Quarterly Economic Observer Winter 2016 - "The Implications of a Hard Brexit for the Northern Ireland Economy"

This edition of the NERI’s Quarterly Economic Observer (QEO) outlines our assessment of the economic prospects for both Northern Ireland and the Republic of Ireland (Section 1) and provides an examination of the potential impacts of a ‘Hard BREXIT’ on the Northern Ireland economy (Section 2).

Economic Outlook for Northern Ireland

There is little indication of any slow-down in the UK economy post referendum and the prospects for the Northern Ireland economy in the very short-term look reasonably stable. There have been no official output statistics for Northern Ireland since the referendum but unofficial estimates would indicate that if BREXIT uncertainty has had an impact, it was limited in the short run. How the economy will fare once the BREXIT process is actually underway is much less clear.  

The construction sector has been the predominant driver of output growth in the first half of 2016, but employment statistics would indicate that much of this activity is generated by the activity of Northern Ireland firms in Great Britain.

The performance of the Northern Ireland labour market over the summer months has been positive with the employment rate reaching  over 74%. Whilst the longer-term impacts of BREXIT are still to come; the depreciation of Sterling is likely to have boosted cross-border trade and employment in retail and hospitality.   

There are however some more troubling trends emerging in the labour market particularly with regard to age and gender. The increase in male unemployment may be linked to the upsurge in redundancies within the manufacturing sector, whilst the increase in youth unemployment is a worrying reversal. 

The UK government’s Autumn Statement was delivered in the context of a significant downgrade to the OBR’s projections for the UK economy. Whilst there will be a small investment boost for the NI Executive, the overall fiscal adjustment from the last Spending Review is unchanged, and this will pose a significant challenge for the NI economy over the next five years.

Further reductions to the UK corporation tax rate along with policy statements from the incoming Trump administration put the efficacy of the NI Executive’s corporation tax policy into serious doubt. This policy should be abandoned and fiscal resources prioritised elsewhere.  

Outlook for the Republic of Ireland

Growth in output in 2016 has been strong particularly with regard to domestic demand and personal consumption. Whilst the labour market continues to perform well, wages have yet to match the performance of employment.

Despite significant reductions, government debt remains elevated and this could raise concerns in light of revenue vulnerabilities particularly with regard to corporation tax.

Budget 2017 made modest use of the fiscal space available to the government and while policies announcements on childcare and aggressive tax avoidance were welcome, the cuts to capital acquisitions taxes and policies to boost housing demand were particularly imprudent.

Overall we forecast that unemployment will continue to fall but the rate of  growth in output will start to slow in 2017.

The Implications of a Hard BREXIT for the Northern Ireland Economy

The increasing likelihood of a ‘Hard BREXIT’ is already having an impact on the Northern Ireland economy through the significant reduction in the value of Sterling. This will feed into domestic inflation which we expect to increase to 2.7% by the middle of 2017 resulting in a possible cut of up to 0.5% in real wages across Northern Ireland.

Upward pressure on wages and increased input costs more generally will eventually erode Northern Ireland’s current advantage in cross border trade and exports more generally.

Whilst leaving the Single Market does pose significant difficulties for the Northern Ireland economy, it would not benefit Northern Ireland to remain in the Single market if the rest of the UK decided to leave.  

If the UK seeks access to the Single Market through Equivalence arrangements the Northern Ireland Executive should seek additional powers in product and market regulation to maintain optimal arrangements for both EU and GB trade.

A Hard BREXIT will in all likelihood also involve the UK leaving the Customs Union and this represents a more immediate and direct threat to trade for Northern Ireland. Rules of Origin procedures will lead to increased bureaucracy for firms in Northern Ireland and will inevitably lead to the reestablishment of customs checks on the land border with the Republic of Ireland.

An economic case can be made for Northern Ireland to remain within the Customs Union alone but this would necessitate custom checks on goods entering Northern Ireland from Great Britain.

Outside of the Customs Union the Northern Ireland Executive should seek a regional presence for Department for International Trade in order to provide support for firms engaged in cross-border and EU trade.

Inward migration to Northern Ireland from the European Union has had a significantly positive effect on the local labour market. Northern Ireland has historically performed badly with regard to both economic activity and skills acquisition. On both these measures people born in the EU significantly out-perform those born in Northern Ireland.

In the event of a Hard BREXIT, the NI Executive should look for a derogation from any curbs to freedom of movement at UK level. This would both ensure an open border with the Republic of Ireland and also prevent a sudden deterioration in the Northern Ireland labour market.

Overall a Hard BREXIT is likely to be more economically disruptive for Northern Ireland. Remaining within the Single Market and most importantly the Customs Union would be the optimal situation, but as this QEO outlines, there are policy actions that can be taken to ameliorate the economic damage if this is not the case. 

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