Fiscal Council: inclusion of tax reform effects in the calculation of fiscal rules does not comply with the Fiscal Discipline Law  13 May 2019

The Fiscal Council (Council) has prepared the addendum to its interim report, responding to the press release of the Ministry of Finance (MoF) of 24 April 2019 on the 2019-2022 Latvia's Stability Programme full compliance with the  Fiscal Discipline Law (FDL).

"The Council completely disagrees with the interpretation of the Ministry of Finance's assessment of fiscal rules both in terms of the structural balance and in terms of expenditure growth rule. The Council repeatedly draws attention to the fact that such an extended interpretation of the Fiscal Discipline Law creates a critically undesirable precedent for Latvia in the area of fiscal policy," says Council Chairman Jānis Platais.

"The Council continues to insist that tax reform is qualified as a government revenue-reducing measure. If budget revenue decreases, it is natural that budget expenditures should also be reduced, but the Stability Programme foresees an increase in expenditure that is not permissible. For years, contrary to the practice of the other Baltic States, it is created with a deficit, this practice is unwanted and dangerous, as it threatens the stability of fiscal discipline," states J.Platais.

The MoF incorrectly interprets that the Council objects the treatment of the tax reform as a one-off measure. Actually, the Council does not find the adjustment of the fiscal rules for the effects of the tax reform consistent with the FDL.

The Council objects this treatment on the grounds as the following:

•    FDL does not stipulate the use of one-off measures to make adjustment to the expenditure ceilings;
•    One-off measures as adjustor for the assessment of the fiscal rules are permitted by the regulations pertaining to the EU Stability and Growth Pact;
•    Tax reform implemented in Latvia based on a set of laws passed in 2017 has been a discretionary act by the authorities of the Government and should be treated as such in the assessment of the fiscal rules.

The MoF in the SP 2019/22 acknowledges that the one-off measure because of the deterioration in tax revenues does not meet the criteria of the EU Stability and Growth Pact to be applied as adjustment in the medium term scenario. In the absence of explicit regulation adopted under the FDL, the Council cannot accept the use of the one-off measure related to deterioration of tax revenues resulting from the tax reform as compliant with the FDL. These circumstances have not changed since the assessment by the Council of the explanation provided by the MoF in March 2019.

The Council recalls that already in March 2017, in the expert discussion on the reform of Latvian tax policy, it expressed its concern about the lack of MoF calculations, whether the tax reform will be able to increase tax revenues in the long term and to keep fiscal discipline would require a rapid increase in tax revenues.

The Council is looking forward to a comprehensive assessment of the effects of the tax reform, including segregation of one-off impact from long-term impact on the government fiscal position.

The Latvia's Stability Programme is a medium-term policy document that describes Latvia's fiscal policy. The Stability Programme is aimed at implementing a rigorous and sustainable fiscal policy and ensuring macroeconomic stability.

Addendum is available here.