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News : Irish Last Updated: Apr 24, 2009 - 5:31:05 PM


Irish Economy: Goodbody says GDP will plunge 4% in 2009; Budget forecasts too optimistic; Number of years before trend growth is achieved again
By Finfacts Team
Oct 17, 2008 - 4:01:35 PM

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Grafton Street, a narrow street linking Ireland's oldest university Trinity College and St. Stephen's Green, which has a public park, is Dublin's principal shopping street.

Irish Economy: Goodbody Stockbrokers in a report today forecasts that the Irish economy will contract by as much as 4% in 2009 and while it expected modest growth to return in 2010 it said the forecast was subject to “a high degree of uncertainty”.

In its quarterly economic outlook published today, the broker sharply reduced its growth prospects for the economy forecasting GDP (gross domestic product) would fall by 2.5% this year and by 4% in 2009.

It also claimed that the economic projections contained in the Budget were too optimistic and that the Budget deficit was likely to breach 8%of GDP next year, rather than the 6.5% targeted by the Government.

Minister for Finance Brian Lenihan said on Tuesday that he expects the economy to shrink by 1.5% next year, as measured by GNP, with GDP contracting by 0.75%. He said the Government is planning on a Budget deficit of 6.5% of GDP next year.

The political necessity of massaging the figures was to head off hassle from the European Commission that a higher deficit would invite. The Euro Stability and Growth Pact has an annual deficit limit of 3% of GDP.  

In today's Irish Times, Dan O'Brien who is a senior editor at the Economist Intelligence Unit; says Ireland's problems are not nearly of the same order as those of Belgium and Italy, but to fail so catastrophically to manage the public finances twice in a generation does demonstrate a grave deficiency in the Irish system.

O'Brien says that where governments base their budgets on in-house forecasts for economic growth and tax revenues, the outlook is almost always rosier than independent forecasters. By making more optimistic assumptions and ignoring risks, governments can spend more and tax less.

Instead of the Department of Finance generating its own economic forecasts and projections, the entire function should be handed to the Economic and Social Research Institute, with additional safeguards to further bolster its independence.

Goodbody economist Dermot O’Leary said today:“Tough decisions on current Government spending cannot be deferred if Ireland is going to be prepared for a medium-term recovery, without taxation taking the full burden.”

O’Leary said there was a general consensus emerging that debt levels will have to be gradually unwound in economies over the coming years.

He said that between 2003 and 2005 the Irish construction industry, in particular, benefited most from an easing in leading restrictions and low interest rates.

“This contributed to the investment/GNP ratio ballooning to 32% in 2006, a record level.

A significant unwind is now in train, but judging from previous international evidence and the excess stock that has emerged over recent years, housing output in Ireland may remain low for a number of years,” he said.

The stockbroker said that the tightening of credit conditions that continue to hamper the construction sector will make it difficult for the economy to improve.

Goodbody calls the rapid weakening of labour market conditions 'the most concerning of the recent developments in the Irish economy' and says it is the major reason behind the downgrade of 2009 forecasts.

Goodbody also said it was heavily cutting its earning per share forecasts on the two main banks, Allied Irish, its parent company and Bank of Ireland, on the back of weaker economic prospects with operational restrictions from the Government Guarantee Scheme.

Summary:

More severe downturn now expected in 2009 - The structural changes in the banking sphere globally will have both short and long-run effects on economies everywhere. In the short-term, the tightening of credit conditions continues to hamper any stabilisation in the construction sector, while labour market conditions have taken a further downleg over recent months. As a result, we are sharply reducing our expectations for the Irish economy in 2009, where we now expect GDP to decline by 4% (GNP -4.5%) after a 2.5% decline (-2.4% GNP) in 2008. While we expect modest growth to return in 2010, we accept that the risks to these forecasts are subject to a high degree of uncertainty.

Deleveraging at work - A number of developed economies have seen debt levels expand markedly over the recent past. There is a general consensus now that these debt levels will have to be gradually unwound - deleveraging is at work. The private sector credit/GNP ratio in Ireland is expected to increase to c.200% by the end of 2008, relative to c.100% five years ago. Increasingly over recent years credit growth has been funded out of external resources, with net external liabilities rising from 12% of GNP in 2003 to 67% of GNP at the end of 2007. As outstanding credit falls over the coming years, this will hamper the prospects for growth in highly indebted countries in particular.

Housing oversupply issues - From 2003-2005, the construction industry in particular benefited most from loosening of credit standards and the low rates at which it was available. This contributed to the investment/GNP ratio ballooning to 32% in 2006, a record level. A significant unwind is now in train, but judging from previous international evidence and the excess stock that has emerged over recent years, housing output in Ireland may remain low for a number of years. In the two years since the Census, there has been an estimated c.50,000 units which have been built but not sold as yet, although the more acute problems relate to rural areas of the country.

How does this recession compare? - An analysis of previous severe recessions reveals that, on average, the output gap remains in negative territory for six years. The confluence of factors now conspiring against the Irish economy means that it will be a number of years before trend growth is achieved again.

Budget projections will have to be revisitied - Economic projections contained in Budget 2009, we believe, are too optimistic. As a result, the budget deficit is likely to breach 8% of GDP next year, rather than the 6.5% targeted by the Government. Therefore, policy should concentrate on reducing the deficit to the 3% level on a medium-term basis, rather than the three-year time horizon set out. Tough decisions on current government spending cannot be deferred if Ireland is going to be prepared for a medium-term recovery, without taxation taking the full burden.

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