I think we will go through most of what I have here during the meeting. Thanks to the Chairman and the committee for the invitation. As the Chairman said, I am joined by Eddie Casey, chief economist and head of secretariat at IFAC, and Niall Conroy, an economist with the secretariat and other members of the secretariat.
The council published its fifth pre-budget statement on 7 September which reviews the fiscal stance in advance of the budget. The assessment is based on an economic analysis assessing the appropriateness of the fiscal stance and an assessment of the Government’s fiscal plans in terms of the overall budgetary framework. At the outset, we think it is important to note the substantial progress that has been made to move the public finances to a safer position since 2008. The Government is running close to a balanced budget. Debt ratios look to be on a steady downward trajectory and near-term growth and interest prospects are relatively favourable. This means that Ireland is in a good position to move the public finances to safer levels and that there is no need to stimulate the economy any more than is already planned.
In assessing the appropriate fiscal stance for 2019, the council notes that the economy is close to its potential and that the budget deficit, excluding one-off items, is almost closed. This would imply that the structural budgetary position is also near balance. This suggests that little further adjustment is required in structural terms to close an underlying deficit or to enable a steady pace of reduction in the Government debt ratio.
To maintain this position, it is essential that spending increases or revenue reducing measures are introduced at a sustainable pace. The council therefore assesses that the Government should stick to its existing budget plans for 2019 of a budget day package of €800 million. This would increase Government expenditure, net of tax measures, in line with the sustainable long-term growth rate of the economy. Various estimates put this at approximately 3.25% per annum. When combined with inflation, this would imply an approximate limit of up to €3.5 billion for spending increases or tax cuts for 2019. There is no case for additional stimulus in 2019 beyond this figure.
The cost of previously announced measures, including sharp increases in public investment spending, means that the scope for new initiatives in budget 2019 is limited. If additional spending measures are to be addressed in 2019 beyond the quantity in the summer economic statement, these should be funded by additional tax increases or through re-allocations of existing spending.
An earlier than planned move to a small budget surplus would be warranted if cyclical growth and corporation tax receipts continue to exceed expectations. Any unexpected increases in tax revenues or lower interest costs that arise this year or in 2019 should not be used to fund budgetary measures beyond those currently planned.
The risks of overheating and the narrowing window of opportunity provided by a favourable external environment would suggest that improving the budget balance by more than currently planned would be desirable. This would be especially warranted if revenues were to outperform expectations for reasons that might prove to be temporary. This includes higher corporation tax receipts or stronger than expected growth in the domestic economy. The Government should instead use these receipts to build buffers either through additional contributions to the rainy day fund or through a budget surplus and faster debt reduction. Moreover, expenditure ceilings should not be allowed to continue to drift up as unexpected and likely cyclical or transitory revenues arise.
Most plausible estimates suggest that the domestic economy has been growing faster than its potential growth rate since 2014 and is now close to its potential. Central forecasts suggest that it will move beyond potential from 2019 onwards, with some overheating emerging in later years. Looking ahead, it is inevitable that adverse shocks will occur in coming years. Three major sources of potential downside risks to Ireland are apparent: Brexit, rising protectionism and the international tax environment.
The size and nature of potential impacts from various Brexit scenarios are highly uncertain.
In the context of the international tax environment, the highly concentrated nature of Irish corporation tax receipts means that substantial reductions in Government revenue could arise if even one large firm was to relocate its operations elsewhere.
Although efforts to stabilise the public finances since the crisis have proven successful, improvements on the budgetary front have stalled since 2015. This comes despite a strong recovery in the economic cycle – both domestically and internationally – in addition to a supportive monetary policy environment. Non-interest spending has risen at essentially the same pace as tax revenue since 2015 and, as a result, the strong cyclical recovery and favourable external environment have not led to any notable improvement in the underlying budgetary position, excluding interest savings. Recent revenue growth has been supported by short-term cyclical developments and a possibly transient surge in corporation tax receipts. Looking through these effects, the underlying structural position would appear to have deteriorated since 2015.
Health spending for 2018 again looks set to exceed the level of planned increases set out at budget time. The Department of Health has experienced numerous overruns historically, and the problem of unrealistic forecasts coupled with a soft budget constraint has undermined the credibility of expenditure ceilings. To ensure that the overall level of spending increase for 2018 does not go beyond existing planned increases, and to ensure that the pattern of spending drift does not continue into 2018, it is important that pressures in the Department of Health budget should be absorbed elsewhere.
Ireland’s debt burden is still among the highest in the OECD. When set against a more appropriate measure of national income such as GNI*, Ireland’s net debt burden for 2017 was equivalent to 96%, the fourth highest in the OECD, behind only Portugal, Italy and Japan.
Looking beyond this budget, the council assesses that the Government should reinforce its medium-term plans to ensure they are credible. Focusing on the right budgetary stance and being prepared to be more cautious than the fiscal rules allow is the correct approach for the Government to follow over the medium term. This is particularly true given that the strict legal application of the current fiscal rules using the EU’s commonly agreed methodology for potential output estimation will not necessarily prevent a repeat of pro-cyclical fiscal policy mistakes made in the past. The rainy day fund is potentially very useful in this regard, but is currently only half-formed and needs further development if it is to be effective.
I thank the committee for providing us with the opportunity to attend. We look forward to taking questions and hearing the views of members.