Costa Rica country note: OECD Economic Outlook, May 2021 by OECD

36 

Costa Rica GDP growth will recover gradually to 2.5% in 2021 and 3.4% in 2022, supported by strong external demand from Costa Rica’s main trade partners. Domestic demand will strengthen in the second half of 2021, as economic restrictions are gradually lifted and the vaccine campaign progresses. Inflation will slowly increase, but remain below the 3% target rate as spare capacity remains large. An extended fund facility agreement has been negotiated with the IMF with the aim of putting public debt on a declining and sustainable path. Implementing the public employment reform, reducing regressive tax exemptions and continuing to reallocate spending towards social protection would help to ensure debt sustainability, improve public spending efficiency and foster inclusiveness. Lowering administrative burdens and costs for starting and formalising businesses would help raise investment and formal job creation. Finalising the new insolvency law would streamline bankruptcy procedures and accelerate resource reallocation during the recovery. Vaccination is progressing gradually Daily infections have been rapidly increasing since March and the reopening of the economy has slowed. Some restrictions on movement have been reinstated, schools have closed, and limited capacity requirements in indoor public spaces (shops, restaurants) remain in place. Costa Rica has secured 9 million doses to vaccinate the whole population above 15 years old. The vaccine campaign started in late December 2020 and should continue throughout 2021. To speed up the vaccine campaign, the government has reduced the stock of vaccines to be kept as a reserve, started negotiations for more vaccines, and involved the private sector in the import and administration of the vaccine.

Costa Rica The recovery is uneven across sectors

Public debt continues to rise

Index Feb 2020 = 100 120

% of GDP 80 70

100

60 80

40 30

20 20

Manufacturing

Communications

Transports

Other services

Hotel and restaurants

0 Feb-20

May-20

Aug-20

Nov-20

Feb-21

2000

2005

2010

2015

0 2020

Source: Banco Central de Costa Rica; and Ministerio de Hacienda. StatLink 2 https://stat.link/ixrh53

OECD ECONOMIC OUTLOOK, VOLUME 2021 ISSUE 1: PRELIMINARY VERSION © OECD 2021

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Costa Rica: Demand, output and prices 2017

Costa Rica GDP at market prices Private consumption Government consumption Gross fixed capital formation Final domestic demand Stockbuilding1 Total domestic demand Exports of goods and services Imports of goods and services Net exports1

2018

Current prices CRC trillion

2019

2020

2021

2022

Percentage changes, volume (2017 prices)

34.3 22.4 5.6 6.2 34.2 0.0 34.2 11.3 11.1 0.2

2.1 1.6 0.5 0.8 1.3 -0.7 0.6 4.7 0.2 1.5

2.2 1.6 5.3 -5.4 1.0 0.1 1.0 3.0 -0.5 1.2

-4.5 -4.3 0.4 -4.1 -3.5 -0.5 -4.0 -10.7 -9.5 -0.7

2.5 3.2 0.8 0.6 2.3 -0.6 2.2 8.3 7.8 0.3

3.4 3.2 0.0 5.0 2.9 0.0 3.1 10.9 10.5 0.4

_ _ _ _ _

2.6 2.2 2.1 10.3 -3.0

2.2 2.1 2.4 11.8 -2.2

0.4 0.7 1.1 19.5 -2.5

1.2 1.4 1.2 17.9 -2.2

2.1 2.1 2.1 15.2 -2.2

Memorandum items GDP deflator Consumer price index Core inflation index2 Unemployment rate (% of labour force) Current account balance (% of GDP) 1. Contributions to changes in real GDP, actual amount in the first column. 2. Consumer price index excluding food and energy. Source: OECD Economic Outlook 109 database.

StatLink 2 https://stat.link/xq8gl5

Activity in the free trade zone remains robust Manufacturing and business services sectors operating in the free trade zone (such as medical equipment, financial and accounting services) recovered fast and are already above pre-pandemic levels. Growth in labour intensive services sectors outside the free trade zone (such as hotels and restaurants, transport and retail) remains muted. A partial relaxation of economic restrictions in the second half of 2020 helped bring down the unemployment rate but it is still significantly above the pre-pandemic level. The negative impact of the pandemic further deteriorated the already fragile public finances, increasing uncertainty about debt sustainability. Financial tensions eased as Costa Rica concluded an agreement with the IMF on an Extended Fund Facility. The government's proposed fiscal plan seeks to stabilise debt by improving the primary balance by 4.7 percentage points of GDP by 2025. The plan would also contribute to a more inclusive recovery through the public employment reform and higher taxes on high-value properties.

Social transfers helped mitigate the social impact of the recession Given the limited fiscal space, and with the debt-to-GDP ratio reaching around 70% of GDP in 2020, fiscal support during 2020 was moderate and funded mainly by reorienting public spending towards health and social programmes. The principal measures were a 3-month subsidy (Bono Proteger) to support vulnerable households, covering both formal and informal workers (total cost of around 0.7% of 2020 GDP), a 3-month moratorium on several tax payments (VAT, profit tax, excise tax, custom duties), an adjustment of social security contributions to match effective hours worked, and a one-off relief on the car registration tax. Bono Proteger has mitigated the social impact of the pandemic (in its absence the poverty rate would have been 3.4 percentage points higher).

38 

The recovery will progress gradually The recovery will progress gradually in 2021, dragged down by persisting economic restrictions during the first half of 2021, and accelerate in 2022, as the tourism sector will gradually add to strong external demand for manufacturing and business services. With the vaccination campaign continuing, the pandemic will be gradually brought under control and economic restrictions lifted. This will help the labour-intensive services sectors to recover progressively, strengthening domestic demand and improving labour market conditions. Fiscal adjustment may weigh on domestic demand in the short term, but will boost private investment by decreasing uncertainty and strengthen potential growth. Monetary policy should remain supportive as inflation slowly approaches 2.2% by end 2022, within the lower bound of the band around the central bank’s target of 3%, as disinflationary pressures persist. Downside risks relate to the evolution of the sanitary situation or to political gridlock leading to a failure to implement the new fiscal plan. The high degree of dollarisation of Costa Rica’s economy exposes the country to external funding and exchange rate risks, notably vis-à-vis the US dollar. Upside risks include a stronger-than-expected recovery in tourism and higher external demand if the recovery in the United States is more vigorous than anticipated.

Structural reforms should continue Costa Rica should continue implementing the structural reforms already initiated during the OECD accession process. These include finalising the public employment reform, which would yield a more efficient and effective public sector, improve the targeting of social policies, strengthen the governance of state-owned enterprises, promote formalisation in the labour market and support female labour force participation. During the recovery, liquidity measures (payment deferral, state guaranteed loans) and structural measures (grants, training, reskilling) should target viable firms, especially SMEs, operating in severely hit sectors, thus supporting the reallocation of human and capital resources across economic sectors. The finalisation of the new insolvency law should streamline bankruptcy procedures, increase the protection of creditors’ rights and ensure continuation of viable business activities.