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Ireland's political and cultural magazine
28 February 2015
J
ANUARY’S IMF review of the economic situation
in Ireland rained a heavy dose of icy water over
the overheating Government spin machine, and
much of the IMF concerns centre around exactly
the same themes that were highlighted in these
very pages last month.
Top of the IMF worries list is growth.
Budget 2015 assumed GDP expansion of 3.9 percent
in 2015, with 3.4 percent average growth from 2016
through 2018. The Central Bank is now forecasting 3.7
percent for 2015. The IMF forecasts growth of 3.3 per-
cent in 2015, 2.8 percent in 2016 and “about 2.5 percent
thereafter”. In simple terms, 2015-2018, the cumula-
tive discrepancy in the forecast for growth between the
Growth is
lower and less
sustainable than
you think
Constantin Gurdgiev
OPINION
INTERLOPER
Economics has
yielded to politics
February 2015 29
IMF and the Government is now just shy of 3.3 percent-
age points. Put differently, based on IMF forecasts, the
Irish Government may be significantly overestimating
the economic prospects for the country.
It is interesting to note that the IMF assessment of
the Budget 2015 measures contradicts the mainstream
Irish media and Irish Left’s view. The IMF had this to
say about the measures: “Income tax cuts that increase
the already strong progressivity of the system are the
main items. While not significant to the revenue intake,
reductions in property taxes by 14 local authorities,
including Dublin, are a setback for collections from this
recent broadening of the tax base”. Doing away with tax
breaks is fine, if it is done in an environment of falling
distortionary taxes. Still, coupled with elimination of
the property capital gains relief, Budget 2015 hardly
represented a transfer from the poor to the rich, but
rather a net tax increase on the upper earners, espe-
cially the self-employed professionals, relative to the
lower waged.
The drivers behind the IMF’s sceptical view of our
prospects are those discussed in this column before.
Export growth is likely to be much shallower than the
Government expects, while domestic demand is still
suppressed by massive debt for households and compa-
nies. Consider the IMF’s estimates for public debt.
First, public debt fell from 123 percent of GDP in 2013
to 111 percent of GDP at the end of 2014. Impressive as
this change might be, it is driven by one-off changes and
not by any significant debt drawdowns. Consolidation
of IBRC into General Government accounts and its sub-
sequent liquidation first pushed Irish Government debt
up by 6.2 percent of GDP (€12.6 billion) in 2013, and
then reversed most of the same in 2014. All in, IBRC’s
liquidation shaved six percentage-points off our 2014
debt-to-GDP ratio. Furthermore, changes in the EU
accounting rules raised our 2013 GDP by 6.5 percent.
Stronger economic conditions and the smooth exit
from the Troika Programme have meant that the Irish
Government was free to spend some of the borrowed
cash reserves on buying out IBRC-linked bonds held
in the Central Bank. This drawdown of previously bor-
rowed cash contributed to a 4 percentage-point drop
in our debt-to-GDP ratio. For all the Government’s
Should interest rates
double, let alone triple
as predicted, what
mortgage-default rates
on currently performing
mortgages can we
expect?
“
Source: OECD Employment Outlook 2014
IMF October 2011 IMF October 2012 IMF October 2013 IMF October 2014 IMF January 2015
Dept. of Finance
Budget 2015
2015
3.3
2.8
2.5
3.0
3.3
3.9
3.4
2.8
2.5
2.5
2.8
3.3
2016
3.5
4
3
2.5
2
1.5
1
0.5
0
Chart 1: GDP Growth, Constant Prices, 2015-2016 Forecasts
Source: IMF and the Department of Finance
30 February 2015
OPINION GURDGIEV
Much of this growth
came from “contract
manufacturing outside
Ireland. The problem is
that none of it has any
real connection to Ireland
and, as the IMF notes,
much of it “could quickly
turn”
“
bravado, last year’s economic recovery contributed only
1.75 percentage points to the debt decline or roughly
one sixth of the overall improvement.
Still, barring adverse shocks, we remain, for now, on
course to drive the debt-to-GDP ratio below 100 per-
cent before the end of 2019.
As the IMF notes, however, a temporary drop of two
percentage-points in the forecast nominal GDP growth
rates for 2015-2016 would push our debt-to-GDP ratio
to 117 percent in 2016. On the other hand, a one per-
cent rise in primary spending by the Government would
push the public deficit to 3.6 percent of GDP in 2015 and
3.0 percent in 2016, instead of the Government’s pro-
jections of 2.7 percent and 1.8 percent, respectively.
The IMF is concerned that the Irish Government is
suffering from ‘adjustment fatigue’, and that this may
increase when the upcoming political pressures of the
general election start looming. The danger is that “…
medium-term fiscal consolidation is at risk from spend-
ing pressures, requiring the adoption of a clear strategy
to enable the restraint envisaged to be realised. … As
the public investment budget is already low, current
expenditures will have to bear the brunt of spending
restraint, while ensuring the capacity to meet demands
for health and education services from rising child and
elderly populations. Nominal public sector wages and
social benefits must be held flat for as long as feasible
and the authorities will need to continue to seek sav-
ings across the budget”.
Somewhat predictably, the Irish authorities have
offered no strategy for fiscal management beyond
2015 and no expenditure policy solutions that can
address these risks. Instead of sticking to promised
costs moderation, the authorities told the IMF that
increased current spending, including on higher public-
sector wages, can be offset by “discretionary revenue
measures”.
In other words, should the Government want to fund
pre-election giveaways to its preferred social partners
(aka workers in the public-sector) it can simply hike
taxes on less favoured groups. A slip of the veil reveal-
ing the ugly nature of our politics-captured economic
strategy.
Politics is now firmly displacing economics in both
the way we set our forecasts, and how we interpret the
data.
Take, for example, our reported near five percent
growth in2014. Various recent ministerial state-
ments extolled the virtues of the Government that made
Ireland “the envy of Germany” as the best performing
economy in Europe. Largely ignored in the official rhet-
oric was that much of this growth came from “contract
manufacturing outside Ireland that is dominated by a
few companies”. The problem is that none of it has any
real connection to Ireland and, as the IMF notes, much
of it “could quickly turn”.
Private domestic demand, excluding aircraft leasing
and investment in tech services-linked intangibles, rose
by closer to three percent. Again, according to the IMF
this figure may be a more realistic estimate of the real
recovery. In other words, somewhere between 30 and
40 percent of the recorded growth in 2014 was down
to just one accounting trick. And multinationals had
plenty of other accounting tricks up their sleeves that
no one is bothering to count.
Even the three percent domestic-growth estimate
is inconsistent with the data on household finances.
Stripping out gains in household net worth attributable
to the property markets, households’ financial positions
hardly improved in 2014. Mortgages in arrears consti-
tute 23.7 percent of all house loans outstanding, when
measured by the balance of loans - down from 25.6 per-
cent a year ago. Based on Central Bank data, at the end of
Q3 2014, some 244,816 mortgages accounts (amount-
ing to €46.1bn) were either in arrears, in repossession,
or at risk of arrears – roughly 4,500 more than a year
ago. Based on Department of Finance data, 85 percent
of all accounts in arrears ‘permanently restructured’ at
the end of November 2014 involved arrears solutions
that result in higher debt over the lifetime of mortgage
than in the absence of restructuring.
Based on Central Bank data, Q3 2014 household
deposits in the Irish banking system stood at €85.9bn,
slightly down on €86.0bn a year ago.
In part the above figures manifest an improvement
in the banking sector’s performance at the expense
of households. In the first half of 2014, Irish banks
recorded their first positive return on assets since the
beginning of the crisis, and the net interest margin (the
difference between the bank lending rate and the cost
of funding) rose to a crisis-period high of 1.5 percent.
But credit growth remained negative, contracting at a
rate higher than in 2011.
In simple terms, the banks continued to bleed their
clients dry at a faster rate than the recovery was making
them stronger, and there was preciously little observ-
able improvement in households’ financial positions
compared to 2013. Certainly not enough to justify a
sense of rapid economic growth.
The IMF isn’t undiplomatic enough to say that, but the
Fund is clearly more concerned than the Irish authori-
ties at this imbalance. As they should be: the Central
Bank internal stress-testing project that new mortgages
being issued by the banks will attract interest rates ris-
ing to over 6-6.5 percent over the lifetime of the loan.
Of course, the Central Bank is myopic when it comes
to telling us what effects such rates would have on exist-
ing corporate and household loans. But give it a thought.
Currently, the average mortgage on the market is paying
interest rates below two percent per annum.
Nevertheless 17.3 percent of all mortgages accounts
are officially in arrears, and 34.3 percent of all mort-
gage loans are either in arrears, subject to repossession,
or restructured.
Should the interest rates double, let alone triple, what
mortgage default rates on currently performing mort-
gages can we expect? What amount of economic growth
do we need to shore up our household finances suffi-
ciently to escape the interest-rate squeeze that even
the Central Bank admits might arise in the foreseeable
future? Can the current trends in the recovery – that are
leaving households out in the cold, while superficially
inflating official GDP figures – deliver any sense of sus-
tainability to our economic performance. •
