Recent years have seen a transformation of the Irish economy. Its fundamentals have changed almost beyond recognition.
The basic figures speak for themselves. GDP growth averaged 5.5 per cent — well ahead of the average growth rate of 3.25 per cent for the European Community. Inflation averaged 3 per cent. Exchequer borrowing was reduced to about 2 per cent. The national debt to GNP ratio was first stabilised and then set firmly on a downward path. Ireland's international competitiveness improved. Investment grew by no less than 25 per cent in volume.
Last year, with recession in some of our trading partners, it was inevitable that economic growth here would slow down, yet we saw striking evidence of this economy's new-found resilience in the face of difficulties abroad. For the fifth successive year, our GDP growth exceeded the EC average. In marked contrast with a decline in GDP of more than 2 per cent in the United Kingdom, GDP in Ireland grew by a similar amount. Our manufactured exports grew about three times as fast as our export markets — a clear demonstration of how our improved international competitiveness is paying dividends. Ireland has clearly shown its ability to out-perform its competitors when times are tough.
We also made further progress on the budgetary front. Despite the impact on public spending of higher unemployment, the Exchequer borrowing requirement was contained at 2.1 per cent of GNP — and this figure excludes of course the once off receipts from the privatisation of Irish Life. The national debt to GNP ratio fell by three percentage points and at end year was more than 20 points below its end-1987 peak.
The improvements in the economic fundamentals have been translated into higher employment and rising living standards. In the three years to April 1990, the number of people at work here increased by 46,000, and when it is remembered that this was a period of adjustment in the public finances with substantial reductions in public sector employment, the net increase in private sector employment during those years was significantly greater. Between April 1990 and April 1991, non-agricultural employment rose by a further 7,000. Despite all the difficulties we faced last year, non-agricultural employment continued to hold up well. In industry and financial services combined, the numbers at work were up by almost 2,000 on average in 1991 compared with 1990, and during the last five years real personal disposable incomes grew by more than 12 per cent.
Unemployment rose steeply last year, but this was not the result of falling employment. Rather it reflected continuing rapid growth in the labour force, boosted by returning emigrants who had either lost their jobs abroad or failed to find employment there. This was the most immediate impact of the international recession on the Irish economy and on public spending here.
It now seems that the worst of the international down-turn is behind us. According to the OECD, growth in the main industrial economies is expected to improve from 1 per cent last year to 1.75 per cent this year. However, this recovery is still very slow and patchy. The major international agencies have revised down their forecasts for economic growth this year by about a half a percentage point compared with their predictions six months ago. For the European Community, the Commission is now projecting GDP growth of 1.7 per cent which is a modest improvement on the 1.3 per cent growth achieved in 1991.
Despite the continued sluggishness of the international economy, there are clear signs of further progress on the domestic front. Manufacturing output rose by 9 per cent in the first quarter. The volume of exports was up by about 15 per cent in the first two months of the year. This remarkable export buoyancy reflects a continuing strong performance by industrial exports and a very welcome improvement in agricultural exports which are now recovering from a very lean period over the past year or two.
In the home market, the modest but useful rise in real disposable incomes which I predicted in the budget is providing the basis for a worthwhile improvement in consumption. Indeed, there are already signs that a modest pick-up is taking place. Retail sales rose by 2 per cent in the first quarter and the preliminary indicators for April are even better. New private car registrations, which fell sharply last year, were up by 1.4 per cent in the first quarter of this year.
Inflation here continues to remain moderate and compares well with experience in other EMS narrow-band countries. It has remained stable at around 3.5 to 3.75 per cent over the past 12 months or so and is likely to moderate a little in the second half of the year. The average rate for the year as a whole now looks like being closer to 3.5 per cent than the 3.75 per cent I projected in the budget. Lower inflation will leave more money in people's pockets and hopefully give a further boost to the volume of consumer spending.
While hourly earnings in industry rose somewhat faster last year than in 1990, by international comparison they remained moderate. The latest figures show that hourly earnings in manufacturing rose by 5.5 per cent last year, and that by the third quarter of 1991 hourly earnings in industry generally were 5.25 per cent higher than a year earlier. That is one of the reasons why employment appears to be continuing to hold up well so far this year despite the lacklustre performance of the international economy. Indeed, allowing for increases in pay rates, tax data for the first half of 1992 point, if anything, to some increase in non-agricultural employment over last year's levels. Receipts from the training and employment levy, for example, were up by over 6 per cent to the end of June.
The substantial economic and social progress made in recent years did not come about by accident. Up to 1990, of course, a helpful external international economic environment played a part, but our success was also the outcome of pursuing a clear and consistent economic strategy which was set in place and adhered to by Government in agreement with the social partners — first in the Programme for National Recovery and later in the Programme for Economic and Social Progress. In many ways the real secret of our success was in achieving a consensus approach to economic and social policy. This strategy has proved of enormous benefit to us in the more difficult international economic conditions of the past year or so.
The pay provisions of the Programme for National Recovery and its successor, the Programme for Economic and Social
Progress have made a significant contribution to the improved competitiveness of the Irish economy. The programmes provided, in particular, for: modest general pay increases in both the public and private sectors, and the establishment of a framework for co-operation between the social partners, which by and large, allowed for a period of industrial peace, so vital for creating a climate within which business confidence and investment can thrive.
Under the Programme for National Recovery, the Government also agreed arrangements with the public service unions for the phased implementation of deferred special increases, and a moratorium on the processing of new claims. These measures limited the immediate impact on the Exchequer of outstanding special pay increases and, by agreement, arrested a potential build-up of future commitments.
Evidence of how widely accepted the consensus-based approach to resolving problems has now become was provided earlier this year. As the House is aware, the Government's announcement last December of our intention to reschedule increases due to be paid in the public service during the lifetime of the Programme for Economic and Social Progress, in the face of difficult budgetary prospects for 1992, caused initial difficulties with the public service unions. Without going into all the details, it is important to remind the House of the successful manner in which this very sensitive issue was handled by all concerned. I put forward, on behalf of the Government, a revised package of measures to the public service unions on 17 January last, which addressed their concerns to the maximum extent possible, in a manner consistent with the budgetary constraints facing the Government.
The acceptance of this package by the public service unions demonstrated, more than anything else, the new level of maturity which we have attained in the conduct of industrial relations. It reinforced the consensus-based approach which has served us so well in recent years. Without the package, I would have had to find a further £100 million in 1992 to meet the cost of pay increases. This money could only have been found through reduced expenditure on other services such as health, education and social welfare.
It is vitally important that the consensus approach to the formulation of responsible wage cost developments be maintained. It has enabled us to improve cost competitiveness and to increase our share of export markets, but cost conditions in our competitors do not stand still. Other countries, particularly the United Kingdom, are improving their competitive position and our relative advantage is narrowing. We must keep cost trends here under constant review, bearing in mind what is happening elsewhere.
Recent interest rate developments have been encouraging. Comfortable liquidity in the money markets and strong external reserves allowed inter-bank interest rates to ease downwards in the second quarter of the year, so that in early May the Central Bank was able to reduce the key official interest rates by 0.25 of a percentage point. There were subsequent reductions of about 0.5 of a percentage point in retail interest rates, including mortgage rates, thus providing a useful boost to the economy.
Nonetheless, real interest remains unduly high. Together with many other European countries, we are constrained to a large extent by the level of interest rates in Germany. Real rates there are being kept high for domestic reasons. One would hope that as Germany comes to grips with its fiscal problems there will be scope for a reduction in interest rates in Europe generally, and in Ireland in particular.
Key Irish inter-bank interest rates are now only about 0.5 of one percentage point above their German equivalents. The reduction of the differential to this level is a considerable achievement when one considers that it exceeded 9 percentage points just a few years ago. The Government's fiscal policies, and the maintenance of a firm exchange rate in the narrow band of the EMS have contributed greatly to this outcome.
Firm adherence to budgetary discipline has also played a major part in our progress in recent years. This year, we have set a creditable target for the EBR of under £600 million — less than 2.5 per cent of GNP. We are now consistently producing annual deficits which compare very favourably with the EC average and are well in line with those in the other narrow-band EMS countries.
On this sound platform we have been able to maintain a stable exchange rate policy and a low-inflation economy which significantly reduced interest rates. We succeeded in establishing a virtuous circle where strong growth, low inflation, improved competitiveness and investor confidence mutually support and reinforce each other. Crucial to success on all these fronts has been our willingness, and indeed our determination, to bring public spending under control. Over time, a Government can only spend as much as they can raise by way of taxation or other revenue. We have now reached the stage where our budget deficit is down to respectable proportions. This achievement is all the more remarkable when viewed against some of the factors that have had to be accommodated in recent years.
Deputies will be aware that the ending of net emigration and the return home of many of our emigrants has meant that the number of persons who now rely on the State to meet their basic income needs has risen substantially. The Government have also had to cope with other demand-led pressures on various spending programmes, especially in the health services.
Deputies will also have noted that the Government did not go about their task of reducing public expenditure without regard for the weaker and more vulnerable sections of the community. On the contrary, we have always been mindful of our obligations in that regard and with that in mind the containment of health expenditure, for example, was achieved essentially through greater efficiency in the provision of health services and not by reducing the level of that service.
The maintenance of discipline over Exchequer expenditure has required a firm commitment to budgetary targets and a willingness to take appropriate action and in good time to keep spending in line with revenue resources. This time last year, when it became clear that there was the threat of a considerable overshoot on expenditure, my predecessor introduced a mid-July corrective package to rein in the emerging slippage.
While the recent half-yearly Exchequer returns show a somewhat better picture than in mid-1991, it is clear that adherence to this year's budgetary parameters will require some corrective action. Otherwise fiscal deterioration will lead to higher Exchequer borrowings and, ultimately, to higher taxation to repay them. Accordingly, I have initiated a review of all areas of public expenditure to see where expenditure can be pared back.
I intend to follow in the footsteps of my recent predecessors and ensure that we do not return to the bad old days and the bad old ways of incrementalism in public expenditure. Notwithstanding the difficulties of this task, I intend to ensure that there is no significant slippage from our budgetary targets this year.
Despite the measures taken to alleviate the impact of public service pay costs on the Exchequer over the last few years, the level of increases in the cost of public service pay continues to be an area of concern to the Government. The Government intend to address this problem through negotiations under the local bargaining clause — clause 3 — of the Programme for Economic and Social Progress pay agreement. Clause 3 provides for negotiations on improvements in efficiency and effectiveness, subject to a limit or “cap” of 3 per cent, which cannot apply in the public service until 1993. However, in the public service the emphasis will be on restructuring negotiations to improve efficiency and effectiveness so as to offset any increases in pay. This approach to the negotiations is currently being discussed with public service trade unions.
As part of these negotiations the Government will also be discussing ways in which the pay determination system can be made more transparent so that, in particular, the question of the Government's ability to pay can be more readily addressed when pay claims are processed to third party adjudication. Specifically, it is intended that public service wage determination will be revised to provide for greater transparency, less frequent recourse to adjudication, and, more weight to be given to "ability to pay" and budgetary considerations.
These negotiations present the Government and the public service unions with a very challenging task. This is to attempt to balance the budgetary constraints, which limit the Government's ability to continue to finance increased expenditure on public service pay of the order experienced in recent years, against the legitimate expectations of public service workers for new career structures and more fulfilling work.
I am confident that with goodwill and continued co-operation all round, the potential difficulties presented by this task will be overcome so that the legitimate aspirations of public servants can be addressed in tandem with the Government's needs, as an employer, for improved efficiency and effectiveness. I remain confident that the approach we are adopting will ultimately lead to an improvement in the quality of our public services which can be delivered on a more cost-effective basis in the future.
Rigorous control of public expenditure, combined with measures to widen the tax base, have enabled the Government to secure substantial reform of the tax system against the background of considerable improvement in the public finances and the constraints of the EC Single Market. These tax reforms have greatly improved the climate for investment and growth. It is worth looking back very briefly on some of the tax changes implemented in recent years and particularly those made in 1992.
Arguments that this year's tax changes could discourage enterprise are surprising when one considers that those tax changes are part of a process which has seen the top income tax rate reduced by 10 per cent since 1987 — indeed, by 17 per cent since 1985 — the standard rate cut by 8 per cent and the standard band widened by nearly 60 per cent. Surely there is no greater incentive to effort, enterprise, to risk-taking and business than that a greater proportion of the proceeds should be retained by those who earn them.
Those who quibble with or object to the changes should read what the Industrial Policy Review Group said: "... in no other single area does the Government have at its disposal the tools to make as far-reaching and effective a reform to support an enterprise economy as in taxation". The review group was advocating reform along the lines set out by the Commission on Taxation, that is, to widen the tax base and reduce tax rates. This is what the 1992 Budget did, as indeed its predecessors had also. It looks as if it would be timely to repeat the warning of the Commission on Taxation ten years ago: the advantageous parts of reform cannot be demanded while the unpalatable are rejected.
This year the Finance Bill addressed the issue of share ownership schemes. Despite comments to the contrary, profit-sharing schemes are being continued, albeit with a reduced ceiling of £2,000 per year per employee. Bearing in mind that if certain conditions are met, income in the form of shares will bear no tax whatsoever, I consider this strikes a reasonable balance between maintaining the incentive for these schemes and not unduly narrowing the tax base. The revised treatment of share options is as recommended by the Commission on Taxation. Relief on interest on purchase of quoted shares has been abolished for new loans and is being phased out for existing ones, because quoted companies have access to capital through the stock market. Frankly, a subsidy for acquiring quoted shares is very hard to justify when the vast bulk of taxpayers can only get interest relief, on quite a restricted basis, for their mortages. These changes, of course, like the other base-broadening measures in the budget, must be seen in the context of the continuing process of reform and the falling tax rates which these measures facilitate.
Those who object to the changes in relation to the BIK charge on company cars, choose to ignore the fact that the use of the car for business purposes is not taxed at all. It is only the availability of the car for private use that is taxed. Most experts have accepted that the old 20 per cent rate was too low. It was also ludicrous that many people with large company cars were paying little or no tax under the old system. I find it very hard to accept that a tax break for income received in the form of having an expenses-paid car for private use is, in any way, conducive to enterprise.
The sole reason for the revised DIRT arrangements contained in the Finance Act was, quite simply, to ensure that the final abolition of exchange controls later this year would not lead to an outflow of funds from this country. The Finance Act was obliged to address this issue urgently and decisively. Such an outflow of funds would create an upward pressure on interest rates with serious consequences for levels of economic activity and employment. Far from being anti-business, the measures taken were the minimum necessary to protect Irish businesses from the negative effects of higher interest rates. I appreciate that it would have been infinitely preferable from a tax policy viewpoint if we could have maintained parity of taxation across all types of income. However, the plain fact is that this ideal was simply not a viable option in the circumstances facing us next year of mobile capital and low DIRT-type taxation internationally.
Those involved in the life assurance and unit trust industries have expressed concern about the effects of the changes on their markets and consequently on the availability of equity finance for Irish companies. The issue of the taxation of various competing financial instruments is a complex one and my officials are currently examining the matter in consultation with representatives of the industry. I am well aware of the importance of equity investment for small and medium size Irish businesses and this will be taken into account in the consideration of any proposals for changes in this area. At the same time, I must caution that any expectations of a wide and unqualified extension of the DIRT regime do not recognise the budgetary realities, nor the need to maintain taxation balance vis-á-vis earned income.
With regard to the bank levy, the 1992 Finance Act changed the arrangements for this levy in line with the findings of a special working group comprised of representatives of the banks and of officials. Under these arrangements a bank will be able to offset some or all of its annual bank levy payment against increases in its corporation tax liability above a specified threshold. These new arrangements protect the interests of the Exchequer while ensuring that Irish-based banks will be able to compete effectively in the more challenging environment which is emerging.
Concerted attacks on the so-called "new" Revenue powers are illogical since many of the people making these attacks should know that in many cases the powers are not new at all but are merely adaptations of existing powers to reflect changed circumstances. The provisions on Revenue powers in the Act are there for three main reasons. The experience of the self assessment audit system showed up certain weaknesses in Revenue's ability to secure necessary information. It would have been plainly irresponsible to ignore these; and recent inquiries revealed unacceptable practices in relation to taxation. I cannot believe that anybody would seriously suggest that I could have turned a blind eye to these. The coming into being of the Internal Market will mean the abolition of routine Customs checks and the collection of VAT at point of entry into the State on intra-community trade. I would have been failing in my duty if I did not act to close loopholes which have been identified and which were being used to evade or avoid tax liabilities. Further, to maintain VAT receipts and to protect compliant busineses post-1992, it was necessary to extend the powers already available to customs officials in relation to the internal VAT collection system, which will prevail for intra-community trade within Ireland in the Internal Market. A point that I must emphasise in this regard is that a number of the measures introduced in the Finance Act flow directly from the requirement to incorporate provisions of EC law into the national legislation.
The main impetus for change in the area of indirect taxation in recent years has been the need for a harmonised tax system throughout the Community. With the exception of tobacco, the rates of excise duty on alcohol have been increased only marginally since the mid-eighties. The duty on petrol was reduced in May this year. With some other member states, particularly the UK, increasing their rates significantly, this approach has brought our excise rates considerably closer to those likely to be sustainable after 1992 against a background of open frontiers.
The standard VAT rate has been reduced from 25 per cent to 21 per cent. The base has also been broadened, and the lower rates brought more into line with our harmonisation needs.
The principal objectives of the significant changes that have been made in corporation tax were to shift the balance of taxation more in favour of employment by reducing the bias in favour of capital in the tax code; to widen the corporate tax base and to increase the yield from the tax. The effectiveness of the measures taken is well illustrated by the fact that the yield from corporation tax has increased from £257 million in 1987 to the budget projection of £678 million in 1992 — representing an increase from 3.9 per cent to 7.6 per cent of total tax revenues. At this stage it seems likely that the budget projection may well be exceeded by the revenue from corporation tax this year.
Capital Taxes have also been reviewed and amended. In capital acquisitions tax, the two top rates have been abolished, and the discretionary trust tax base has been broadened by the reduction of the limit for exempt trusts from 25 years of age to 21 years. In capital gains tax, a single CGT rate of 40 per cent has been introduced, and the annual small gains exemption has been reduced from £2,000 to £1,000 for a single person and from £4,000 to £2,000 for a married couple.
A major reform of the stamp duty code was introduced from November 1991. A new regime of penalties and interest charges for late stamping, negligence and fraud provides a powerful incentive for compliance against the background of clarity as to what is and what is not chargeable to duty.
The EC Structural Funds are now a very important contributor to developmental expenditure in Ireland and the resources continue to grow each year. Commitments from the Structural Funds will come to more than £800 million this year, compared with about £700 million last year.
The growth in the resources under the Structural Funds has allowed us to increase domestic expenditure further this year in a wide range of areas including tourism amenities, roads and access transport.