European Commission forecasts continuing economic growth in Ireland

According to the Spring Economic Forecasts, recently published by the European Commission, Ireland (and Malta) are forecast to show the fastest growth in the EU this year. The forecasts are part of the EU’s governance process that allows the European Commission to give policy guidance to Member States. In general, these forecasts are more positive about economic performance throughout the EU than forecasts for a number of recent years.

The European Commission report is very positive in its evaluation of Ireland’s performance and prospects. The overall conclusions of the Commission’s evaluation are that

“the Irish economy re-emerged in 2014 as one of Europe’s top performers. Economic activity is forecast to remain resilient in 2015 and 2016, as domestic demand takes over net exports as main growth driver. Yet, due to the still high level of private debt the strength of private consumption remains uncertain. The government’s deficit and debt are forecast to improve on the back of sustained economic activity”.

Why the economic upturn?

Europe’s economies are currently benefitting from many positive forces. Oil prices remain relatively low; world economic growth is steady; the euro has continued to fall in value; and economic policies in the EU are supporting growth. Also, thequantitative easing scheme introduced by theEuropean Central Bank is making a positive contribution to economic recovery. Quantitative easing is the monetary policy used by central banks to stimulate the economy, given that standard monetary policy has been deemed not to be sufficiently effective.

However, a word of caution: all is not positive. Pierre Moscovici, the European Commissioner for Economic and Financial Affairs, Taxation and Customs, has warned that more needs to be done

“… to ensure this recovery is more than a seasonal phenomenon. Delivering on investment and reforms and sticking to responsible fiscal policies are key to lasting jobs and growth Europe needs”.

Output and Trade

The Irish economy grew strongly in 2014, after near-zero growth a year earlier. Real Gross Domestic Product (GDP) grew by 4.8%, with growth of around 3.5% in 2015 and 2016. Exports and investment have been driving GDP, but consumption is taking on a bigger role. Exceptionally strong net exports explain most of Ireland’s GDP growth in 2014 (with growth of over 12.5%). Ireland benefitted from its improved competitiveness, its large base of multinationals, and its links with the dynamic UK and US economies. The European Commission concluded that

“Over the forecast horizon, the weaker euro is expected to benefit indigenous firms the most, as multinationals are more exposed to increases in the cost of foreign inputs for which they are price takers”.

In addition, imports are set to accelerate in 2015 and 2016, as domestic demand recovers.

Consumption, Investment and Unemployment

Consumption accelerated at the end of 2014 and is projected to strengthen further in 2015 and 2016, when domestic demand components are expected to take over from net exports as the main growth drivers. The European Commission points out that

“… The recovery in employment and wages, tax reliefs in Budget 2015 and consumer confidence will support private consumption. Yet, indebtedness continues to weigh on households’ propensity to consume”

Investment, which showed little growth in recent years, grew by 11.3% in 2014. It is expected to continue to be one of the main drivers of GDP growth in 2015 and 2016, while remaining volatile. Ireland continues to attract investment from multinationals, and construction is expected to continue to recover from very low levels.

Ireland’s unemployment rate is forecast to reach 9.2% in 2016, down from 11.3% in 2014. Labour market participation is expected to gradually pick up and moderate the pace at which unemployment is falling, while the weaker euro is forecast to boost labour-intensive indigenous production.

Public finances improving

Public finances have been improving, due to buoyant tax revenues and interest expenditure savings. Accordingly, in 2014, the general government deficit reached 4.1% of GDP, down from 5.8% of GDP in 2013. And for 2015, the general government deficit is forecast at 2.8% of GDP, 0.1% of GDP lower than in the European Commission 2015 winter forecast.

Table 1, below, draws together the key statistics presented in the European Commissions’ Forecasts.

Risks to continuing economic growth

Like any estimate of the future, the recent European Commission forecasts are subject to risk and uncertainty. That is recognised by the Commission, and it does say that

“… the risks for this forecast are balanced. A stronger recovery in the euro area could push net exports further. At the same time, accelerating household deleveraging could dampen private consumption. Wage increases, if not in line with productivity, would erode competitiveness”.

Put simply, household deleveraging is the process by which households reduce their debt primarily by substituting debt repayment for consumption.

Some risks are also recognised in the area of public finances. Specifically the European Commission concludes that the main risks around the deficit projections are persisting spending pressures linked to demographics and possible increases in public sector pay. These are risks that government has to keep under constant review. Regular reports on the economy form the European Commission that ‘tells it as it is’ are very helpful in guiding government on areas where policy changes should be changed or reinforced.