Irish Economy: The ESRI (Economic and Social Research Institute) says in a paper on recovery scenarios published today, that if the world economy recovers significant momentum by 2011, the Irish economy, as long as it regains competitiveness, can be expected to grow quite rapidly in the 2011-2015 period, recovering some of the lost ground of the current recession.

The ESRI says as a consequence of the current severe recession, by the end of 2010 output per head will have fallen back to its 2001 level. Nonetheless, its analysis suggests that the potential growth rate of the economy is around 3 per cent a year.

It says given the very severe recession that Ireland is currently experiencing, this means that when the world economy eventually recovers the Irish economy can be expected to experience a period of above average growth. On this basis, output per head could be restored to its 2007 level by the middle of the next decade. Consistent with this forecast, its  estimates suggest that there will be a permanent loss of output of 10 per cent compared to where the economy might have been. This will represent a very painful permanent "scar" on the economy arising from the current recession.

Recovery Scenarios for Ireland- - Adele Bergin, Thomas Conefrey, John Fitz Gerald and Ide Kearney

The big imponderable for Ireland is not just the world economy, it is simply the likely economic health of the United States. So much else, including competitiveness, are secondary to this crucial factor.

This week the White House budget office issued revised deficit projections, which bring the expected shortfall this fiscal year, that ends Sept. 30th, to $1.84 trillion, from a February projection of $1.75 trillion. For the 2010 fiscal year, the new estimate is $1.26 trillion, up from $1.17 trillion.

Measured against the economy, this year’s shortfall will be 12.9 percent of GDP (gross domestic product). Next year’s deficit would be 8.5 percent of GDP Even before the revisions, the deficit projections were the highest in more than 60 years, since the end of World War II.

President Obama, in his 10-year budget outline in February, projected the United States would fall just below a  3 per cent deficit target that level in the last months of his term, in the 2013 fiscal year. However, many analysts consider his economic assumptions too rosy, which casts doubt on his deficit forecast.

Today, the Wall Street Journal's monthly poll of US economists, shows the majority of the 52 economists are expecting a major pullback in consumption. Nearly three-quarters of survey respondents said the recent increase in the US saving rate is the beginning of a major behavioral shift.

The Journal says the depth of the downturn means it will take years to eat up the slack created by the recession. Nearly half of the economists said it will take three to four years to close the output gap, while more than a quarter say it will take five to six years.

Finfacts Reports:

US economists foresee protracted recovery; Output gap closure may take up to six years 

US personal savings rate rises to 4.2% in March from below zero in 2005; Eurozone rises to 15%; Irish rate jumps from 3% in 2007 to 10% in 2009

“It is important that public policy should do all it can to speed this essential adjustment. A revised partnership agreement which recognised the importance of reducing costs, broadly defined, would help in this regard,” the paper says.

An improvement in competitiveness would help home-grown exporters but the key issue in an economy where mainly US firms are responsible for 90 per cent of exports, is again, how the US economy develops.

The ESRI paper explores recovery scenarios for the Irish economy over the period to 2015:

1. World recovery is essential for a return to growth in Ireland. In the World Recovery scenario, the global economy grows from 2011 onwards. Given the depth of the current recession, the Irish economy can be expected to experience a period of above average growth while recovering some of the lost ground. However, output per head would still only be restored to its 2007 level by the middle of the next decade.

2. There are significant permanent costs arising from the current recession. Even with a world recovery in 2011, the current recession implies a 10 per cent permanent loss of GDP, together with higher emigration and lower employment. As a consequence of the recession, the potential growth rate of the economy is likely to have fallen from 3.6 per cent per annum to 3 per cent per annum.

3. A prolonged recession would increase these losses. If the world recession were to continue for another year to 2012, the permanent loss of output would be closer to 15 per cent with even higher unemployment and emigration.

4. Approximately half of the budget deficit is structural. The structural deficit is the appropriate target for fiscal policy; the cyclical element will be eliminated once the recession ends. The budgets of 2009 and the planned budget for 2010 would together halve the size of the structural deficit to 3 to 4 per cent of GDP. This is an appropriate fiscal policy response. The structural deficit would widen further if the world recession persisted for another year.

5. The resolution of the banking crisis is necessary for economic recovery. The very substantial borrowing needed to fund a solution will add to uncertainty and to the risks facing the economy.

Policy Implications:

• An improvement in competitiveness is required if the Irish labour market is to return to full employment in a reasonable time scale. It is likely that nominal wages will fall to help achieve this.
• The rapid rise in unemployment means that policy needs to focus on preventing a rise in long-term unemployment.
• The ESRI says it is important that the planned budget for 2010 is implemented. If the world economy recovers by 2011, the elimination of the structural deficit will require only limited further fiscal policy action in the medium term. However, a prolonged world recession would necessitate a tighter fiscal policy stance in 2011 and beyond.

Sir Samuel Brittan, the veteran economics commentator, writes in the Financial Times today: "We have been told by that usual bringer of bad tidings, George Soros, that the “economic freefall” has stopped. The normally cautious president of the European Central Bank, Jean-Claude Trichet, has identified a slowing down of the rate of decrease in gross domestic product and, in some cases, “already a picking up”. The Organisation for Economic Co-operation and Development composite leading indicator shows at least a slight uptick. The admittedly highly erratic Easter UK retail sales figures show an actual increase and surveyors report more property inquiries. Financial commentators talk of “green shoots” and one of them has even suggested that the recession came to an end in April. So – Bank of England dissenting – everything is all right and we can get back to normal life.

Except that it isn’t."

Sir Samuel concludes his article Green shoots and dud forecasts:"The weather in summer in north-west Europe is known to be highly variable. Somebody going away for a fortnight in that part of the world would find it helpful to have a day-by-day prognosis of temperature, rainfall, sunshine, wind conditions and so on. But apart from the first day or two it cannot really be done. Rather then rely on long-term weather bureau predictions, it is safer to take an umbrella or raincoat and a warm pullover as well as sunglasses and a sunshade, even at the cost of slightly heavier luggage. Now apply this homely little story to economic policy."