I thank the Chairman and committee for the invitation to speak to them today. They asked us to discuss the implications of the fiscal compact treaty on the economic stability of Ireland. If we take a step back from it, most Irish voters in the upcoming referendum will face very much a Hobson's choice in choosing whether to accept or reject the treaty. Either way Ireland is likely to face into a long number of years of fiscal consolidation in order to reduce our debt to a sustainable level. The degree to which austerity will be imposed over the medium term will be determined less by the fiscal rules that will be on our Statue Book and probably more by how we will be financed over the short to medium term once the current bailout programme finishes in 2013. Ultimately, it seems that any decision to support or reject the treaty will hinge on the view taken of Ireland's funding prospects over the next three years and whether we can go it alone and return to the international capital markets or whether we need the reassurance of a backstop of access to the ESM to reassure investors we have some fall-back solution.
I am speaking in an individual capacity here today. SIPTU has yet to make a decision as to how it will encourage its members to vote. It is no secret that the union does not agree with the content of the treaty and its economic strategy. There is a view shared by many across the union movement that the treaty will exacerbate rather than improve the economic slowdown we are currently witnessing across the EU. SIPTU and the Irish Congress of Trade Unions have yet to make a decision as to how they will encourage their members to vote.
We need to see an improvement in the rules that are there. During the past 12 months we have seen a significant stepping-up in the debate surrounding the desirability of fiscal rules. The Government has come out with its set of proposals for three new rules to be put into Irish legislation, namely, the public finances correction rule, the prudent budget and the sustainable expenditure rule. Last December the EU Council of Finance Ministers signed off on the so-called six-pack, which are measures designed to reinforce and strengthen the Stability and Growth Pact, and now we have the fiscal compact treaty.
The EU experience to date, both with the deficit and debt rule, has been very much a disaster, not least because of the enforcement issues but also because of huge failure to account for the different structural and sectoral compositions across various EU economies. In that context, I am very much of the view that the six-pack, although there are significant concerns about it, was a welcome innovation and an important development in terms of strengthening the Stability and Growth Pact to include the one-twentieth debt reduction rule and the early warning system in terms of looking at the macroeconomic imbalances.
Clearly, the fiscal compact treaty raises the bar significantly and very serious questions must be asked as to the economic rationale behind trying to bring about convergence towards zero deficit fiscal positions across EU member states. When I hear certain proponents talk about the need for the ratification of the fiscal treaty and that it will inspire confidence domestically and in international capital markets, often certain people omit to mention that we now have the six-pack measures in place. If they are allowed to operate, there is a view, which I share, that they could have a positive effect in better co-ordinating economic governance. The fiscal compact takes that to a new level, however.
For too long we have been critical of the EU leaders' snail's pace in terms of reform. We have had EU summit after EU summit at which there were many promises of action but very little impact. The sheer speed with which the fiscal compact was mooted and then signed off by the EU leaders within a six weeks to two months period, from December to February, was striking. That in itself tells a story about the political agenda at work at EU level. I am not commenting on the Irish position on this but at the EU level in terms of the French and the German political agenda.
The structural deficit is a poor choice of target. As Mr. Doorley stated, the committee has had people before it in recent weeks and I will not rehearse those arguments, but it is not a well-defined simple target to measure and is far from transparent. The interesting aspect is that it is far from consistent and if we consider the European Commission's index on the strength of fiscal rules, the structural deficit target fails that measure in terms of the margin of error associated with it. The stronger the rule, the less the margin of error will be associated with the rule.
There is some consistency in terms of the number of provisions we have seen in recent years in the structural deficit but major issues arise in terms of the differences in the way it has been calculated by the IMF, the ESRI, the Department of Finance and the EU. The structural deficit rule is not adequate. It would never have stopped the accumulation of the huge sectoral imbalances and the unsustainability of the property boom we saw here, and it would not have anticipated the collapse in the construction and property related tax revenues. It is interesting that Ireland breached the structural deficit rule only three times in the nine years between 2000 and 2008. That is significant in terms of the predictive capacity of that rule. There is very little flexibility associated with the rule in that, as other people stated, it leads to a long-term level of growth if we are to comply with the 0.5% structural deficit target. That is below what is sustainable, particularly for the Irish economy and for a number of other economies.
A major question arises as to the enforceability of the rule which I will elaborate on later with regard to some of the political developments we have seen this week at EU level.
In terms of the way it will be implemented and the economic impact in Ireland, in the short term acceptance of the fiscal compact treaty will be of little consequence to the public finances because we are already within the fiscal adjustment programme. The key aspect will be the publication of the Government's fiscal responsibility Bill which we expect to see in June. There has been a deferral of that. We expected it at the end of the first quarter this year but it has been pushed out to June. Only then will it become apparent which fiscal adjustment path future Governments will be bound by post-2015.
The other big development we will be looking to see is the clarification with regard to the timing. If we know whether the one-twentieth rule, the debt reduction rule, is to be applied, the Government has about three years, between 2015 and 2018, to get to a position where it is reducing by one-twentieth every year. If we examine the Department of Finance rules as currently structured and the Irish Fiscal Advisory Council's assessment of those rules, we are looking at the generation of primary surpluses of the order of 4% from about 2017 onwards. There are huge timing differences in that regard and that will determine the degree of fiscal austerity or consolidation that will happen post-2015.
Already, some progress has been made on the structural deficit, which was approximately 8.6% last year, but by 2015, and if the Irish Government manages to achieve the targets set out, the structural deficit will still be 3.7%. There is a long road to travel, therefore, to try to get to the 0.5% target.
In terms of the level of primary surpluses that have to be generated, we know that by 2014 the gap between current spending, excluding interest, and tax revenues will be effectively closed and that the vast majority of our general Government deficit will be attributable to the debt servicing payments, the interest Ireland must pay on its debt, and the paying down of its debt. The big question is how high those primary surpluses will need to be over future years, depending on the rule that is applied. Looking at the Irish Fiscal Advisory Council's calculations, even if it applies the rule the Department of Finance is talking about, it will exceed the one-twentieth rule but it still will not get anywhere near the 0.5% structural target over the next number of years post-2015, which in some ways calls into account whether Ireland is facing a near impossible task given the scale of the debt we are currently facing in terms of trying to write down that debt and achieving that 0.5% target over the medium term.
All of that points to enforceability not only for Ireland, but at a wider EU level. The experience of Spain in recent days provides some mildly tentative evidence that there might be some political flexibility. However, if we consider the experience of Belgium in the first few weeks of the new year, there was a significant disagreement between the European Commission and the Belgium Government on the growth forecast there and the success or otherwise of their budget in terms of raising a certain share of tax revenues. Belgium was asked to find at least €1 billion in savings over a very short period of time. While we might have some confidence that there might be some political flexibility, I do not believe we can depend on anything in that regard.
For Ireland, I have said that in the short term we will not see any immediate effect but, ultimately, over the longer term Ireland will be hit not once but twice by the balance budget rule. The more immediate negative spill-over effect will be in terms of reduced intra-EU import demand. This year, 20 out of the 27 EU member states are in breach of the excessive deficit procedure. If we apply the structural deficit rule that rises to 25 countries out of the 27. Germany, the Netherlands and Austria are included in that range of countries and they account for approximately 27% of EU GDP. A synchronised fiscal contraction across the European Union, therefore, can only have the effect of depressing domestic demand in those countries and export demand here, with significant implications for living standards and for Irish exporters.
To put that in context in terms of the Irish dependence on intra-EU trade, Professor Boyle spoke in terms of the food and agricultural exports but if we take all goods exports, Ireland depends on intra-EU trade for about 58% of its goods exports. Ireland's dependence on the EU is probably lower compared to other EU countries but, nonetheless, to have three out of every five euros of our goods exports going to the EU is significant. Irish services exporters will fare even worse because about 61.3% of Irish services exports go to the EU. That is telling in terms of the impact of a synchronised fiscal contraction and its potential impact for Ireland.
Ultimately, the crucial factor, and there is a growing view in terms of determining a "Yes" or "No" vote, will be whether Ireland will need a second bailout and whether we will need to access the European Stability Mechanism. Current programme funding for Ireland will dry up in 2013 to 2014 presenting the first major real test for Ireland. At this point, the immediate priorities for the Irish Government are to comply with the targets if and where possible and to minimise the price Ireland must pay for future funding. This is the lens through which I am viewing the vote on the fiscal compact treaty.
On the question of whether we will need a second bailout, Irish bond yields enjoyed a small positive rally at the start of this year but they remain at or around 7%. This is cold comfort to the Irish Government in terms of going to the international capital markets to borrow at current rates, remembering that we entered the bailout with bond yields at or around 6%. It is important to remember this. While there were some successes earlier in the year with the NTMA exchanging €3.5 billion in bonds, reports seemed to suggest that the vast majority of this was taken up by Irish banks. Irish banks were able to benefit from the first round of the long-term re-financing operations that the ECB launched this December. There were two rounds of the LTRO, as it is called. Whether there will be future rounds is open to question in terms of the liquidity that will be available to the Irish banks allowing for engagement in future bond swaps and purchases.
As stated, Ireland's return to the bond markets will ultimately depend on its growth and its capacity to stabilise its debt over time. We have already seen that the European Union is likely to slip back into recession in 2012. The economies in Italy and Spain are likely to contract and those of France, Germany and the United Kingdom are likely to remain just above water. A 1% decline in global output has almost a unitary impact - a 0.9% impact - on Irish GDP. For every 1% fall at a global level, there is a 1% reduction in Irish GDP. This is very significant and reflects just how open Ireland's small economy is.
While it is too early to forecast whether Ireland will need as second bailout, we are told a "No" vote will preclude access according to the terms of the treaty. The signal of any lack of a backstop could present difficulties for Ireland on re-entering the capital markets if we take what is on offer at the moment, 7%, in respect of bond yields. I am not so sure that Ireland has alternatives and that the European Union will later soften its stance to allow Ireland a second bailout even if it has accepted the treaty. The brinkmanship that was practised in early February with regard to Greece was very telling in that regard. The rules associated with the fiscal compact are deeply unpalatable and the manner in which they will be implemented over the medium term is very much open to question. Ultimately, the more immediate concern is associated with our access to a source of funding.
