Value-added tax hike could add 2.2 points to inflation this month

Consumer price inflation in Spain is set for a big jump this month as a result of a hike in the value-added tax (VAT) rate from the start of September.

However, the size of the increase will be determined by the extent to which retailers decide to pass on the tax and the weighting of the items subject to VAT hikes in the consumer basket used by the National Statistics Institute (INE) to compile the consumer price index (CPI).

Almost 86 percent of the items included in the basket have been subject to hikes in VAT whose standard rate was raised to 21 percent from 18 percent and the reduced rate to 10 percent from 8 percent. The super-reduced rate remains unchanged at 4 percent. However, a number of different products and services such as flowers, cultural events and dental care have also been shifted from the reduced rate to the standard.

The weightings attached to items in the basket in the CPI vary considerably, from 0.8 of a thousandth of a percentage point in the case of rice to 13 thousandths of a point for furniture. Products and services where the rate has been raised from 18 percent to 21 percent have a combined weighting in the consumer price index (CPI) of 51.08 percent. These include items such as wine, beer, telephone services, clothing and footwear, furniture and auto repairs and servicing.

Those where the 4-percent rate continues to apply, such as bread, flour, milk, eggs, fruit and vegetables, medicines and books, account for 9.52 percent of the CPI, while those that have seen an increase from 8 percent to 18 percent have a weighting of 31.8 percent. These include items such as meat, fish, coffee and transport.

Experts calculate that if retailers were to pass on the full extent of the VAT hike the rise in the annual CPI in September would be around 2.2 percentage points. The CPI hit its highest point for the year so far in August, when it stood at 2.7 percent as a result of the increase in the cost of medicines as a result of a copayment system introduced by the government.

The items in the category subject to the new standard VAT rate would add 1.2 percentage points to the CPI, while those that have moved from the reduced rate to the standard rate will push up inflation by 0.35 points. Items subject to the reduced rate will account for an added 0.59 points in the CPI.

However, retailers are unlikely, if at all, to pass the full amount on immediately to customers and are expected to do so gradually at a time when the country has slipped back into recession.

"There will be some months in which we will see a rise in consumer prices, but once the knock-on-effect has run its course, we will return to normal levels," the secretary of state for the economy, Fernando Jiménez Latorre, said in July.

Ángel Laborda, who heads the economic studies sector of the think-tank Funcas, believes that most of the increase in VAT will be absorbed by companies. He said that Funcas expects between 35 to 40 percent of the hike in VAT will be passed on. That would mean a rise in the CPI of 0.8 percentage points. Of the 0.8 points, Funcas estimates that only 0.5 points will emerge in September, 0.16 points in October and the remaining 0.14 points in November.

"The first effect will come from sectors and products where the updating of prices is almost automatic, such as fuel and telephone services. In other cases it will be progressive, and in orders it won't be applied at all," Laborda says.