A new report by the Economic and Social Research Institute (ESRI) predicts sustained growth for the Irish economy despite Brexit and trade friction between China and the US causing international uncertainty. It recommends raising taxes in October’s Budget to avoid “overheating” the economy.
The recommendation does come with the caveat that it should not be followed in the event of a no deal Brexit. The authors of the ESRI’s Quarterly Economic Commentary for Q2 2019 — Kieran McQuinn, Conor O’Toole, Matthew Allen-Coghlan and Philip Economides — include the note that their forecast has been conducted on the basis that the “trading status of the United Kingdom remains equivalent to that of a full European Union State”.
With the 2020 Budget due to be delivered on 8 October, over three weeks before the UK’s latest date for withdrawal from the EU, Minister for Finance, Public Expenditure and Reform Paschal Donohoe TD has previously remarked that the Irish Government would have to make an “informed judgement” on what form of Brexit will be approaching at that time.
In his speech introducing his Summer Economic Statement, the Minister elaborated: “The Budget 2020 framework involves a budgetary package of €2.8 billion for 2020, which includes €0.7 billion for additional investment on capital programmes. Under the orderly Brexit scenario, this is consistent with a 0.4 per cent of GDP headline surplus for next year. With current and capital expenditure commitments amounting to €1.9 billion, and an expenditure reserve of up to €0.2 billion being established in 2020 to accommodate funding requirements for the National Broadband Plan and National Children’s Hospital, this leaves €0.7 billion to be specifically allocated as part of the Budget.
“Under the disorderly Brexit scenario, this could involve a headline deficit in the region -0.5 to -1.5 per cent of GDP for next year, depending on the magnitude of the economic shock. The wide range reflects the uncertainty surrounding the budgetary impact of such an unprecedented shock. In September, the Government will decide – based on information available at the time – which scenario will form the basis for Budget 2020. Both eventualities involve choices.”
The ESRI commentary predicts that domestic economic output will grow by 4 per cent by the end of 2019, and by a further 3.2 per cent in 2020 despite international pressures arising from Brexit and the United States and China’s continued economic brinkmanship. In delivering his Summer Economic Statement, Minister Donohoe says that the Department of Finance is predicting a 3.9 per cent growth for 2019, with a budget surplus of 0.2 per cent of GDP.
While it contends that the Irish economy is “operating at its full potential level” and that it “continues to exceed that of most other European countries”, the Quarterly Economic Commentary does warn that Ireland is “subject to heightened levels of uncertainty” economically. Contrary to the Minister’s claim of a surplus, the report predicts that the “General Government Balance will be back in deficit both in 2019 and 2020”.
This prediction is rooted in a dramatic fall in the level of corporation tax recouped by the Irish Government in the last year and the knowledge that previous recent surpluses run by the Government had been buoyed by a substantial intake of corporation tax. The proportion of corporation tax collected in 2019 fell by 28 per cent when compared with 2018, which itself had risen 24 per cent from 2017. 2017’s level of collected corporation tax had been another drop of over 20 percentage points from 2016. Despite this fall, every other tax heading is said to have experienced “robust growth”, especially excise duty and capital gains tax.
Before the release of the Summer Economic Statement, the Minister seemed cognisant of Ireland’s surplus/deficit balance being so heavily reliant upon corporation tax, saying: “Our revenue base has become progressively more reliant on corporation tax receipts in recent years. In view of growing uncertainty related to possible future changes in other jurisdictions, it is important to reduce the exposure of the public finances to this revenue stream.”
Under the disorderly Brexit scenario, this could involve a headline deficit in the region -0.5 to -1.5 per cent of GDP for next year, depending on the magnitude of the economic shock.
With increased public spending predicted, the commentary warns that “greater vigilance will also be required to ensure that large infrastructural projects, which are essential for sustainable growth, are delivered on an efficient basis”. “A number of high-profile cases have emerged recently where the final costs of certain projects seems to be significantly different from initial estimates,” it reads. “Given the pace of growth in the economy at present, increases in expenditure must focus on capital projects that increase the productive capacity of the economy.”
The expected increase in capital expenditure that will come with such infrastructural projects leads the ESRI report to state that “it may be advisable to run an explicitly counter-cyclical fiscal policy and instigate a mildly contractionary budget”. “Taxation increases in the area of carbon taxes or residential property taxes could be used to reduce some of the demand side pressures which are now evident in the domestic economy.” The report says. “These measures would also avoid the distortionary effects for employment of any changes in taxes on labour.” The need for the “financial vigilance” that would be shown by such taxation measures is, in part, necessary due to the aforementioned “recent cost overruns in the case of certain high-profile capital projects”.
The ambitious plans for public spending included in the National Development Plan and the need for further healthcare funding as Ireland’s population increases and ages have increased the need to “ensure that value for money is achieved where significant outlays of taxpayers’ money is concerned”. Various spend overruns such as the National Children’s Hospital and the National Broadband Plan have also made it key to ensure that improvements are made “in the processes overseeing such projects are required such that the initial estimates of certain projects should more accurately predict final costs”.
Minister Donohoe seems to agree with the contention of the report, but also warns that Ireland is facing a “difficult balancing act — steering the economy and the public finances through a potentially turbulent couple of years” which means having to “avoid the excesses that characterised budgetary policy during the 2000s while, at the same time, navigate the economy through a potential disorderly UK exit from the EU”.
The Minister also remarked that current fiscal rules are “clearly inappropriate for the Irish economy at this point in the economic cycle” and stressed the need to tailor his Budget to what he terms the “unusual” aspects of the Irish economy, such as the “limited information content of traditional economic variables such as GDP”. His plans to tackle such issues include options such as “formulating the debt rule in GNI terms, excluding parts of corporation tax receipts in assessing domestic compliance with the rules and using different estimates of potential growth”, considerations upon which he expects to make his budgetary recommendations to the Government this autumn.