Indeed, the practice of reduced VAT on food or certain product baskets is popular in Europe, with most EU members having varying coverage of VAT reliefs on food products, and there are arguments both for and against it. So, what should Lithuania consider when observing such an experiment by its neighbor?
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The results of the first month show that Latvia’s decision to reduce VAT on some basic food products has yielded tangible results. As early as May, the Latvian Ministry of Economics agreed with producers, processors, and retailers that the effect of the relief would be fully passed on to final prices. In July, food and non-alcoholic beverages in Latvia became 3.1% cheaper year-on-year, and 2% cheaper in just one month. The biggest impact was from cheaper bread, poultry, skimmed milk, and eggs – precisely those products for which VAT was reduced.
However, it would be premature to call this result a victory for politicians in the fight against prices. Food prices are influenced by many different factors, so the impact of VAT relief may eventually “get lost” in the food value-added chain and its benefit may not reach the final consumer, or may reach only partially. Therefore, Latvia will have to carefully monitor throughout the entire validity period of the relief whether the reduced tax actually reaches the consumer’s wallet. Of course, such constant control costs taxpayers.
Another question is – why now? Food prices in Latvia are not rising this year. On the contrary, the country is among nine EU states where annual food price deflation has been recorded in recent months. So the VAT reduction more closely resembles a politically attractive decision ahead of the parliamentary elections in October rather than an urgent response to a food inflation shock.
Especially since this is a temporary relief. After a year, when the previous 21% VAT rate is reinstated, food prices will automatically jump. If at that time food raw material inflation is ramping up in international commodity markets, it would be a double blow to households.
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Indeed, food prices in Latvia are high and purchasing power has not grown as rapidly. According to Eurostat data, last year the price level of food and non-alcoholic beverages in our neighbor was 7.5% higher than the EU average. Meanwhile, in Lithuania it exceeded the EU average by only 3%, and in Estonia by about 10%. So Latvian consumers pay more for food, and their wages have not grown as fast as in Lithuania.
Various VAT reliefs also have obvious drawbacks. They cost the budget, are not targeted, and benefit not only people with the lowest incomes but also the well-off. Moreover, there are always disputes about which products should receive the relief. For example, why does a lower VAT apply to one type of meat but not another? Such differences can distort competition.
If this Latvian experiment becomes permanent, the pressure on Lithuania to introduce a similar relief will certainly increase, as the neighboring Poland also has it. However, in the fight against food prices, it is first worth looking for structural solutions: more competition in the food supply chain, fewer administrative barriers for smaller suppliers, more favorable conditions for new market participants, and less pressure from regulated costs.
And to protect households with the lowest incomes from food price shocks, it would be much more targeted to increase their incomes directly – through benefits or targeted compensations. VAT relief on food can temporarily reduce the price on the shelf, but it is not necessarily the cheapest or most effective way to help those who need assistance the most.
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