The impacts of changes to VAT rates on the budget and inflation and their components in 2012 and 2013

The macroeconomic forecast described in this Inflation Report contains an increase in the VAT rate from 10% to 14% as from 1 January 2012 and unification of the two VAT rates at 17.5% as from 1 January 2013. This measure is currently in the legislative process and at the time of the preparation of Inflation Report III/2011 had passed the first reading in the Chamber of Deputies (the lower house of the Czech parliament).

Owing to these changes, the forecast assumes that VAT revenue will be roughly CZK 25 billion higher in both years. Net of social compensation measures, the resulting fiscal restriction will reduce GDP growth by about 0.3 percentage point in 2012.

The first-round impact of the increase in the reduced VAT rate from 10% to 14% in 2012 on inflation can be estimated at about 1.1 percentage point, with food prices being affected most strongly (see Table 1). Administered prices will also be strongly affected via items subject to the reduced VAT rate, such as heat, water supply, sewerage collection, medicines and public transport. By contrast, most items of adjusted inflation excluding fuels are subject to the basic VAT rate, so the impact on this price category will be small in 2012. As regards non-tradables, the change will affect prices of air tickets, books and magazines and some services, for example. The tradable items affected will include flowers and animal fodder. Fuel prices will not be affected by this change, as they fall under the basic VAT rate.

Once the two VAT rates have been unified at 17.5% in 2013, the overall first-round effect on inflation will be about -0.2 percentage point. The increase in the reduced VAT rate from 14% to 17.5% should contribute about 0.9 percentage point and will again be most visible in food prices and administered prices, while some items of adjusted inflation excluding fuels will, as in 2012, contribute to a lesser extent. Overall, these changes will be more than offset by the decrease in the basic VAT rate from the current 20% to 17.5%, whose contribution to inflation is expected to be around -1.1 percentage point. This change will be particularly apparent in price categories within adjusted inflation excluding fuels, as it will affect the majority of tradables prices and most prices of services. The reduction of the basic VAT rate will also affect prices of alcohol and tobacco, some administered prices and fuel prices.

Table 1 (Box) First-round impacts of VAT rate changes on inflation
The VAT changes will have the greatest impact on food prices
(percentage points)

^a) 2012: Increase in reduced VAT rate from 10% to 14% 
^b) 2013: Increase in reduced VAT rate from 14% to 17.5% and decrease in basic VAT rate from 20% to 17.5%