The brutality and wickedness of the terrorist attacks in the United States on 11 September were an affront to humanity. These attacks were such a human tragedy that it may seem inappropriate to discuss their economic implications. However, there is no denying that the economic impact of these events will be felt all over the world.
It is clear that even before the terrorist attacks, the major economies of the world – those in the US, the EU and Japan – had already experienced a sharp downturn in activity. The IMF in August had forecast a slowing of world GDP growth to 2.6 % this year. However, even this forecast is now thought to be overly optimistic. Commentators have remarked that this was the first time since 1982 that all three of the major economic areas were underperforming at the same time.
As far as the US economy is concerned, prior to the attacks of 11 September, it had already slowed down significantly. In August, the IMF had forecast a GDP growth rate for the US of 1.3% this year. There is no doubt that the adverse impact on the US economy of the attacks will be substantial in the future.
The exact extent and duration of the economic impact on the US will very much depend on the ongoing military response and whether this leads to further terrorist activity. It will also depend on the reaction of consumer confidence in the US to these unfolding events. The latest figures from the US show a continued fall in consumer confidence. The US is therefore likely to experience recession for the remainder of this year and a recovery is now thought to be unlikely before mid-2002, at the earliest.
Oil prices will also play a very important role in the world economic outlook. It is true that Saudi Arabia and Kuwait have given assurances that any disruption to oil supplies will be neutralised. However, if oil prices were to rise sharply, it would have a negative impact not just on the US economy, but on all the economies of the world.
In the medium term, the interest rate cuts by the US Federal Reserve and the fiscal measures taken and proposed by the US Government will eventually boost economic activity and return the US to economic growth.
As regards the likely impact that the attacks will have on the EU economy, it must be noted that there was already a slowdown under way before 11 September. Quarter 2 GDP growth had fallen to just 1.7%, compared with 3.8 % for the same period last year. Developments in the EU will obviously have important implications for us because over 60% of our exports go there.
However, the effect in the EU may be less severe than elsewhere. The economic fundamentals of the EU are felt to be sound and the recent ECB interest rate cuts should help it to avoid the worst effects of the downturn so that it can return to sustainable growth levels sooner rather than later.
Since we have an open economy heavily reliant on trade and foreign investment, the attacks in the US will obviously have unfavourable implications for us too. My Department had already noted the adverse effects of the US slowdown prior to 11 September and had reduced its 2001 GNP growth estimate in the August Economic Review and Outlook by 1.5% to 6%.
The latest tax revenues up to the end of September support the view that the economy is slowing, with tax receipts growing by 2.2% for the first three quarters of the year compared to a budget target for the year as a whole of a 12.5% increase over last year's outturn. The latest expectation for our Exchequer surplus this year is that it will be at least €1.9 billion or £1.5 billion lower than that forecast on budget day and, possibly, significantly more.
Private sector leading indicators, tax revenue and housing data had already indicated that there would be reduced carry-over of growth from 2001 to 2002. The events of 11 September will only hasten this slowing of the Irish economy, with the main effects manifesting themselves in 2002.
It is very difficult, just over a month after the events, to assess the full economic impact of the attacks on Ireland's growth and employment. Obviously, much depends on the effect on the world economy as a whole and its reaction to the ongoing US military response. Estimates by market commentators for GNP growth next year vary between 1% and 5%. This illustrates the degree of uncertainty in the current global economic environment. My Department will, as usual, publish its estimates for economic growth when the budget is being delivered.
Let us now consider exports. As regards the areas of our economy which will be affected by the lower world economic growth, we can expect export growth to be negatively affected. The US is a very important destination for our exports, accounting for almost 18% of total exports. However, this figure somewhat overstates our dependence on the US because firms exporting to the US are less employment-intensive and source less of their inputs domestically than other firms.
It should also be noted that 35% of our exports to the US are in the chemicals-pharmaceuticals sector, which has been holding up well to date, with 23% annual growth in the first six months of this year. Despite this, there is no doubt that our exports to the US will be affected by the terrorist attacks. If we regard tourism as an export, the effect will be greater still.
A key risk to the outlook for exports would be a sharp and significant fall in the value of the dollar and sterling against the euro. This, if it occurred, would impact upon our competitiveness at a time when wage increases remain high. In the recent past, Irish exporters have benefited greatly from favourable exchange rates against both the US and the UK currencies. This provided significant competitiveness gains. However, the US slowdown had already led to some weakening of the dollar and sterling against the euro. Continued weakening would make Irish exports less competitive and reduce export growth further. This is why we must ensure that wage and cost developments generally do not add to our exposure in terms of competitiveness.
However, the United States slowdown had already led to some weakening of the dollar and sterling against the euro. Continued weakening would make Irish exports less competitive and reduce export growth further. This is why we must ensure that wage and cost developments generally do not add to our exposure on the competitiveness front. We must adapt our expectations to meet the new economic environment.
Foreign direct investment, or FDI, from the US will also be affected by the US attacks. Foreign direct investment has been one of the main driving forces behind our record growth rates of recent years. Employment in IDA assisted firms represents 8.5% of our total employment. The ICT sector is of particular significance to the economy as it accounted for almost 40% of exports and 5% of total employment in 2000. Job losses had already been increasing in this sector prior to the terrorist attacks. We had already expected a reduction in foreign direct investment and an adverse impact on the ICT sector due to the slowdown in the US. The attacks on 11 September will further reduce and delay investment from there.
As regards the impact on the inflation rate, in the short-term weaker global demand and lower growth can be expected to have a dampening effect. Interest rates and oil prices have already fallen. If the global downturn were to be accompanied by a depreciation of the dollar and sterling against the euro or further reductions in euro area interest rates, there would also be further beneficial implications for inflation.
I will mention briefly the implications the events of 11 September have for specific sectors of the economy. Our tourism sector represents 9% of employment and 5% of GNP. This sector will be unfavourably affected for the remainder of this year and next, adding to the difficulties already experienced in the first half of this year due to foot and mouth disease. The experience following the Gulf War was that US visitor numbers fell by 20% and did not recover for three years. A similar impact on this occasion would suggest a significant fall in revenue, although any tendency toward holidaying closer to home by Irish or European tourists would offset this to some extent.
The global aviation industry has been hit hard following the terrorist attacks, with revenues expected to be reduced significantly. Aer Lingus, which generates 70% of its profits from transatlantic routes, has suffered an extremely serious further downturn in traffic. Aer Lingus has already announced a programme of measures which involves significant staff reductions and cutbacks in services.
As regards Dublin's International Financial Services Centre, there is unlikely to be a substantial negative impact on firms there. In the short term, there has been a pick-up in business in some areas as some firms have assisted their US counterparts by conducting operations previously undertaken in New York.
Growth in Ireland both this year and next will be lower than had been previously forecast. The resulting lower tax receipts will reduce our room for manoeuvre on the budgetary front. Recent events underline the need for a prudent approach to the public finances, especially in coming months, to ensure the economy weathers current stormy conditions. A prudent approach to the public finances has served us well over the past decade, especially during those rare periods of uncertainty. It is certainly the best option now.
Since there is little Ireland can do to change the external environment, the focus must be on internal policy responses. Policy at this juncture must be geared towards ensuring that when the international economy recovers, Ireland is positioned to benefit fully from that recovery. Only then can we return to a strong growth path in line with our economy's medium-term growth potential. We therefore need to avoid any weakening of competitiveness on the cost front, to sustain investor and business confidence through continued prudent management of the public finances, to prioritise public spending towards programmes which improve the long-term capacity of the economy to benefit from the eventual improved conditions and to make further progress on economic structural reform.
Looking slightly further ahead, I have no doubt that the economy is in good health and that, with the right approach, we can pass through these short-term difficulties with which we have been presented. I am confident that, in the medium term, as the global economic environment recovers, we can return to acceptable levels of economic growth which will benefit us all.