Hungary Slowing Its Rush to Capitalism : Eastern Europe: The government was accused of giving foreigners too good a deal. Now it seems wary of all outside investment.

A Hungarian proverb holds that when a listing rider attempts to right himself in the saddle, he usually falls off the other side of the horse.

And this, liberal politicians say, is what has happened to Hungary’s drive to transfer state-run industries to private ownership: First the government gave away the store, and now it is wary of all foreign investment, the key to economic recovery.

Stung by a string of controversial sales that enriched a few at the expense of many, the center-right government that was voted into power this spring is scrambling to put up barriers against shady deals, get-rich-quick schemes and “golden parachutes” for departing Communist managers.

As the most economically developed of the emerging democracies of Eastern Europe, Hungary is the first to have to grapple with deciding what to sell and what to keep.

It put out the welcome mat for foreign investment, recognizing the need for Western expertise, technology and money to buy backward factories from the state and upgrade them to produce export-quality goods to help pay off staggering foreign debts.

But a public backlash against outside ownership is threatened after sales that have deeded over Hungary’s leading newspapers to foreign publishers and sold promising tourist and service industries at a fraction of their worth.

“We are only at the beginning of capitalism,” said Matyas Eorsi, a member of Parliament from the liberal Alliance of Free Democrats and a lawyer handling foreign trade contracts. “It’s like a gold rush, and there are no fancy rules to guide it.”

Eorsi argues that Hungary needs immediate infusions of foreign capital, and he advocates a virtual open season on national assets, risking a few unwise transactions in creating an instant market that will eventually demand fair value for the assets leaving state hands.

“It is better to have some scandalous transactions go through if the result is a speeding up of privatization,” Eorsi said.

But the governing Hungarian Democratic Forum argues that it’s time for restraint.

Peter Bod, head of the economics committee in Parliament and a top adviser with the Forum, contends that the tax breaks offered as inducements for foreign investment are going to publishers of pornography--a flourishing industry in Hungary--and to those who took over prosperous businesses, not the failing enterprises the authorities hoped to give over to capitalism for another try at profit making.

After investment laws were liberalized last year, several questionable deals were pushed through to make investment in Hungary appear attractive to foreigners, Bod said.

In a few other cases, valuable businesses that had been run by the state, like the network of Apisz stationery stores and the HungarHotels chain, were quietly sold off for much less than what would be their market value if a market existed to determine such things, Bod said.

He complained that the lack of an anti-monopoly law has allowed foreign publishers, such as West Germany’s Axel Springer organization, to buy out the fledgling free press only recently liberated from Communist Party control.

Springer now owns more than a dozen newspapers and 40 trade journals in Hungary, and publishing magnates Rupert Murdoch and Robert Maxwell recently purchased large shares of the nation’s most reform-minded publications.

The Forum is pushing for more regulation of the conversion to private ownership among foreign investors and Hungarians alike, although the latter are relegated to a minor role in privatization because of the dearth of savings and ready cash.

An international commission of economics experts determined in early April that Hungary’s industries are worth about $30 billion. The report estimated that Hungarians could afford to buy only 1% of these properties a year, putting the burden on foreign buyers to break the state’s grip on commerce.

“The attitude toward foreign capital is very important,” Bod said. “In general, that attitude is still very positive, but every case of corruption undermines this asset of support.”

In a rare show of unity among Hungary’s fractious political parties, a State Property Agency was established in March to work with Parliament in drafting guidelines for privatization. The government has also contracted with the London-based accounting firm Price Waterhouse and the Chicago-based law firm Baker & McKenzie to serve as international advisers in the transition.

Mike Birch, a partner in the Price Waterhouse Budapest office, says a certain amount of caution is sensible when heading into uncharted waters. To date there is no precedent for converting a socialist, centrally planned economy into a free market.

Although the Western business world is automatically wary of the capitalist instinct to make a quick profit, nations such as Hungary are not.

“Eastern Europe is very fragile because the people don’t have that kind of expertise, and they lack the experience of having to protect themselves,” Birch said.

He believes that some industrial and service spheres should be shielded from foreign influence but says those decisions rest with the elected authorities.

The State Property Agency operates outside the control of the government, answering only to Parliament, which has yet to draft a single law.

Agency director Istvan Tompe argues that Hungary should sell off failing firms to outside investors but hold on to lucrative businesses and those that are traditional responsibilities of the state. He says health care, banking, tourism and transport should stay in the hands of the government.

State-owned hotels, restaurants and travel agencies in Budapest and at Lake Balaton are major hard-currency earners for the Hungarian government, as is the national airline, Malev.

Whether to designate certain industries as off-limits for foreign investors will be decided by Parliament, which only in early May began the complicated task of building a new legislative framework.

In the meantime, decisions about what should be sold, how soon and for how much are still the exclusive domain of Hungarian industrial managers--often the Communist Party bosses that the new government plans to remove.

Under the economic reforms of 1984-85, a first step toward privatization was taken by creating ownership councils in most factories and state enterprises. The councils were intended to make decisions in the interest of all employees, who as Hungarian citizens were considered owners of their state enterprises. But the council members tended to be the same officials who managed the factory.

This has put the industrial chieftains who are responsible for enterprises that are over-staffed and underproductive in the position of making decisions that also determine the factories’ future.

Some Communist Party figures, anticipating imminent dismissal, have arranged the transfer of their enterprises to foreign consortia. With no oversight authorities, deals were struck behind closed doors that gave the retreating managers a sizable payoff--the golden parachute--in return for undervaluing the facility being sold.

Bod contends that the Apisz stationery chain was sold for one-seventh of its value and that one-third of the shares ended up in the hands of a departing Communist bureaucrat.

Maxwell, the Czechoslovak-born newspaper magnate, reportedly got a bargain-basement price of $800,000 for 40% of Magyar Hirlap, the former government daily.

Springer has evaded even the cursory review of the State Property Agency by labeling its newspaper holdings start-ups instead of takeovers. The West German group hired the publications’ staffs and rented the same offices and printing facilities, then invited advertisers to switch over to the new papers.

With no regulatory legislation, the moves cannot be deemed illegal. But the Free Democrats have called on Parliament to freeze Springer transactions in Hungary pending investigation of how it obtained its current holdings and until after legislation can be enacted to prevent media monopolies.

Foreign investors appear to be taking a wait-and-see attitude, watching the progress of the first projects before embarking on their own commitments.

“I came here with the prejudice that it might not be time to invest yet, because of the Gold Rush mentality,” said Kevin Kinsella, managing general partner of Avalon Ventures of La Jolla.

Kinsella visited Hungary with 40 other American businessmen in April. He said that he was impressed with the Hungarians’ entrepreneurial spirit but that in the absence of any track record “we might want to let things settle out here first.”