Caribbean & Central America - June 2016 (ISSN 1741-4458)

The finance minister Vice-President Helio Fallas celebrated progress made in reducing the fiscal deficit so far this year as evidence that the government is delivering on its twin promise to cut spending and boost revenue. By claiming that he had met his side of the bargain Fallas directly challenged an intractable legislative assembly to approve the government’s proposed tax increases.

Costa Rica’s fiscal deficit in the first four months of 2016 fell back to 1.6% of GDP from 1.9% in the same period of last year. In absolute terms, the fiscal deficit was ¢$495bn (US$914m) in the first four months. Government revenue stood at US$2.61bn between January and April, up 7.3% year-on-year; expenditure still increased but at a slower rate, 3.1%, to reach US$3.52bn. “While we are demonstrating that with responsible administrative actions we are getting the finances in order, it is indispensable that a legal framework is enacted so that this order stands the test of time,” Fallas said.

The government’s fiscal reform package includes the replacement of a 13% sales tax (from which services are currently exempted) with a value added tax (VAT) of 14% in the first year and 15% thereafter, as well as broadening the number of goods on which tax would be payable, including services, and creating legislation to crack down on tax fraud and evasion. The Organisation for Economic Co-operation and Development (OECD) applauded the government’s tax reform proposals in a report entitled ‘Making growth more inclusive in Costa Rica’, published on 26 May, and a separate report outlining its economic forecast on 1 June. But the OECD warned that these would do no more than stabilise the debt-to-GDP ratio at the current level, and called for additional measures “to eliminate existing exemptions across the tax system” and to reform public employment to prevent “excessive automatic increases in current outlays”.

In its economic forecasts, the OECD said that “public debt has continued to increase and reached 42.4% of GDP in 2015”, arguing that with credit rating agencies having a negative outlook and bond investors needing high risk spreads “measures to restore fiscal sustainability have become urgent”. It advocated “additional fiscal adjustment of 1% of GDP…to put debt on a firm downward path”. The fiscal deficit in 2015 was 5.9% of GDP. The central bank is predicting that it will widen to 6.2% in 2016 and 7% in 2017 unless the government’s tax reforms are introduced.

Fallas told the congressional commission for the control of public spending in mid-June that it was essential to approve the government’s proposed VAT reform in order for the government to receive two external credits for a total of US$1bn. This did not play well to the seven-party opposition bloc which insists that contracting more debt instead of confronting spending as the main option to reduce the fiscal deficit simply finances it.

The opposition bloc has reached an agreement with the ruling Partido Acción Ciudadana (PAC) to discuss plans relating to the containment of public spending on pensions, combating tax fraud and economic reactivation, according to Maureen Clarke, the head of the opposition Partido Liberación Nacional (PLN) bloc, the largest in the legislative assembly. But this is still likely to be painstakingly slow, not least because in mid-May Deputy Rosibel Ramos, a member of the opposition Partido Unidad Social Cristiana (PUSC), was re-elected as president of the legislative commission of financial affairs, where the tax reforms are being discussed. Ramos is a fierce opponent of tax increases.

• Growth

The Organisation for Economic Co-operation and Development (OECD) raised its projection for Costa Rican growth in 2016 to 4% from an estimate of 3.5% made last November thanks largely to strengthening domestic demand and the recovery of exports as world markets “regain momentum”. But the OECD said this would not be sufficient to bring unemployment down from its current level of over 9%. The OECD also focused on “disappointing labour productivity growth” which it said needed to be addressed by promoting “innovation, competition and transport infrastructure”.