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News : Irish Economy Last Updated: Aug 23, 2010 - 8:24:15 PM

Irish economy maybe set for high growth or low growth by 2015 says ESRI: Full employment in prospect or maybe not
By Michael Hennigan, Founder and Editor of Finfacts
Jul 21, 2010 - 7:03:42 AM

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The ESRI (Economic and Social Research Institute) has updated its Recovery Scenarios for Ireland report, which it published in May 2009. The institute says there is the prospect of high growth and full employment by 2015 but it acknowledges that this outlook maybe too optimistic and it also presents a low growth scenario. 

The ESRI says because of the uncertainty about the future it considers two medium-term scenarios for the economy. In the High Growth scenario, there could be a vigorous recovery over the period 2012 to 2015. In the less optimistic Low Growth scenario the recovery in output, while significant, would be much lower, resulting in substantial continuing unemployment and a higher structural budget deficit.

The institute says while the current liquidity problems in the Eurozone (affecting both governments and banks in particular countries) could significantly impact on progress over the coming year, the most recent comprehensive forecasts for the world and the EU economy (the IMF, OECD, the EU and the UK National Institute for Economic and Social Research, NIESR) see a return to growth in the coming years at a faster rate than that envisaged in the ESRI May 2009 report.

However, the assumptions for growth in Ireland's three main trading blocs, the Eurozone, the UK and the US, published by the UK's NIESR in April 2010 appear optimistic.

While global growth expectations are good, Ireland has no trading links of significance with the key emerging markets and it is foolish to expect a return to a pre-crisis scenario of a credit boom coupled with high government spending in advanced countries - -  See Box below.

The High Growth scenario sees annual GDP growth of 4.6% in the period 2011-2015 and the unemployment rate would be 4.8% in 2015. The Low Growth scenario forecasts average annual growth of 3.2% and an unemployment rate of 7.1% by 2015.

The ESRI estimates that the fiscal adjustment planned by the Government of a further €7.5bn over the period 2011-14 would be almost enough to produce compliance with the Euro Stability and Growth Pact (SGP) budget limit of 3% of GDP  by 2014 under the High Growth scenario. Nevertheless, further measures will be necessary to bring the deficit within the SGP target by 2014 and to eliminate the deficit altogether by 2015.

The economists say the positive economic outlook is the more likely scenario because of the flexibility of the labour market which has been evident over over a period of 15 years. During the period up to  2008, the rate of job creation far exceeded the average in the developed world.

However, according to the Forfás Annual Employment Survey 2007 Irish full-time employment in manufacturing and internationally traded services fell 10,297 from 315,418 in 2000 to 305,121 in 2007 while the numbers in employment expanded by 429,000 in sectors such as construction, public services, distribution, retail and other services.

Simply, the growth in employment was in domestic sectors, boosted by an out-of-control property boom.

The economists say the fall in the unemployment rate to below 5% by 2015 would reflect the rapid adjustment of the labour market which occurs in the High Growth scenario. They say this rapid clearing of the labour market contrasts with the experience of the Finnish economy in the 1990s where the unemployment rate still stood at 11% in 1999, five years after economic growth had resumed. The difference reflects the observed flexibility of the Irish labour market. However, to ensure that the labour market clears and that those who are long-term unemployed find jobs in the recovery phase a more active labour market policy will be required.

The economists see an export driven recovery becoming established in 2012 with the savings rate falling gradually towards its long run equilibrium level. In addition, once the excess of dwellings in the major urban areas are occupied through sale or rental in 2012 or 2013, rents will begin to rise and investment in housing will show a limited recovery. This delayed recovery in domestic demand will be particularly important for employment growth in later years.

There would be cumulative net emigration of over 160,000 over the period 2009 to 2013 and this is crucial to the rapid decline in the unemployment rate in the scenario.

The ESRI estimates suggest that, if wage rates and input prices were one percentage point lower relative to our main competitor economies GNP would be around 0.2% higher in the medium term . The combination of a fall in the cost of living in Ireland (including the cost of accommodation) and the increase in unemployment associated with the contraction in the economy over the period 2008-2010 is expected to lead to wage moderation in the private sector,

The ESRI says while the current evidence suggests that the High Growth  scenario is the the more likely of the two, there is a wide range of factors which could result in the actual outturn being closer to the Low Growth  scenario.

The  Irish  economy  could  record  lower  rates  of growth  over  the  medium-term  for  a  number  of  reasons:  for  example, because  the  export  sector  had  suffered  long-term  damage  or  because  a continuing  high  interest  premium  seriously  affected  future  investment  or because structural unemployment remained high due to a failure of labour market policy. While under such a Low Growth scenario there would still be significant  growth  over  the  period  2012-15,  it  would  not  be  enough  to return  the  economy  to  full  employment  and,  in  2015,  the  government deficit  would  still  be  around  4%  of  GDP,  even  after  the  planned four years of cuts.

The ESRI says effective and consistent labour market policies are needed to ensure that Ireland is not left with a legacy of unskilled long-term unemployment. Failure to implement such policies will significantly hamper recovery and greatly increase the social cost of the crisis.

A sustained improvement in competitiveness is required if the Irish economy is to return to export-led growth and full employment in a reasonable time scale.

The sensitivity of the risk premium to the fiscal stance calls for the full implementation of the government's fiscal austerity programme. This represents a “no regrets” policy in the face of uncertainty about the future.

Recovery Scenarios for Ireland: An Update - - July 2010

Recovery Scenarios for Ireland - - May 2009

A changed post-crisis world?

The April 2010 National Institute for Economic and Social Research (NIESR) growth assumptions look shaky already. However, the pre-crisis world economy is not going to re-emerge and Ireland is dependent for trade mainly on blocs in the developed world. 

The rise in public debt and bank deleveraging will make it difficult for the global economy to return to past growth rates, European Central Bank Executive Board member Lorenzo Bini Smaghi said last January.

Bini Smaghi said he did not expect the global economy to return to its pre-crisis situation, as this had been unsustainable.

"I have the impression that many people, whether in the business sector, the financial markets, or in academic and political circles, think that the post-crisis world will be quite similar to the pre-crisis one in 2006-2007. In other words, they expect the economic recovery to bring us back to where we were before the crisis," he said.

"My feeling is that those who think like that are deluding themselves," he told Frankfurt's Chamber of Commerce and Industry.

Bini Smaghi said the pre-crisis situation was not in equilibrium. It was not sustainable. The crisis occurred precisely because the situation was unsustainable, both within certain countries and globally.

He said if the world economy were to return to the pre-crisis situation, within a short time span a new crisis would be likely to occur because the same imbalances that led to the crisis would build up again. Considering some recent developments and behaviour, and considering the way certain policies are being discussed and the thinking of some key players, such a scenario does not seem that unlikely.

"It is likely that a number of factors will weigh negatively on the economic outlook, making it difficult to achieve pre-crisis growth rates," Bini Smaghi said. A rise in unemployment and structural shifts in world demand and prices would also play a role, he said, referring to the construction and car industries.

The recent symptoms of a fragile recovery in the developed world signal that  rising public debt, deleveraging of private debt and the end of credit and related asset booms for the foreseeable future, means that a return to the heady days of 2005 and 2006 is not on the cards.

The Eurozone medium-term annual trend growth is set to fall to about 1-1.5% according to Dr. Thomas Meyer, Chief Economist of Deutsche Bank Group and Head of Deutsche Bank Research said this week. He said government spending and cheap credit will be out of the picture as growth drivers for the medium term.

In the UK, a tough austerity plan was announced in June.

The economy faces a five year jobs deficit if economic growth slightly undershoots official forecasts, a leading professional body warned last week.

The Chartered Institute of Personnel and Development (CIPD) said growth needed to be at least 2.5% between now and 2015 to maintain job numbers. The Office of Budget Responsibility (OBR) is forecasting growth of 1.3% this year, 2.6% in 2011 and 2.8% in 2012 and 2013.

Economist John Philpott said the experience of the past 30 years suggests that the UK economy needs to grow by at least 2.5% per year in order to trigger 1% annual private sector employment growth.

The significance of this historical precedence is that it suggests that economic growth in the next few years has only to be slightly less strong than the OBR’s current central forecast for the jobs outlook to look a lot worse. Against the backdrop of massive public sector job downsizing it doesn’t require anything like a double-dip recession to result in a prolonged jobs deficit, merely economic growth in the range 2–2.5% per annum rather than the +2.5% per annum (above trend) growth rate the OBR expects.

In the US, some economists speak of the "New Normal."

Real US GDP rose an average of 3.4% per year from 1960 through 2007, according to economists at ratings agency Standard & Poor's. In January 2010, they expected growth to average only 2.6% over the coming decade.

Mohamed El-Erian, CEO of bond fund manager PIMCO, argues that once the current phase of deleveraging, de-globalisation and re-regulation is over, investors and policymakers will “find themselves in a landscape that only partially resembles that which dominated the 2003-2007 period.”

SEE: Finfacts article, July 19, 2010; US Economy: Recovery will continue at sluggish pace; "It won't feel like one to most"

"We'll be growing two-thirds as fast as we were. If you want to know what that feels like, think back to the late 1970s, early 1980s," Adam Posen, deputy director of the Peterson Institute for International Economics and a member of the Bank of England's Monetary Policy Committee said in 2009.

Nobel laureate, Prof. Micheal Spence   wrote in the Financial Times this month: "Incomes in the middle-income range for most Americans have stagnated for more than 20 years. Manufacturing jobs are moving offshore. Globally the set of goods and services that is tradable is expanding, but the US and other advanced countries are not competing successfully for an adequate share of the tradable sector.

The employment effects of these trends over the past 15 years have been masked by excess consumption and the overdevelopment of sectors such as finance and real estate. The latter are now set to shrink, as multinational companies grow where they have access to high-growth emerging markets in Asia and Latin America. Such companies will locate their operations where market and supply chain opportunities lie. In the tradable sector, in manufacturing and in a growing group of services, that means outside advanced countries."

The ESRI report makes 3 references to credit  - - including 2 to carbon rather than money.

Its High Growth scenario is dependent on "adequate credit."

However, the culture of lending has changed in Ireland and the days of easy credit are over. How that impacts the domestic economy in the medium-term, remains to be seen.

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