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- Irish Economy and Public Finances
Irish Economy and Public Finances
- Macroeconomic outlook
• Ireland is facing into a considerable recession in 2020. Much like the rest of the globe Ireland has put restrictions in place to help contain the Covid-19 pandemic. These have curtailed and will continue to curtail consumption, investment and trade across nearly all sectors. The length of the recession is not yet known but it is possible the initial impact is larger than the global financial crisis.
• The labour market highlights the immediate impact Covid-19 has had on the Irish economy. The restrictions required certain sectors of the economy to be effectively shut down. Non-essential retail, tourism, the arts, construction and restaurants are the most impacted. The Department of Social Protection has stated that 600,000 people have been issued a special pandemic unemployment benefit in recent weeks. There are also over 400,000 employees who are temporarily furloughed from work with the government currently paying 70-85% of their net wage.
• The high frequency indicators have as expected turned over. The composite PMI was 17.3 in April down from 54.7 in January. The manufacturing PMI has held up better than services (36.0 versus 13.9) although all three indicators (including construction) are in contraction territory (below 50). Encouragingly Ireland’s composite PMI have recorded better readings than most countries. For comparison, Spain’s and Italy’s composite PMI fell to 9.2 and 10.9 respectively. There is evidence that the PMIs – along with tax data - are leading indicators for modified final domestic demand in Ireland. These metrics will be monitored for an initial gauge of the size of the initial economic shock.
• Ireland is better positioned than most Euro Area countries to weather this black swan event. This is for several reasons. First, Ireland’s economy was growing robustly prior to 2020. Ireland was in full employment and had used the recovery period to repair balance sheets. Ireland’s economic structure could cushion the blow. Lastly, Ireland is living within its means unlike the 2005-08 period.
• The economy grew strongly before Covid-19. A broad range of metrics confirm this view. In 2019, modified final domestic demand (MFDD) - the best price-adjusted quarterly measure of underlying growth for Ireland – grew at 2.9%. This is a slowdown from the recent past but healthy for what was the last year of 2009-2019 economic cycle. MFDD which strips the multinational distortions has grown by 4.2% y-o-y on average since 2014. Another good barometer of the economy’s progress was the labour market. Employment stood at 2.4 million people at end 2019. Unemployment was 4.8% of the labour force as late as February 2020.
• Irish households are in a good position to fight this crisis. Ireland has used the recovery period to repair private sector balance sheets. From 2014-2019, disposable income has expanded in aggregate and debt levels have been lowered. In 2013, the debt to income ratio for Irish households was 187%. In 2019 this was down to 116%, the lowest ratio since 2003. Households have a lower interest burden and a saving rate close to EU average. This all means Irish households will not have to cut back on consumption as much as the last recession although the lockdown will curtail spending in the initial months.
• The presence of the multinational companies in Ireland should help to cushion the shock to Ireland’s economy. The large pharmaceutical and IT sectors in Ireland are more defensive sectors than others. The lockdown restrictions affect sectors such as tourism, retail, arts, construction and restaurants but less so agri-food, pharmaceuticals and ICT. In this regard, Ireland’s economic structure will mean we are better placed than other euro area countries. Indeed, 40% of Ireland’s wage bill in concentrated in the most affected sectors – less than the euro area average of 43.3%.
• Another difference from the last recession: Ireland is living within its means. Current account data in Ireland is to be taken with extreme caution given the presence of multinationals. Indeed the unadjusted current account recorded a surplus of 17% of GNI* in 2018 but then a deficit of 17% in 2019. The swings are due in part to the import of intellectual property into Ireland by multinational companies. A clear understanding of the current account is difficult in the face of these distortions. The CSO has released a modified current account (CA*) measure which aims to be consistent with its GNI* calculation. This CA* metric was in surplus from 2014-18 (between 0.5 and 6.5% of GNI*). 2019 data is unavailable at present.
• Turning to the outlook, this recession is an unusual one. Normally, some factor will cause an economy to fall slowly into a period of lower activity. It would take some time for the economy to rectify the issue before it emerges to growth again. The last recession for example was caused by a financial crisis and the legacy of debt it left for households and governments. This time, nearly every country affected by the Covid-19 pandemic has rightly enacted the necessary restrictions to control the public health crisis. Restrictions will begin to be relaxed in mid-May with potentially all sectors re-opened by August allowing for a recovery to begin in H2 2020. The hope would be that, brought out of hibernation, economies across the globe can recover quicker than in the last crisis. The proactive response of the major central banks and government would suggest this is possible.
• At this juncture, we think macro-economic forecasting needs to be taken with a large degree of uncertainty. Trying to forecast Ireland’s economy in the best of times is a difficult task. Add in a black swan event such as Covid-19 and the fan chart of outcomes is wide. As part of the annual SPU publication, the Department of Finance released a scenario for growth in 2020 and 2021. The scenario suggested underlying domestic demand could fall by 15% in 2020 versus 2019. They could be right in time but a wide confidence interval is necessary to interpret these figures correctly.
• A further risk to Ireland is Brexit. Pushed to the back of minds given the immediate concerns of the present, Brexit risk has merely been postponed rather than eliminated. A new cliff edge exit is possible at end 2020 if the UK and the EU do not agree a long term trade deal or an extension to the transition period. It can be hoped that given attention is elsewhere in 2020, some extension to the transition period can be agreed.
- Key Economic Figures
2018 2019F 2020F 2021F 2022F 2023F Consumer spending (% chg vol) 3.4 2.7 1.4 1.9 2.1 2.3 Government spending (% chg vol) 4.4 4.5 3.5 2.0 2.0 2.0 Investment (% chg vol) 8.5 3.2 -0.2 3.4 3.9 4.2 Exports (% chg vol) 10.4 10.2 0.9 4.2 4.1 4.0 Imports (% chg vol) -2.9 22.6 -6.5 2.9 4.4 4.6 GDP (% chg vol) 8.2 5.5 0.7 2.5 2.8 2.7 GNP (% chg vol) 6.5 4.3 -0.1 2.4 2.5 2.4 GNI*(%chg vol) 7.3 3.0 0.2 3.4 3.5 3.4 Nominal GDP (bn) 324.1 343.2 351.4 365.2 380.7 396.5 Employment (% chg) 2.9 2.4 0.8 1.1 1.5 1.7 Unemployment rate (% labour force) 5.8 5.2 5.7 5.9 5.9 5.7 HICP (% chg yoy) 0.7 0.9 1.3 1.4 1.8 2.0 GDP Deflator (% chg yoy) 0.8 0.4 1.6 1.4 1.4 1.4 General Government Balance (€bn) 0.2 0.7 -2.0 -0.2 0.1 0.4 General Government Balance (% GNI*) 0.1 0.3 -1.0 -0.3 0.1 0.7 Primary Government Balance (% GDP) 2.7 2.6 1.0 1.7 1.8 2.0 General Government Debt (bn) 205.9 203.6 198.5 205.8 207.1 213.2 General Government Debt (% GDP) 63.5 59.3 56.5 56.4 54.4 53.8 General Government Debt (% GNI*) 104.2 100.2 97.5 97.7 94.9 94.5 Average interest rate on stock of GG debt 2.6 2.3 2.0 1.9 1.9 2.0
Source: Department of Finance (Budget 2020, October 2019).
- Annual Public Finances
• The General Government Balance (GGB) will naturally be impacted by Covi-19. Prior to 2020, Ireland GGB was in surplus for the second consecutive year. The Minister for Finance indicated in the SPU that the GGB could be -€23.1bn or -13.3% of GNI* for 2020. Revenue could fall by close to 20%% as expenditure will go up by over 10%. It is too early to say if this estimate on the size of the deficit is plausible. Thankfully Ireland has used the recent economic cycle to repair its balance sheet. The debt stock is still high heading into the next recession but it is far more sustainable.
• Gross Government debt peaked as a percentage of GDP in 2013 at 119.5%. Following rapid GDP growth and the MNC distortions the debt ratio fell to 64% at end-2018. It is likely close to 59% at end-2019. Given the GDP distortions, Debt-to-GNI* is a more useful metric for evaluating Ireland’s debt sustainability. It has fallen from close to 170% to 100% in 2019. At the same time, the weighted maturity of the debt has been lengthened to stand at 10 years - one of the best in Europe. Ireland’s annual interest costs have been almost halved in a short few years to €4bn in 2020.
• We can expect debt metrics to reverse course in 2020. Debt to GNI* could rise to 125% by end 2020. Given the necessary borrowing to enact the appropriate fiscal response to the current crisis and to fund essential government services, the NTMA revised its funding range up to €20-24bn for 2020. At present €11bn has been issued in 2020.
• The GDP denominator issue means that other metrics of debt serviceability are required. Debt-to-GG Revenue (233% 2019), interest as a percentage of revenue (5.1% 2019) and the average interest rate on Ireland’s debt (2.3% 2019) are more apt measures for comparison with other sovereigns regarding Ireland’s debt serviceability.
• It should be noted however that Debt-to-GNI* understates the ability of Ireland to repay debt. GNI* excludes certain activities that the Irish State could possibly tax and hence excludes some part of its ability to repay. This means that the Debt-to-GNI* ratio is likely too high. With debt-to-GDP too low, it is fair to say the reality of Ireland’s “proper” debt ratio is somewhere in between.
08 May 2020
- Key Annual Public Finance Figures
Annual Public Finances on EU-Comparable general Government basis
Description European System of Accounts
2018 2019F 2020F 2021F 2022F 2023F €bn €bn €bn €bn €bn €bn Revenue Taxes on production and imports D.2 25.5 26.6 27.2 28.1 28.8 29.7 Current taxes on income, wealth D.5 34.6 36.2 37.5 39.1 41.0 43.1 Capital taxes D.91 0.5 0.5 0.5 0.5 0.5 0.6 Social contributions D.61 13.5 15.1 15.6 16.4 17.2 18.2 Property Income D.4 1.3 1.7 1.3 1.2 1.2 1.3 Other 7.0 6.3 6.6 6.8 7.1 7.4 Total revenue TR 82.3 86.4 88.7 92.1 95.9 100.3 Expenditure Compensation of employees D.1 22.2 23.0 23.7 24.1 24.2 24.1 Intermediate consumption P.2 11.0 13.2 14.2 14.5 16.0 17.6 Social payments D.6 30.1 30.0 31.0 31.4 31.6 31.6 Interest expenditure EDP_D.41 5.2 4.7 4.0 3.7 3.9 4.0 Subsidies D.3 1.9 1.6 1.4 1.4 1.4 1.5 Gross fixed capital formation P.51 6.3 7.9 8.8 9.1 9.4 10.0 Capital transfers D.9 1.7 1.8 2.3 2.8 3.1 3.5 Other 3.8 3.5 3.9 3.9 4.0 4.1 Total expenditure TE 82.2 85.7 90.7 92.8 95.7 98.8 General Government Balance (GGB) B.9=TR-TE 0.2 0.7 -2.0 -0.2 0.1 0.4 GGB as % of GDP 0.1% 0.2% -0.6% 0.7% 1.0% 1.3% GGB as % of GNI* 0.1% 0.3% -1.0% -0.3% 0.1% 0.7% Primary Balance (PB) 5.4 5.4 2.0 3.5 4.0 4.4 Primary Balance as % of GNI* 2.7% 2.6% 1.0% 1.7% 1.8% 2.0%
NOTES & SOURCES
Source: Department of Finance (Budget 2020, October 2019)
- National Accounts Distortions
• From 2015 onwards, Ireland’s national accounts are distorted by the reclassification of multinational companies or their assets as being resident in Ireland. Given the presence of such large distortions, GDP and GNP have little information content in regards to Ireland’s economic activity.
• The reclassification of multinational companies’ activity as Irish expanded the capital stock in 2015 by c. €300bn or c. 40%. In some cases, whole companies redomiciled in Ireland while in others multinationals moved assets (mostly intangibles) to their Irish-based subsidiary. The goods produced by the additional capital were mainly exported. This resulted in a step change in net exports Q1 2015. Net exports grew by over 100% in 2015. Complicating matters, the goods were produced through “contract manufacturing”. The result of contract manufacturing is a goods export is recorded in the Irish Balance of Payments even though it was never produced in Ireland. There is little or no employment effect in Ireland from this contract manufacturing.
• Contract manufacturing (CM) has occurred in Ireland in the past but did not have a significant net impact on GDP since the company engaged in CM would send royalties back to its parent as a royalty import. However now that the parent/intangible asset is here, there is no royalty import and Ireland’s GDP is artificially inflated. This scale of contract manufacturing (c. €70bn) is unprecedented.
• Further to these distortions, the continued import of intellectual property by firms in Ireland gives a misleading picture on the drivers within Irish growth. When a firm moves IP into Ireland it is recorded as an import and also as investment. These two net out so overall GDP is not affected however the net exports and investment figures are distorted. Adjusting for this provides a better picture of the drivers of Ireland growth.
- National Accounts Distortions - Data Table
National Account – Current Prices
(Euro, y-o-y growth rates)
Gross Domestic Product (GDP)
minus Net Factor Income from rest of the world
= Gross National Product (GNP)
add EU subsidies minus EU taxes
= Gross National Income (GNI)
minus retained earnings of re-domiciled firms
minus depreciation on foreign owned IP assets
minus depreciation on aircraft leasing
• In response to the distortions, the CSO convened the Economic Statistics Review Group (ESRG) to identify indicators that would provide a better understanding of Ireland’s highly globalised economy. In February 2017, the ESRG released its recommendations. The CSO has agreed to implement these recommendations.
• Among the main proposals were the publication of two new supplementary indicators, one closely related to Gross National Income (known as GNI*) and another is a modified version of domestic demand.• For GNI*, Gross National Income is stripped of the profits of redomiciled companies, depreciation on R&D/ IP assets and depreciation on aircraft leasing. On a nominal basis, GNI* amounted to €197bn in 2018 compared with €324bn for Gross Domestic Product (GDP). GNI* grew 7.3% in nominal terms in 2018. • Modified final domestic demand can give us a more-timely gauge of the real economy in the quarters ahead. Modified final domestic demand (which excludes inventories) grew in real terms by 2.6% y-o-y in Q3 2019. This measure is domestically focussed and is constructed to be largely unaffected by the activities of multinational companies. The measure includes private consumption, government consumption and elements of investment.
13 February 2020