Fiscal Council claims that further work is needed to clarify the fiscal framework for 2018  13 April 2017

The Fiscal Discipline Council has analysed the most important plans that have been included in Latvia’s Stability Programme 2017-2020. Decisions that bear on tax policy, the reduction of unemployment and health care have been assessed. The Council has endorsed and the macroeconomic development scenario used as the basis for drafting the budget and looked into key fiscal rule issues. However, the Council is concerned that government expenditure is increasing more rapidly than the economic growth potential.

One of the goals stated in the Declaration of Māris Kučinskis Cabinet is a tax-to-GDP ratio of 1/3. According to historical data, this level has not been reached (the tax-to-GDP ratio has hovered around 28-29% of GDP) and there are currently no explicit plans how to achieve it. Moreover, the proposed tax reform measures will reduce several significant revenue streams. Therefore, clear plans and cautious estimates are required to establish how the proposed tax-to-GDP ratio will be achieved. Measures for combatting the shadow will be essentail for achieving the proposed tax-to-GDP ratio.

Regarding the attempts to motivate people to join the formal labour market, estimates suggest that the proposed reforms will have a limited effect on the reducation of income inequality. The proposed measures have the potential to stimulate the currently unemployed population to join the labour market, thereby reducing special budget expenditures. Furthermore, lower government revenue will limit the government's ability to provide public services and alleviate poverty. Consequently, low income earners will benefit very little from the tax reform.

Specific objectives should be set and supplemented with performance indicators. A more efficient use of available resources should be ensured in the health sector. Reform plans should foresee an in-depth expenditure review that would bring savings which could be used to finance critical needs.

Overall, more optimism is present in the economy. The Council considers that the macroeconomic outlook is currently positive: the external environment supports growth, recession in the construction and investment sectors has slowed down, and inflation is picking up. Analysis of economic risks should be improved in order to evaluate their impact on development and fiscal indicators.

"Currently, the Council cannot approve the fiscal framework for 2018 and subsequent years", says Jānis Platais, the Chairman of the Fiscal Discipline Council. "The Council believes that the increase of funds available to health care with the use of deficit financing has not been fully justified. A more thorough long-term assessment is required before implementing the tax reform, especially regarding the tax-to-GDP ratio and the level of public debt. The Council also believes that it is important to continue working with the Ministry of Finance to clarify the calculations for numerical fiscal rules to prevent an increase in budget expenditure that exceeds the economic growth potential."

Council opinion on Latvia's Stability programme 2017-2020 available here.