obstfeld 2003: 122). Both allow TNCs to reap competitive
advantages through the internalisation of trade as well as the existence of locational
factors (low taxes, cheap skilled labour), which lower production and transaction
costs.
The Issue of Transfer Pricing
The incidence of intra-firm trade and the large levels of high quality vertical intraindustrial trade in the leading foreign dominated sectors of the manufacturing industry cannot alone be explained by the superior productivity of the TNC affiliates.
Especially, the figures on GVA pose the question of possible transfer pricing behaviour of TNCs. With an effective corporate tax rate of 10% in 2000 (Bernard et al.
2006b: 26), Hungary is an attractive tax location, which invites the transfer of profits
to the country in order to benefit from lower taxation (Szanyi 2003: 14).136
As always, the issue of transfer pricing behaviour is highly sensitive and only
crude estimations can be made. However, the development of net capital outflows is
an important indicator. From 1998 onwards, the hidden profit outflows in form of
loan repayments, payments on technical and business services averaged US$ 720
million per year between 1998 and 2003 (Szanyi 2003: 24). As a result of transfer
pricing, whereby import values are underreported leading to an overvaluation of
affiliate profits, Hungarian GDP is overvalued.
Following HCSO (2006) estimations for the national accounts, the rising TNC
engagement in the economy has led to an increasing gap between the country’s GDP
and GNP figures due to the contribution of profit repatriation to net capital outflows.
The gap is largest for those years for which TNCs have recorded high profits. In
136 The effective corporate tax rates for Hungary’s main sources of FDI in 2000 were 16% for
Germany, 7% for the Netherlands (Bernard et al. 2006b: 26) and 35% for the US (OTPR
2006).
166
1995, GDP was 3.8% larger than GNP. In 2002, this discrepancy increased to 5.4%
having peaked at 6.1% in 1998 - a year with exceptionally high profits (HCSO:
2006).137
Profit repatriations are only then worrisome if the non-debt-related capital income
from abroad cannot neutralise capital outflows. This can lead to a negative capital
balance, which together with a negative trade balance can detrimentally effect the
country’s balance of payments position. Nevertheless, interpreting these developments as a sign for decapitalisation is questionable. TNC investments have undoubtedly contributed to physical wealth creation. Foreign-owned firms were responsible
for 78% of Fixed Capital Formation in the manufacturing sector (Günther 2005: 48).
Furthermore, the reinvestment of profits was still a considerable source for FDI in
Hungary (Sass 2004: 66).
However, the overvaluation of Hungarian GDP does pose problems in terms of
the assessment of the real performance of the economy and the development of per
head incomes measured in GDP per capita. These figures determine, for instance,
the level of transfers from Brussels. Thus, the aggregate growth performance of the
Hungarian economy may have been overrated, leading to a possible underestimation
of EU transfers.
4.2.2 Linkages
As shown, the economic impact of the high level of FDI inflows has been impressive. Those sectors targeted by investing TNCs have disproportionately contributed
to the rise in aggregate exports, productivity and output. Foreign-owned firms have
hugely contributed to the redefinition of the country’s trade competitiveness. TNC
exports have enabled Hungarian exports to widen their market shares in the EU. It
is, therefore, necessary to analyse the secondary effects of FDI on the productive
structure. The FDI-led development strategy foresees the host economy in general
and indigenous firms in particular benefiting from the increased engagement of
foreign firms via the evolution of direct and indirect linkages. TNCs are seen to act
as “catalysts for economic development” by inducing technological upgrading of
local firms indirectly by demonstration and efficiency effects or directly through
cooperation between indigenous and foreign-owned firms (Markusen/Venebles
1999: 336-337).
137 Calculations based on GDP and GNP (GNI) figures in respective current prices taken from
HCSO (2006) data.
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References
Zusammenfassung
Irland und Ungarn verfolgen eine Entwicklungsstrategie, die in bewusster Abhängigkeit von Globalisierungsprozessen in Form von ausländischen Direktinvestitionen steht und sich als Paradigma in der Peripherie durchgesetzt hat. Doch dieser Entwicklungspfad hat zu einer ungleichen und abhängigen Entwicklung geführt. Dies ist laut dem Autor das Resultat des mangelnden Gestaltungswillens beider Staaten, für einen gleichgewichtigen Wachstumsprozess zu sorgen. Die historische Analyse zeigt, dass eine auf ausländische Firmen fußende Entwicklungsstrategie nicht ausreicht, um traditionelle Peripheralität zu überwinden. Der Autor fordert eine Reform des Entwicklungsparadigmas, um eine gleichgewichtige Entwicklung zu ermöglichen.