Source: Goodbody Stockbrokers

Irish Economy: With tens of thousands of Irish jobs at risk as the world faces a severe recession, we outline a number of proposals that could help in developing coherent policy action to deal with the economic emergency. The cart-before-the-horse Budget has not only been disastrous at a political level with painful measures inflicted on a public weaned for years on the fantasy that the free lunch had been invented, without simultaneous countervailing proposals on slowing the public spending juggernaut, the key assumptions have been based on fiddled figures.

Minister for Finance Brian Lenihan said in his Budget speech 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.

Within days, Goodbody Stockbrokers said that 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.

The broker says 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”.

An emergency Budget is now widely expected by mid-2009 at a time of severe economic distress.

IRISH HOUSE PRICES STILLL TOO HIGH - - No 30 Lombard Street West, Portobello, South Dublin, a 2-bedroom house and street-only car parking - - originally went on the market during the summer with a price tag of €925,000 and is now reduced to €895,000. The price would fetch a top of the range house in most US and European cities.

The Government plans to publish proposals on cutback in the public sector next month. It is unlikely to propose significant reform.

However, the future of the economy cannot be left solely to a blundering government.

Trinity College economist Philip Lane said before the Budget. that it is important for the Government to lay out a multi-year plan that will return the budget to inside the 3% Euro Stability and Growth Pact deficit limit as a percentage of GDP, within a reasonable time frame. Lane said that while there is clearly some scope for re-calibrating public expenditure, it is not credible that the adjustment can fully land on spending, in view of the considerable demand for improved public services and the added burden of increased spending on unemployment-related welfare payments.

The Government failed to lay out a medium term plan.

Philip Lane said that since 1997, the composition of core tax revenues underwent a striking shift, with the share of income taxes falling from 37.3% to 28.7% between 1997 and 2007, while the share of asset-related tax revenues increased from 4.7%  in 1997 to 14.1% in 2007.

Department of Finance figures showthat current public spending grew from €21.5 billion in 1997 to €52.7 billion in 2007 - - 14.5% annually.

1. The public will not accept tax increases and benefit cuts unless the Government is transparent on public spending, providing detailed information on costs by multiple categories across central and local government.

The current policy is to hide as much information as possible, from taxpayers (See link in Box below).

The public would likely be shocked by the salary levels and costs of running even small quangos/State agencies.

For example, the National Consumer Agency, which cannot provide an online price comparison service, has a chief executive who is paid €182,000 and 12 other board members paid more than €30,000 each for attending a few meetings in a year.

The main Opposition parties Fine Gael and the Labour Party, should be allowed consult civil servants and be provided with detailed spending forecasts, which would assist in formulating realistic responses to the crisis.

In the UK, the Conservative Party has held meetings with Whitehall officials and the Governor of the Bank of England.

2. Following the publication of the October Exchequer Returns early next month, the Oireachtas Public Accounts Committeeshould hold hearings with Department of Finance officials on its forecasts of tax revenues and growth forecasts in light of the emerging consensus of a deep recession in the US in 2009 and a global economic slowdown.

3. The Economic and Social Research Institute (ESRI) should revise its medium-term forecast based on the impact of a US recession, slowing world economy and the contraction of the global financial services sector.

The ESRI said in its Medium-Term Review 2008-2015, published in May 2008, that the Irish economy was heading towards a real economic growth rate averaging 3.75% annually over the next decade. The Institute said business services exports will account for 70% of all Irish exports but are very sensitive to Ireland’s competitiveness.

This week, Citibank Europe's Chief Executive Aidan Brady said that Dublin's International Financial Services Centre (IFSC) faces big potential job losses.

The shakeout of the hedge fund industry and the impact of the financial crisis on global financial services, is likely to result in a shrinking of activities at the IFSC while general foreign direct investment from the US in coming years is likely to fall.

The expected announcement by Dell of the closure of its manufacturing plant in Limerick, will be a psychological blow.

Manufacturing is a big consumer of services and while services exports beyond software, can be impressive, the job impact may not be great.

The ESRI should factor in the impact of so-called deleveraging in the economy. 

4. Deleveraging will have real effects on the Irish economy.

Goodbody Stockbrokers says that the following table shows, outstanding debt levels in Ireland (adjusting for issues in relation to the Irish Financial Services Centre (IFSC) and the proper measure of output in the Irish economy (GNP rather than GDP)) will amount to c.200% of GNP by the end of 2008. This is now among the highest in Europe, and may even rise further in 2009, given the expected decline in GNP.

Source: Goodbody Stockbrokers

The broker says that within this, debt levels in the household sector have risen substantially. At the end of 2007, household debt levels reached 176% of disposable income, up from 48% in 1995. From a relatively low level of debt in 1995, Irish household debt levels are now among the highest in the world. Goodbody had stated in 2005 that “the accumulation of debt puts Irish households in a more vulnerable position should a shock come about in terms of employment or interest rates”. It now says this vulnerability is set to be put to the test over the coming two years.

Source: Goodbody Stockbrokers

Goodbody says deleveraging can occur in a number of ways: (1) through a rapid downward adjustment in credit outstanding; or (2) through incomes increasing in excess of credit for a number of years; or a combination of both. Credit growth has already started to slow significantly, with private sector credit growth slowing to a six-year low of 12.9% yoy in August, down from a peak of 30% yoy back in June 2006. This moderation will continue, given the lower availability of credit on international money markets and the need for domestic banks to reduce the size of their loan exposures over the coming few years. This process is likely to be actively encouraged by Financial Regulators also. But it asks, to what extent will credit growth contract over the coming years?

Goodbody says the current Loan-to-Deposit ratio stands at 220% (for loans and deposits of Irish residents), up from 146% at the end of 2003.

Source: Goodbody Stockbrokers

The broker says credit growth is unlikely to be able to grow unabated as financial institutions will be forced to constrain lending into the economy to reduce loan-to-value ratios over the coming years.If this is the case, domestic economic growth may be constrained for a number of years.

"We reflect this in our forecasts for the domestic economy, given that we anticipate domestic demand to contract by -5% in 2008, -6.3% in 2009 and by a further 0.5% in 2010. Forecasts beyond this period are clouded by uncertainty but it is clear that the deleveraging impacts are likely to linger and mean that the previously anticipated c.4% trend growth rate for the Irish economy is unlikely to be reached for a number of years," Goodbody says.

5. Irish House Prices still too high

House prices are said to be "sticky" but over several years, undramatic declines, can add up to a significant number.

Looking at advertised prices, they are very much out-of-line with other developed countries and it is a factor in our international competitiveness.

6. National Commission on Challenges facing Ireland

The Irish economy is facing serious challenges.

The Irish banks may have to be recapitalised and the cost of servicing the national debt  will be €3.3 billion in 2009 but could double in a few years.

The construction housing bubble has burst and the international tradable goods and services sectors are overwhelmingly dependent on US firms.

The State is providing €8 billion for research and development in the period 2006-2013 but the Irish-owned high-tech sector is struggling. The biggest home grown firm Iona Technologies is now owned by a US firm.

Two UCC economists have said the programme is misguided and there are already about 6,000 full-time equivalent researchers on the public payroll.

Exports to Asia will never be significant overall for Irish firms while the European food market offers the best opportunities for exploiting Irish strengths.

There are hugely important competitive issues such as land rezoning windfalls, planning, the size of the public sector, political/public sector pensions, the 1920/30's governance system with a multiplicity of local authorities and duplication coincident with limited accountability, and the taxation base.

A Commission on Taxation is currently sitting but its remit is limited.

The Government should consider establishing a cross-party commission with the participation of the social partners that would look at all key challenges including taboo issues of the vested interests. Preventing another runaway housing boom would be one in addition to what is outlined above.