Tuesday 28 September 2021

Government reaches three-year deal with the IMF

The goal is for the public debt to fall to 50% of GDP in 2035; IMF mission chief stated that the agreed program "is progressive and will help reduce income inequality"

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QCOSTARICA – The Government of Carlos Alvarado reached a fiscal adjustment agreement with the International Monetary Fund (IMF) on Friday, which will allow the country to access a loan of US$1.75 billion dollars that would be delivered in six semi-annual payments, over three years, with soft conditions, in exchange for complying with measures to clean up public finances.

  • Agreement does not include any changes to the Value Added Tax (VAT) or property tax
  • Does not inclue the creation of a financial transaction tax or privatization of state companies

Manuela Goretti, head of IMF mission, stated that the agreed program “is progressive and will help reduce income inequality.”

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The agreement is subject to the approval of the IMF’s management and executive board, as well as the Costa Rican legislature, said Goretting, confirming that the objective is for Costa Rica to apply a set of measures to achieve a primary surplus equivalent to 1% of Fross Domestic Product (GDP) by 2023.

In addition, the goal is for public debt to fall to 50% of GDP by 2035. Last year, indebtedness closed at almost 70% of GDP and this year, 2021, it could rise to 80%.

Rodrigo Cubero, president of the Banco Central (BCCR) – Costa Rica’s Central Bank – stated that the fiscal adjustment will be around 5% of GDP, if one takes into account that the Central Government closed 2020 with a primary deficit close to 4% of production and that the goal is to reach a surplus of 1% in 2023.

The BCCR chief made two notes on the figures. The first is that the calculation of the primary deficit or surplus includes the decentralized bodies of the Central Government and the second is that the GDP used is the updated one, released on January 21, which for 2020 is preliminarily estimated at ¢35. 9 trillion colone.

A primary surplus means that the government’s current income exceeds current expenses, without taking into account the money that is going to pay interest on the debt.

According to the IMF, the plan will “strengthen the country’s response to the pandemic and lay the foundations for a solid and lasting economic recovery.”

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“The main policy measures, within the framework of the program formulated by the country and supported by the IMF, will focus on ensuring fiscal sustainability and promoting monetary and financial stability, while at the same time protecting the poor and most vulnerable sectors,” both sides explained.

Minister of Finance, Elian Villegas,  specified that the plan includes, for example, the introduction of the global income scheme, elimination of exemptions and modification of the tax on luxury homes, as well as solidarity contributions from public companies to pay the debt, and reform of the public employment regime.

The IMF stated: “The efforts that the government is making to improve the coverage and targeting of social assistance programs can help limit the economic consequences of the COVID-19 crisis and, together with the reforms envisaged in the project of public employment law that is being debated, can also improve the equity and efficiency of public spending”.

Minister Villegas stressed that the agreement does not include any changes to the Value Added Tax (VAT) or property tax. Nor, he continued, did it include the creation of a financial transaction tax, imposing supplementary pensions, or privatization of state companies.

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Manuela Goretti, chief of mission of the IMF, during the press conference to announce the agreement with Costa Rica.

These are the components of the agreement that the Government announced would form part of the agreement with the IMF:

Budget constraints

The government promises that most of the fiscal adjustment will fall on reducing public spending.

To achieve this, when starting negotiations with the IMF, the Ministry of Finance decreed strong restrictions on the items of purchases of goods and services, substitutions, eventual salaries and special salaries of the Executive Power institutions, between 2021 and 2025.

For example, in 2025, entities will not be able to spend on goods and services more than 67.5% of what they executed in 2020. For each period, the limits that the institutions must respect were established.

In addition, the Executive decreed that, by 2025, the money transfers that these institutions make to other entities may not exceed, by more than 2.53%, those they made in 2020.

The Government’s goal with this decree is that, at the end of the period, primary current spending has been contained at 3.45 percentage points of GDP.

According to the Executive, the idea is that, at the end of 2025, the fiscal adjustment is made up of 60% by reducing spending and 40% of new income.

This measure is in addition to the application of the fiscal rule, which establishes that while the public debt exceeds 60% of production, the interannual growth of total spending must be less than 65% of the average GDP growth.

As of 2022, the fiscal rule will order strict austerity in all categories of expenses, from current (salaries, transfers, services and interests) to capital, that is, investment in public works and equipment.

Public salaries, for example, will not receive cost-of-living adjustments indefinitely, as long as the debt does not fall below 60% of GDP.

Public employment reform

The public employment project, which is being processed in Congress, would create a global salary scheme, without the numerous bonuses that unbalance salaries between institutions and that put upward pressure on public spending, due to factors such as the seniority of officials.

Reduction of exemptions

The plan, already presented to Congress, reduces three tax incentives to increase the collection of existing taxes by 0.41% of GDP.

Global income

It is a mechanism that makes those who earn more pay more, and those with less income less. In this system, all the income of a person is summed up, in order to know their level of gross income. Depending on that result, the taxpayer is placed in a tax payment category, either lower or higher.

Contributions from state companies

The government asked legislators to approve a bill for 14 state companies (example ICE, Recope and AyA) to allocate up to 30% of their annual profits for a period of four years. In total, the Government intends to obtain the equivalent of 0.20% of GDP in each of the years that the rule is in force, about ¢72.6 billion colones annually.

Tax on lottery prizes

A 25% tax would be charged on lottery prizes greater than ¢225,000. With this measure, the Government seeks to generate income of about ¢41.8 billion annually, 0.12% of the gross domestic product (GDP).

Luxury home tax

The Executive Branch proposes to collect an annual tax of 0.5%, on the value, on all houses valued at more than ¢150 million colones. According to the Ministry of Finance, this tax would generate income of ¢35 billion colones annually, equivalent to 0.8% of GDP.

Inspection of merchandise in Customs

Another bill in the legislative process would establish the obligation that merchandise entering the country be inspected by non-intrusive means. According to the Government, the incorporation of new technology would make it possible to improve tax collection, by increasing efficiency in the detection of possible irregular entry of goods.

Legislators have five months to approve measures agreed with the IMF

The agreement with the IMF must be approved by the Legislative Assembly.

 

Manuela Goretti, head of the mission of the Fund for Costa Rica, affirms that it is “fundamental” that the agreement successfully complete their legislative process, by approving, no later than June of this year, the bills agreed with Costa Rica to access the soft financing.

During the press conference Thursday, Manuela Goretti was asked what would happen if any of the bills agreed upon in the negotiation were to fail in Congress.

She replied that the program is signed on the basis of a complete package of measures and structural reforms. For that reason, she said, it is “essential that all bills successfully complete their legislative process.

“It will be very important that everything is done, as agreed.”

According to the agreement, the first disbursement would occur days after legislative approval.

 

 

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