For the 2019-2020 period, the Central Bank of Costa Rica foresees an inflation within the target range, that is, around its central value of 3%.
According to the estimations of the entity, reflected in the Macroeconomic Program, the effect on the Consumer Price Index (CPI) of the introduction of the Value Added Tax (VAT) would be relatively low: around 1.1 percentage points in the four years of implementation.
For the Bank, the effect would be concentrated in the first year, between July 2019 and June 2020. In addition, it is not expected to cause “second-round” inflationary effects that require mitigation.
On this subject, Rodrigo Cubero, head of the Central Bank, said the entity will remain vigilant of the evolution of all the variables that determine inflation, with the purpose of adjusting, if necessary, its monetary policy.
On Tuesday, for example, the board of directors decided that the monetary policy rate should remain at 5.25%, the same level since November 2018.
The Law for the Strengthening of Public Finances (Law 9635) incorporates changes in the tax structure that has prevailed in the country during the past 30 years.
One of the most relevant is the transformation of the current general sales tax into a value-added tax (VAT), which extends taxes to services with a rate of 13% and to the basic basket with 1%, among other variations.
According to the forecasts of the Central Bank, the initial impact on prices would not generate expectations of subsequent increases. Therefore, the entity would not apply a restrictive monetary policy, but would allow prices to reflect the highest tax rates, since it would simply be an effect on the price level, and not on inflation.
The Central Bank calculated two possible scenarios, on the possible impact of the fiscal reform:
Transfer of 100% of the tax to the consumer: This scenario assumes that all goods and services have a demand that will not change in the face of a variation in prices and, therefore, the total VAT adjustment is transferred as an increase in those prices.
In this case, it is estimated that the application of VAT would imply a maximum increase in the general price level of 1.17 percentage points at the end of the fourth year of the law. The greatest adjustment in the price level would occur during the first year of the tax (0.77 percentage points).
This behavior would occur, because in the first year of validity, services that were previously exempt will begin to be taxed with 13% (with some exceptions).
Partial transfer of the tax to the consumer: This scenario takes into account the change in the consumption of some food subgroups for several countries according to estimates made by the United States Department of Agriculture at the international level.
From a simulation carried out by the Central Bank, an increase of 1.03 percentage points over the general level of prices due to the application of VAT at the end of the fourth year of the tax is expected.
Thus, from both scenarios they see that the effect of the VAT adjustment on the CPI level would be relatively low, around one percentage point in the four years of implementation and about 65% of that effect would occur in the first year.