Is It Possible to Adjust ‘With a Human Face’?

Hungary and Iceland were among the countries most affected by the recent macroeconomic shock. Although they suffered a similar GDP drop and started from much the same fiscal conditions, their respective governments decided to follow different strategies of adjustment. Each country cut public spending according to different priorities. However, the most important differences are related to the revenue side. While the Hungarian government implemented a flat tax reform, the Icelandic government replaced the previous flat tax system with a progressive one increasing the participation in the fiscal consolidation process for high income groups. These two opposite adjustment strategies produced different economic and social outcomes. In both countries, the primary balance turned positive and the level of debt on GDP started to decrease. Nonetheless, while Iceland fully met the objectives of the IMF programme, the worsening of economic conditions forced the Hungarian government to ask for additional help from the EU and the IMF in 2012. In terms of distribution, social transfers contributed to reduce inequality in both countries, while the different tax strategies operated in opposite ways. Indeed, the results show that the Hungarian tax system became more regressive while the 2010 Iceland’s Tax Reform contributed to reduce inequality by nearly two points.