The reform package presented to Con

The reform package presented to Congress on Monday by President Michelle Bachelet was in line with campaign pledges made ahead of her election last December. Key measures include cutting the highest rate of personal income tax, increasing the corporate income tax rate, and calculating corporate income tax on an accrual rather than the current cash basis. The reforms are intended to improve tax equality, reduce tax evasion and help fund social spending, particularly education reforms following student protests in recent years.

The government is acknowledging popular pressure for better living conditions and social mobility. Its continuing commitment to prudent fiscal management is demonstrated by its attempt to meet the resulting budgetary demands through a comprehensive package of long-term measures, to be phased in over four years, that will increase the tax revenue base. The government wants to eliminate the cyclically adjusted fiscal deficit by 2018, from 0.6% of GDP in 2013.

Tax rate increases and new tax categories would help the government increase the tax burden, which remains low relative to 'A' category rating peers. The reform could increase tax collection from large corporations, but its impact on future investment is difficult to predict (the current system of corporate taxation was designed in the 1990s to promote high investment ratios).

The reform proposal coincides with a slowdown of the Chilean economy due to falling copper prices and external demand, especially from China, and increasing labour and energy costs in the mining sector (which, by eroding profitability, have reduced mining-related taxation). On Monday Chile's central bank cut its GDP growth forecast for 2014 to 3%-4%, from 3.75%-4.75%, noting the drop in investment in recent quarters. If large Chilean corporates respond to the tax reforms by reducing investment rates, growth prospects could be further affected.

But the phasing in of the reforms may reduce this risk. And Chile's sound macroeconomic policy, strong institutional framework, political stability, and business-friendly environment will remain conducive to investment in the mining sector, while the country retains strong capacity to implement counter-cyclical monetary and fiscal policies to cope with external shocks.

Moreover, the reform offers investment incentives for SMEs. And even at its increased rate of 25%, Chilean corporate tax will not be especially high compared with other Latin American jurisdictions.