The Central Bank of Ireland’s assessment of the Irish economy has been pretty static for six months.
Like its first quarterly bulletin, the second one, published yesterday, notes the economy has “rebounded well” from the economic impact of the pandemic and Russia’s invasion of Ukraine and is now likely to grow at a moderate but sustainable 2 per cent over the next three years as inflation fades and global trade normalises.
Significantly for workers here, the benign outlook will involve a period of real wage growth or “real wage catch-up” with average incomes projected to grow more quickly than inflation, boosting living standards in the process.
One noticeable difference in the regulator’s narrative, however, is the tone of its warning to Government about the upcoming budget, the last before the next general election, and specifically the need to keep spending in check. Remember the Government is awash with tax receipts and the temptation to use this budgetary muscle to woo voters must be considerable.
While the regulator typically cautions against pursuing big tax cuts or spending increases when the economy is running close to capacity, this time it is direct in warning the Government about the risks of overheating the economy.
“Given overall economic conditions at present it would not be appropriate to continue with an expansionary fiscal stance over the period 2024-2026,” it says.
“A continuation of government expenditure net of discretionary changes in tax growing at a pace similar to recent years would significantly contribute to overheating risks,” it said.
The big budget spends of the past few years could be justified on the grounds that the Government was supplementing demand in the face of a global pandemic and a cost-of-living crisis. There is no such justification now, not with real wages growing.
[ Central Bank warns Government against pre-election budget giveawayOpens in new window ]
But what of the chronic infrastructural bottlenecks in housing and health that we seem to be making only minimum progress on?
The Central Bank acknowledges that these deficits need to be prioritised but warns against trying to do “too much, too quick”.
“As economic activity is expected to be broadly in line with its medium-term potential, policy attention needs to more firmly turn to bolstering that potential by addressing capacity constraints and reducing structural vulnerabilities in the economy and public finances,” it said.
It is essentially saying to Government that the necessary increase in capital spending required to address these issues, particularly with the economy running close to capacity, effectively crowds out the space for meaningful tax cuts or further cost-of-living supports if an overheating dynamic is to be avoided.
The Central Bank is concerned that a big uplift in Government spending or generous voter-pleasing tax cuts will generate domestic inflationary pressures which, apart from eroding competitiveness, will be hard to contain given monetary policy is now the domain of Frankfurt.
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