Quarterly Economic Observer, Autumn 2014
This edition of NERI’s Quarterly Economic Observer (QEO) provides an overview of recent economic trends (Section 2) and outlines NERI’s current expectations for the economic outlook in Northern Ireland and the Republic of Ireland (Section 3). The QEO also outlines a strategic approach to fiscal policy in the Republic of Ireland and considers a range of fiscal policy options through the twin lens of equity and growth (Section 4).
The economic outlook for both parts of the island of Ireland remains positive and the outlook for the Republic of Ireland in particular has improved since the Summer QEO. The Republic’s economy grew very strongly in the first half of the year. Comparing the first half of 2014 with the first half of 2013 there was an increase in real GDP of 5.8%. Although we expect the pace of growth to moderate in the second half of the year we are still projecting fairly strong growth in output for the remainder of 2014, and also for 2015 and 2016. Even so a number of concerns remain including high levels of private indebtedness, weak credit conditions and high levels of long-term and youth unemployment. The recovery remains fragile and the weak performance of the Euro area, and the threat of deflation, could begin to weigh on the Republic’s economy.
Unemployment will continue to fall but is likely to remain in double digits until 2016. While employment growth was weaker than expected in the first half of the year we believe there is a high level of resource slack in the economy and see steady employment growth out to 2016. The recovery in employment has not been geographically uniform. In general employment is expanding in the east of the country and declining in the west of the country. In the year to June 2014 employment declined by 7,300 in the South-West region; by 5,400 in the Western region and by 2,900 in the Mid-West region.
As outlined in Section 3, our current projections for the Republic of Ireland include:
- GDP Growth in 2014, 2015 and 2016 of 5.0%, 3.0% and 2.9% respectively. The return to growth will mainly be driven by increasing investment and a strong export performance.
- A return to modest growth in personal consumption in 2014 after a decline in 2013 and a strong return to growth in investment.
- Continued improvement in employment with the unemployment rate falling to an average of 11.5% in 2014, 10.6% in 2015 and 9.8% in 2016
The deficit figures are helped by the favourable revisions to GDP under ESA2010 along with the strong pace of the recovery both in employment and especially GDP growth. We now anticipate a deficit of 3.7% of GDP in 2014, and 2.1% of GDP in 2015.
Our outlook for Northern Ireland is generally positive and we continue to project that:
- Economic recovery will start to take hold with modest increases in employment and output.
- But that the pace of recovery will continue to lag that of the UK and the Republic.
- Uncertainty about the UK’s position in the European Union may dampen the North’s ability to attract investment over the next few years.
A Strategic Approach to Fiscal Policy in the Republic of Ireland
- Public debt levels in the Republic remain extremely high and by the end of 2013 were equivalent to 123.3% of GDP and 145.1% of GNP. The General Government Balance (GGB) recorded a deficit of 5.7% of GDP in 2013.
- While the public finances remain fragile they will continue to improve provided that monetary policy remains supportive and growth returns to the real economy. We estimate the public deficit will be close to 3.7% of GDP in 2014 and 2.1% of GDP in 2015.
- The debt-to-GDP ratio should decline steadily over the next few years supported by growth in nominal GDP and by extremely low interest rates.
- On the balance of evidence it appears Ireland’s structural deficit is now close to zero, albeit still marginally in deficit. This implies there is minimal need for additional new Budgetary consolidation measures. It remains our analysis that the scale of the Budgetary adjustment in Budget 2015 should not exceed €800 million.
- Public policy must now focus on the real side of the economy – employment, real incomes and growth. Fiscal policy has a critical role to play in this regard and public investment is of particular importance.
- The public investment to GDP ratio is currently very low by European standards and by historic standards in the Republic of Ireland. Alongside this, the State’s cost of borrowing is now at an historic low while the ability of the private sector to invest is being constrained by a lack of access to credit.
- The long-term rate-of-return to the Irish economy from prudently targeted public investment is very likely to exceed the current cost of borrowing. There is a strong case for the Government to borrow to fund a large-scale programme of public investment focussed on areas such as social housing, education and high speed broadband infrastructure. NERI • Quarterly Economic Observer • Autumn 2014
- The State’s very low cost of borrowing provides an opportunity for increased debt issuance to fund a large-scale programme of public investment. Public capital investment should be increased to average at least 3% of GDP over the next few years.
- Government revenue as a percentage of GDP in the Republic of Ireland is very low compared to Western European standards and also compared to the most competitive countries in the European Union. The Republic’s debt burden is still high and there is no scope for reducing the overall level of taxation in the medium-term without causing damage to public services. Cuts to government revenue would have to be funded through offsetting cuts to public spending.
- Further cuts to public spending will put immense pressure on public services, public investment and social transfers. Primary (non-interest) public spending is already low by EU standards, and by modern historical standards in Ireland.
- Instead of cutting taxes a social emergency fund should be created and targeted at the most vulnerable people and communities in Irish society. Reversing cuts to mental health services should be a priority as should a programme of social housing and additional training and education supports for young people.