Why has housing been the main driver of recent financial crisis in ECE?


On the basis of Bohle’s 2014 paper and the data of the Hungarian Central Bank

At first I want to state that housing was the main driver of the 2008 financial crisis in every aspect. Since we know that the unprecedented growth in housing prices in the United States were the reason why the subprime mortgage market was born.
In ECE, especially in Hungary and Estonia, the root of the problem was the same (housing finance) but the actual ill-advised effects are different since the financial markets in the area are not as developed as in the US. Therefore there’s no sufficient demand for such financial products as mortgage backed securities, this means that derivatives are not able to gain momentum so big to pose systemic risk.
Unfortunately the underdeveloped financial markets did not rescue ECE from tapping into the recent financial crisis, they become involved indirectly.
As Bohle argues the risks of foreign currency (FCY) denominated loans were unattended by the government, banks and individuals. On the other hand the FCY loans offered way lower interest rates than HUF denominated loans. This was the result in the differing base rates of the ECB, Swiss Central Bank and the National Bank of Hungary (MNB). The MNB was keeping high his interest rates in order to force fiscal rigor. Fiscal strictness was needed because governments from 1998 till 2004 were using populist, pro-welfare methods to boost the domestic economy, this further derailed the country’s fiscal position.
The difference between interest rates and the unattended FCY rate risk resulted in a FCY denominated housing credit boom. Which is illustrated on the following chart, showing the total amount of housing loans between 2003 and 2015 (most recent) in billion forints. The steep rise of FCY denominated loans can be observed between 2003 and 2008.


The other fact worth to mention is that the HUF is not a pegged currency it’s managed in a given range. This means that if a certain shock occurs the MNB is not ensuring a given exchange rate and does not start to spend it’s FCY reserves. For example in a case when, on the global financial markets, the trust against emerging economies becomes weaker, investors flee into reserve currencies like the dollar, euro or the swiss franc. It’s easy to concede that in this case the demand for selling forint is high ergo the price of the HUF falls, meaning that one euro (from the HUF holder perspective) is more expensive than before. In this situation, the residents who’s income is a HUF cash flow but they own an FCY denominated loan, pay a higher proportion of their income to pay the monthly interest and principal. This means less disposable income and lower consumption. If the scale of this setback is systemic it can also mean a major threat to economic growth and financial stability of the country.
It’s again easy to concede that if the FCY denominated loans are present in the economy in this extent (9,3 % of the GDP in it’s peak), as the chart shows, it’s a systemic risk.
The exact same scenario happened to Hungary in 2008 what I written before. The unhealthy subprime mortgage and mortgage backed security portfolios had it’s direct effect on the US. But serious concerns arised regarding countries with not-so-stable fiscal positions, for instance Hungary. Investors started to flee into the reserve currencies by selling the HUF. Unfortunately in the case of Hungary the FCY denominated loans posed a serious risk on the residents and therefore the consumption. We can say that the main transmission mechanism of the crisis in Hungary was the HUF exchange rate through the elaborate FCY loan portfolio.

What are the origins of East Central Europe’s economic backwardness?

On the basis of Andrew C. Janos’s 1989 and 2001 papers

In the first part I’d like to elaborate on the argument stated in Janos’s 1989 paper.

In the beginning of the paper Janos writes about several theories, which were developed in order to explain the economic differences between countries. Later he demonstrates each of these theories in some aspect regarding the backwardness of CEE countries. The most popular of these schools of political economy are those in whose center of attention are scarcity and abundance. The second branch of theories revolve around the notion of nation states and etatism. The main point here is that poverty demands more etatism, but more etatism may still result in poverty and relative backwardness. The third collection of opinions places the emphasis on the international demonstration effect, changin human needs and relative deprivation.

Based on these theoretical pillars, mentioned above, Janos develops a genuine view of CEE backwardness. He states that the relative poverty of CEE has it’s origins in the first agricultural revolution, which dates back to the long 16th century. This time the innovation hub of Europe was the region of England, Netherland, North France and the Rhineland. Therefore the revolutionization of agriculture happened here. This caused a population boom, better quality of life and higher food safety. Thanks to better technologies people had more time to engage in other activities like studying, thinking or just to be more subtle, even military had a better quality catering. However the mentioned innovations spread extremely slowly, according to Janos, the new ways of cultivating crops reached Hungary only around the beginning of the 19th century. So we can see that this may produce serious relative backwardness towards other parts of Europe. I believe in this context this is a valid argument, however nowadays it does not hold.

The The spreading of innovation is extremely fast paced nowadays, since we have highly connected networks, like the internet. diffusion thoughts, innovations, ideas and product in these networks happens in minutes, not in centuries. This diffusion of information is not just able to happen, but it’s an economic necessity for every entrepreneur to happen . In 2015 if somebody starts a firm, which aims to revolutionize agriculture, he sees the whole World as his market, since there aren’t boundaries anymore, limiting such a distintive idea to just a country or a region. I believe that the only question right now is, that a given country is how connected to the system of globalization, if it’s well wired, the relative inequality to the core nations will diminish in the future. On the other hand countries like North Korea or Saudi Arabia will have problems regarding this in the future.

In the second part I’d like to elaborate on the argument stated in Janos’s 2001 paper.

In this paper Janos draws comparison between the effect of two hegemonic powers Soviet Union and the West. In my opinion this comparison is valid.

If we think about the motives of the Soviet Union and the West we see the same, ice-cold, economic rationale on one side and major historical opportunism on the other.

Under economic motives I mean that the Soviet Union had to rebuild itself after severe damages caused by the two world wars. As Janos writes this happened through a classic colonial explotation of the occupied countries. The Western powers simply seen an exceptional opportunity to subsidize and invest into the economies of the countries of Central and Eastern Europe. If we think in terms of the stock market we can realize that the changing of regimes created a bear market for long term investments. There were cheap assets with a relatively unpredictable risk level. We also shouldn’t forget the fact that investors had the unique possibility to lower the country risk of their investments through the subsidies, military and political pressure of their native countries.

Historical opportunism means in my intepretation the process that if a great power recognizes an opportunity to gain more power, it will live up to it. This happened in 1945 and in 1989. In 1945 the Soviet Union grasped the opportunity to enter the political vacuum in CEE. In 1989 the same happened by the surprsied west, which does not expected a collapsing Soviet Union. Both times the reigning hegemony tried to export his culture and consumer habits. It seems now the west was more succesful.

As I’ve written in a sense it’s an interesting and sound comparison, but on the other hand we can’t compare the underlying ideas of the two hegemonies. Since I believe that communism should have remained an interesting though experiment while capitalism can be a building block of a succesful society.

Who am I?

I’m Adam Forgacs, or more correctly Ádám Forgács, or in the most correct way Forgács Ádám. Sound weird isn’t, it?
I’m 20 years old. I live in Budapest, which wasn’t the case for 18 years. I’m from Slovakia. The tiny country in central (or eastern, honestly who cares?) Europe. But if you’ll ask about my nationality I’m going to tell you that I’m Hungarian, but I have a Slovak ID. Confused?I hope so.

In this blog I want to clarify things. Everything about being Central European.

What is communism? vol 1.

I clearly remember the first time I was having a (meaningful) conversation about communism in Central Europe. I was 17 years old. My partners in that chat were Stephen Turner, an english artist, and his hippie friend. The hippie friend had a ponytail, 173 cm height and approximately 56 years. We was debating about the past, how communism worked (or mostly not), how people lived under the regime, how the transition went trough, etcetera. Those guys were totally okay, I mean, they knew what happened here and they were asking me questions like I if was a living artifact of that system. In some sense I am, but in a completely other way they were thinking.

I was curious. What was that system? It was so big, so grey and something so distant in my mind.

I started to ask questions. 

At first parents, then my grandparents, then everybody else. It’s easy here, because everybody a generation older than you was living in that regime.
For instance my bitter favourite is about my great-grandfather. He was living in Chicago during the twenties working for General Electric. After several years spent in the States he came back as a wealthy man with a Ford T-model and became the mayor of the village where he was living. He bought lands and started to make money out of it. Back then the system was someway capitalistic here spiced with a little democracy (remember it’s Czechoslovakia now), so the context was given. The time went on, he made money, people loved him. He even succsefully avoided being a soldier in the WWII. But after this came the worst what could. Communism.

Communists are fond of everything what is “mutual” and this was the case also with lands. They thought that’s more efficient if agricultural business is planned by a state authority all over the country and of course that lovely authority needed to own all the lands in Czechoslovakia. So my great-grandfather lost everything he worked for in his whole life. On the other it’s easily understandable why he couldn’t keep his position as a mayor in the new system. He was labelled as a “kulak” which means somebody who’s the enemy of the great idea of dictatorship of the proletariat. Of course this was just beginning. The story went on. One of his children was ill and of course there was a scarcity of the needed drug in the country. So he sent a telegram to his friends in the U.S. to send him penicillin. They sent several pills. The customs officers’ opinion differed a bit. He wanted to know what are those pills, why my great-grandfather is getting mails from the United States, etcetera. And basically he’s a kulak, there are no rights for kulaks in those days. So as the, Franz Kafka inspired, process went on one of his children was dying and the time wasn’t on their side. I think needless to say what the end of the story is. Unfortunately and in everyones opinion purposedly the officer gave him the pills with a huge delay and as a result of this one of my relatives died.

To conclude this story, not just the ruling regime but the whole system, with all those officers and “soldiers” of the party was highly unnatural and cruel. Not suitable for a human being living in it. 

Of course that’s not the only story of this kind from my family and be sure that everyone has these in his/her own family here. This was the standard.

Later I started to think about not just the microsocial but the broader effects of communism on the society.

It lasted from 1945 to 1989 the worst years were between ‘46 and ‘53 (when Stalin died). After that the system started to ease up a bit. This easing peaked in 1956, a revolution in Hungary broke out. It was bloody and short, but showed that there is an enormous tension in the system and people are not afraid in some cases to show their discontent. The next thing to happen was in Czechoslovakia called the Prague Spring in 1968. It wasn’t so bloody but it was equally unsuccessful in reforming the communistic regime. Then history went on, and the system got weaker and weaker. The result of this weakening is that in 1980 the Polish trade union Solidarity (Solidarność) came into life.


In 1985 Mikhail Gorbatchev (the man with map on his head) became the first secretary of the Communist Party in the Soviet Union and launched the glasnost and the perestroika, which were basically reform programs. All of this eventually lead to the events in 1989, which meant the end of communism in the region. Formally.

What I was always curious about, after my conversation with Mr. Turner and his hippie friend is that okay that it’s formally ended in 1989, but what happened in peoples’ mind? What effect that 44 year unnatural existence had on the common thought? What is still felt? Which effects are concerning me and my generation?

How can I be Hungarian if I’m born and raised in Slovakia?

You don’t have any idea how many times I had to clarify everything about this. Just imagine this situation, which happened to me 2 years ago.
I’m in North Africa, more precisely in Tunisia, enjoying the summer holidays, drinking some beer and strolling around the beach. A local guy comes to me and starts telling that I look like a football star. (soccer, translated for you, dear americans). That sounds great, isn’t it? Actually it was. After this we started to talk about some more serious stuff, like the girls on the beach, how hot the weather is today, etcetera, etcetera. Then came the question I was always confused about:

“Where are you from?”

Every single time in this moment a really fast chain of thoughts is going trough my mind. How I want to be percieved? As a Slovak or a Hungarian? Is the one whom I’m talking to is intelligent enough to understand what’s the real case? Do I really want to tell him what’s the real case?

Yes, because the case is really not as easy as this questions sounds. I’m part of the Hungarian minority living on the southern parts of Slovakia. You may say, there are tons of minorities all over the world, that’s not as unique as I percieve this whole topic. Let me ask you a question.

Are you living in a minority?

See? It’s not that common. But let me explain what happened here in Central Europe.

The whole stuff started a thousand year ago. Back then the medieval Hungarians where coming from Asia and occupiing the Carpathian basin. This happened in 896 A.D.. In this time Slavic tribes called Great Moravia were also living all over the territory. These times are still matter of debates among Hungarian, Slovak, Czech and Polish historians. Everybody wants to claim this time as their own, because everything happened (or even not happened) after is derived from it.

But what’s not feeding these modern time debates is that after the conquest of the Carpathian basin the Hungarians where the ruling nation here (Hungary in these times consisted of territories we call nowadays Slovakia, part of Serbia, part of Romania, part of Austria, part of Ukraine). In the high times of the empire Hungary had 3 different seas (now it has zero of them). This was around the middle of the 14th century.

Later the lovely Habsburgs came to marry and in the meantime they became the rulers of Hungary. Then the Ottomans ruled the territory for 150 years (we saved Europe’s ass). After this the Habsburgs came back (the truth is they never left). This was the status quo for hundreds of years, when in 1848 some revolutionary young men in Budapest started a revolution, which lasted for a year and a half. This is a significant happening regarding nationalities in Hungary. This was the first time when Slovak and Croatian minorities had a voice (a deciding voice) in the faith of Hungary, but not the last.

The most notable one is after the WWI on the 4th of june, 1920 and it’s called the Treaty of Trianon. It was a disaster for Hungary. The country lost 2/3 of it’s territory and population. The roads, raliways were cut at the borders, the well functioning economic structure was totally turned over. And the city I was born was no longer part of Hungary. Suddenly everybody there was considered Czechoslovakian. 

After this there was a short time when the situation was like pre-Trianon but basically since that unnatural step in 1920 everything is messed up like that here in the Carpathian basin. The easy solution would be, as president Woodrow Wilson suggested in that time, that the borders should be there where are the borders of nationalities living in the area. This would create nation states able to build on their clear identities. Instead of this the writers of the Treaty chose to destabilize Central Europe for long decades and punish Hungary more than it deserved.

Nowadays the effects are still felt. The Hungarians in all neighboring countries are losing their identities because of the intense assimilation policies pursued by those states (Slovakia, Romania, Serbia, Ukraine). For example in Slovakia those numbers are overwhelming. Between the two censuses (2001 and 2011) the Hungarian minority in Slovakia is less by 62 thousand people. This is an exetremely significant decrease. In context this means that in 2001 the 10,8% of Slovakia’s population was Hungarian, in 2011 only 8,5%. This also equals to smaller power in getting trough minority interest, which basically creates a spiral of assimiliation. These recent aspects are beautifully, but bitterly caught in a recent study written by a Harvard scholar.

What about now? Should that Tunisian guy know this whole story?

The truth is that I told him. I actually draw a map of pre and post Trianon Hungary in the sand. It was one the most memorable moments of my life concerning my identity. And you know what’s the best? He understood what I wanted to share with him. We became friends.