Firm behavior and the labor market in the Hungarian transition

The authors describe the main changes in the Hungarian labor market since 1989. They focus especially on changes in behavior in state and privatized firms, since the shedding and restructuring of labor are at the heart of the transition. They describe five types of firms: 1) state firms (often in bad shape and/or natural monopolies); 2) firms privatized by insiders; 3) firms privatized by outside (but domestic) investors; 4) new small-scale ("de novo") private firms. The state and de novo firms are increasingly outside the tax system - the state firms by de facto tax exemptions, the de novo firms through tax evasion. As the de novo sector grows, the effective tax yield will tend to fall, shifting the tax burden to the other three types of firms. Subsidizing the growth of the private sector may have been desirable initially, but it is dynamically undesirable. It is important to change the distribution of the tax burden, while setting tax rates that enhance the growth of labor. Thetype of growth seen in the last four years is probably not sustainable. With tax evasion high, average payroll taxes in the taxable sector have until recently risen sharply. Social insurance spending and other labor taxes represented about 34 percent of hourly compensation costs in 1992 - significantly more proportionately than in OECD and most transition economies. And high contribution rates together with apparent real wage rigidity have depressed the rate of job creation in the taxed sectors. Wage levels are lower than in neighboring countries but higher than in other transition economies. Despite adverse shocks to output and employment, consumption wages have risen slightly and unit labor costs have clearly increased. The authors emphasize the continuing loss of employment and its changing distribution in terms of ownership, sector, and taxation - as well as associated changes in unemployment that have resulted from the asymmetric paths of the state and private sectors.