Quarterly Economic Observer - Summer 2017 - "Public Finances and Fiscal Policy in the Republic of Ireland"

This edition of the NERI’s Quarterly Economic Observer (QEO) outlines our latest expectations for the economic outlook in the Republic of Ireland and Northern Ireland (Section 1) and examines the public finances and public spending in the Republic of Ireland (Section 2).

Economic Outlook for the Republic of Ireland

  • We are projecting that real GDP will grow by a strong and above trend 4.4% in 2017 on the back of strong employment growth and the work through of pent-up demand. Growth should start to slow towards its trend rate thereafter and we are currently projecting real growth of 3.3% in 2018 and 3.2% in 2019.
  • Labour market conditions should continue to improve in 2017 and 2018 with strong employment growth and increasing real wages. The unemployment rate will fall below 6% sometime in early 2018.
  • Despite the strong growth it is our view that the economy is not as of yet overheating. Our analysis is that there is a small but closing negative output gap. We expect the economy to reach its potential sometime in 2018.
  • Risks to the forecast are mainly skewed to the downside. The post-2018 outlook is particularly uncertain. Brexit and the nature of the Brexit outcome remains the most significant uncertainty although it is impossible to quantify the scale of the potential damage.

Public Finances and Fiscal Policy in the Republic of Ireland

  •  Fiscal space is just €350 million in 2018. On a no policy change basis the Republic will have the lowest public spending-to-GDP ratio in the EU by 2021. However, GDP based comparisons involving the Republic are problematic.
  • To get around the problem we instead compare per capita public spending in the Republic to that of other similarly high-income EU countries across a range of functional areas such as education and health. 
  • We estimate that the Irish state under-spends on a per capita basis compared to these countries in a number of areas fundamental to long-run economic growth. The cumulative under-spend on education per pupil, infrastructure and R&D, when scaled up to the population, is in the order of €2.5 to €3 billion.
  • In this context we argue that long-run economic growth; employment and equity goals can best be achieved by prioritising use of the available fiscal space to increase public capital investment levels; increase spending on education, and increase direct spending and subsidies for R&D.
  • This has implications for the needed direction for tax reforms.

 Outlook for Northern Ireland and the United Kingdom

  •  The outlook for the Northern Ireland economy remains uncertain. In terms of output, strong growth in the final quarter of 2016 looks to have abated somewhat in early 2017 and on the labour market, falling unemployment is largely attributable to a surge in economic inactivity.
  •  Sterling’s devaluation is the only concrete impact of Brexit to date. The increase in volume of goods exports has aided manufacturing, but this has yet to make up for the drop in output around the time of the Brexit vote last year.
  • The currency situation had also given a boost to the services sector in the latter half of 2016, mostly through increased tourism particularly from the Republic. However, as inflationary pressures have hit household budgets, the retail and hospitality sector has seen that growth stall. 
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