The Big Idea
Costa Rica | Making progress
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Costa Rica has made important progress by nailing down legislative backing for a proposed IMF economic program. The broad political support reduces execution risk. It also reinforces the carry trade in Costa Rica debt and lowers its beta. But other hurdles await: a second vote for a key public employment bill, and, more importantly, potential recommendations for revisions to the IMF program from the constitutional court. A watering down still would not compromise the IMF program. The outlook remains constructive for carry and for investor sponsorship compared to other ‘B’ credits in the region.
There has been some progress on the legislative agenda with simple majority approval of the public employment bill and two-thirds approval of the IMF loan. This meets the necessary criteria and suggests broad societal awareness of the importance of IMF relations ahead of the tight deadlines for disbursement of the first tranche in mid-October. The next vote on the IMF loan should come the week of July 12 and reaffirm access to cheaper external credit as well as broad political support for the IMF program. Do not underestimate the importance of the loan approval. The loan itself is not controversial; however, it is typically difficult to secure the high threshold of two-thirds legislative support with a track record of complacency and unresponsiveness through periods of fiscal crisis. The legislative support is more impressive given rising political tensions ahead of the February 2022 presidential election cycle.
The more important hurdle is the controversial public employment bill and whether there is sufficient legislative support to reach two-thirds approval and whether there is sufficient judiciary support to avoid substantive watering down of the legislation. The first-round approval was six votes shy of the 38 votes necessary for the second-round approval. The burden is on the Alvarado administration to chase down six of the 10 absent deputies for their support on the second vote. The stakes are high and require effective political lobbying to rally sufficient support. It is less clear how the draft legislation emerges from the constitutional court. It is a low probability that the court rejects the legislature for procedural errors that would archive the bill.
The more important risk is whether there are substantive defects that are sent back to legislative committee for revisions ahead of the next vote. The IMF only requires “enactment” of the legislation without specific criteria or without inclusion of any targeted fiscal savings. The IMF program would not be at risk in the context of a weak reform bill. However, substantive revisions would represent a lost opportunity for important fiscal savings necessary for medium-term debt sustainability. The constitutional chamber of the Supreme Court has 30 days to review until August 2. The courts have already cited the possible violations with the Planning Ministry enforcing the compensation and employment regulations contrary to the judiciary autonomy of self-regulation. The other recommended deputy consultations claim violation of the autonomy of the public universities and municipalities. The legal experts reassure against substantive revisions as many of these objections were already reviewed in the prior fiscal reform in 2018.
The low yields on Costa Rica’s debt suggest already low execution risk with no obvious reaction to the recent legislative progress on IMF relations but yet clear resiliency and outperformance relative to other ‘B’ credits. The substantive or weak public employment reform will dictate whether tight yields could trade even tighter. Costa Rica is one of the few credits with low volatility and relatively attractive carry and potential recipient to any downsizing or rotation trade out of El Salvador.
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