Inflation will continue to dent purchasing power in Costa Rica throughout 2022 and 2023
After almost six months in power, Rodrigo Chaves’s results as president of Costa Rica are mixed. As FrontierView forecasted in April, Chaves continued the path of fiscal consolidation started by former President Carlos Alvarado Quesada and showed commitment to the country’s IMF deal. On the other hand, his populist style has increased his approval rating while limiting the possibility of political agreements to achieve structural reforms. Firms should revamp their government engagement playbook to navigate the political uncertainty expected in 2023. Additionally, they should be prepared for a demand slowdown, as high inflation continues to debase purchasing power.
Overview
Rodrigo Chaves, an outsider technocrat who ran on an anti-corruption campaign, became president of Costa Rica on May 8. After a first-round election with a record 43% voter abstention, Chaves defeated the establishment’s candidate, Jose Maria Figueres from the National Liberation Party (PLN). Despite his stunning approval rating of 81%, according to the latest Gallup poll, Chaves now faces the highest inflation in Central America, fiscal restrictions in the context of a US$ 1.7 billion program with the IMF, and unprecedented political fragmentation.
While the central bank’s upper target is 4% inflation for 2022, the consumer price index in September was 10.47% after peaking at 12.1% last August. The war in Ukraine and its impact on rising prices for food and energy added to the already-significant demand-side inflationary pressures stemming from the pandemic-shock recovery. On the fiscal side, Costa Rica has been adjusting its excess spending since 2019. In Q2 2022, the administration achieved a 1.3% primary surplus, which allowed the country to pass its third IMF deal revision. This will allow the administration to receive a US$ 264 million disbursement in the coming months and opens the possibility of obtaining an extra US$ 710 million through the IMF’s new Resilience and Sustainability Trust (RST), something that would significantly buttress Costa Rica’s fiscal accounts.
Our View
Despite Chaves’s commitment to sound economic policies, Costa Rica’s 2023 outlook remains weak and is expected to grow by 1.8%. This is due to the US economic slowdown, which affects the country’s exports; the US Federal Reserve’s interest rate tightening, which increases the cost of servicing external debt interest payments; and domestic political fragmentation. This last factor is particularly important given recent developments in Costa Rica. From massive protests in Panama to the weakening of the rule of law in Guatemala, governance issues will certainly negatively impact the administration’s ability to pass structural reforms to boost confidence and growth.
Back in May, Chaves attempted to build a legislative agreement and supported the election of Rodrigo Arias from the PLN, the largest opposition party with 19 out of 57 members of Congress, as president of the National Assembly. Given that Chaves’s Social Democratic Progress Party only holds 10 seats, this was a depolarizing move. However, this political understanding never materialized. The PLN now opposes many of Chaves’s central legislative proposals, including the privatization of the Bank of Costa Rica. Additionally, Chaves recently vetoed a law backed by the PLN that excluded the 911 emergency system from the country’s fiscal rule, hinting that relations between the president and Congress are not getting better anytime soon, something that could lead to legislative gridlock.
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