Costa Rica’s economy is 64.8 percent free, according to our 2008 assessment, which makes it the world’s 49th freest economy.

Its overall score is 0.2 percentage point higher than last year. Costa Rica is ranked 11th out of 29 countries in the Americas, and its overall score is higher than the regional average.

Costa Rica scores well in investment freedom and government size. The economy ranks above average in six of 10 areas. Personal and corporate tax rates are moderate, and tax revenue is fairly low as a percentage of GDP. Other factors, including trade freedom, where it boasts a low average tariff rate, also score moderately well.

Costa Rica could improve its monetary freedom and financial freedom. State-owned banks dominate the financial sector. The court system, while transparent and not corrupt, is extremely time-consuming and complicated.

Background:

Costa Rica is a democracy but does not enjoy robust democratic capitalism. Since 1980, economic growth has been hurt by staggeringly high interest rates, heavy debt service requirements, 18 percent average annual inflation, and a bloated public sector. Former President Oscar Arias (1986–1990) was narrowly elected for a second time in February 2006 and pledged to break up state monopolies in telecommunications, utilities, petroleum, refining, banking, insurance, and social security pensions. His gradual and heavily regulated “openness” approach to privatization, however, has lacked momentum. Arias promises both to balance the budget and to ratify by referendum the already signed Central America–Dominican Republic–United States Free Trade Agreement in 2007. Costa Rica is the only CAFTA–DR partner for which the agreement is not yet in force. Hard-left Venezuelan President Hugo Chávez has supported opponents of the agreement.

Business Freedom – 59.7%

The overall freedom to start, operate, and close a business remains limited by Costa Rica’s national regulatory environment. Starting a business takes an average of 77 days, compared to the world average of 43 days. Obtaining a business license requires less than the world average of 234 days. Bureaucratic procedures discourage entrepreneurial activities, and the process for closing a business is relatively lengthy.

Trade Freedom – 81.8% Costa Rica’s weighted average tariff rate was 4.1 percent in 2005. Despite an electronic one-stop import and export window and other improvements, customs processing procedures remain complex and bureaucratic. Sanitary and phytosanitary requirements, some export controls, service market access restrictions, peak tariffs, export promotion programs, and issues involving the protection of intellectual property rights add to the cost of trade. An additional 10 percentage points is deducted from Costa Rica’s trade freedom score to account for these non-tariff barriers.

Fiscal Freedom – 82.9%

Costa Rica has moderate tax rates. The top income tax rate is 25 percent, and the top corporate tax rate is 30 percent. Other taxes include a general sales tax and a tax on interest. In the most recent year, overall tax revenue as a percentage of GDP was 13.6 percent.

Freedom from Government – 87.4%

Total government expenditures, including consumption and transfer payments, are moderate. In the most recent year, government spending equaled 20.5 percent of GDP. A state-led economic development model has generated relative prosperity, but the complicated structure of state agencies is costly. Privatization is slow in the face of popular opposition.

Monetary Freedom – 67.9%

Inflation is relatively high, averaging 12.1 percent between 2004 and 2006. Relatively unstable prices explain most of the monetary freedom score. The government controls the prices of goods on a basic consumption list, including energy, petroleum, telecommunications, and water. An additional 10 percentage points is deducted from Costa Rica’s monetary freedom score to adjust for measures that distort domestic prices.

Investment Freedom – 70%

Costa Rica has one of Central America’s better investment climates and treats foreign and domestic investors equally. A few sectors, such as insurance, telecommunications, hydrocarbons, and radioactive materials, are reserved for state companies; a few others, such as broadcasting and electrical power generation, require participation of a certain number of Costa Ricans. There are no restrictions on land purchases, although some expropriation of land owned by foreign investors has occurred. Political and economic stability and a skilled workforce are inducements, but litigation and dispute resolution can be protracted and costly. There are no controls on capital flows, but reporting requirements are mandatory for some transactions. There are no restrictions or controls on the holding of foreign exchange accounts, readily transferable and available at market clearing rates, by either residents or non-residents.

Financial Freedom – 40%

The 15 private banks in Costa Rica’s government-influenced financial system operate freely, but the three state-owned banks dominate the sector and account for 54 percent of assets. About half of the private banks are owned by foreign investors, and dollar-denominated lending is common. Nearly all Costa Rican banks have significant offshore banking operations. Credit is available on market terms, but the government retains considerable influence over lending, especially for projects deemed to be in the public interest. Accounting is transparent and compatible with international norms. The state-owned Instituto Nacional de Seguros monopolizes insurance, but other institutions may sell its underwritten policies. The pension system is partially privatized. Capital markets are small, and most trading involves government debt.

Property Rights – 50%

The judicial system can be slow and complicated. Contracts are generally upheld, and investments are secure, but it takes an average of more than 1.5 years to resolve a contract-related legal complaint. Resolution of squatter cases can be especially cumbersome; the system quickly recognizes rights acquired by squatters, especially when land is rural and not actively worked. Enforcement of laws protecting intellectual property rights is often ineffective.

Freedom from Corruption – 41%

Corruption is perceived as present. Costa Rica ranks 55th out of 163 countries in Transparency International’s Corruption Perceptions Index for 2006. The government does not assign nearly enough resources to enforce anti-corruption laws, regulations, and penalties. Some foreign firms have complained of corruption in the administration of public tenders.

Labor Freedom – 66.8%

Relatively flexible employment regulations could be improved for further employment opportunities and productivity growth. The non-salary cost of employing a worker is high, but dismissing a redundant employee is relatively costless. Regulations on modifying working hours are flexible.