Risks facing the Irish financial system from the global economy and higher repayment burdens have increased since 2005, according to the Central Bank.
In its annual Financial Stability Report, published this morning, the bank concludes that the risks include volatile energy prices, the risk of inflationary pressures re-emerging and the possible fall-out from the sharp weakening of the US housing market.
Risks facing the Irish financial system have increased since 2005, according to the Central Bank. Photograph: David Sleator
Vulnerabilities arising from strong credit growth and rising indebtedness levels are now combined with developments arising from higher repayment burdens and continuing uncertainty with respect to the outlook for house prices, the report states.
In a statement the Central Bank governor John Hurley said the "overall conclusion is that the Irish financial system continues to be in a good state of health to cope with such emerging issues."
The economy will enjoy solid growth this year and next, the bank forecast today, saying growth will match potential with GNP- the value of goods and services produced by Irish business - coming in at around 5.5 per cent.
However, Mr Hurley said that since the publication of last year's report there has been an unwelcome reemergence of annual house price growth in Ireland.
He said it was not obvious that this was driven by fundamental factors. "House prices would have enjoyed some support from continuing strong demographics and higher income growth, but increasing interest rates and continuing high levels of housing supply were acting to counteract this.
He added that research suggested that an overvaluation in house prices started to emerge towards the end of the period 1980 to 2005.
Mr Hurley said the bank would be concerned if tentative signs of an easing in house price growth in recent months was not confirmed in the months ahead and if prices were to reaccelerate again.
A second concern with the housing market was that recent increases were contributing to a deterioration in affordability. Mr Hurley said this gave rise to two concerns. "First, a deterioration in affordability could increase the risk of an abrupt correction in house prices, should the risks I referred to earlier materialise.
"Second, it may create an environment where there is pressure for some liberalisation of lending standards."
The report also repeated warnings that the rising level of personal indebtedness could threaten the economy and the banking system in the longer term.
Mr Hurley said private sector debt now stood at €300 billion, equivalent to approximately 205 per cent of GNP and was rising quickly. This was "inextricably linked" to developments in the property market, the report notes.
"This is very high both absolutely and in comparative terms and will be higher by the end of the year. Historical experience from a number of countries suggests that high indebtedness may increase the vulnerability of the economy to shocks," Mr Hurley said.
The report also notes that this level of debt is unevenly distributed. "While the average household may not be highly indebted, it is likely that there is a minority of households with significant levels of borrowing.
Mr Hurley said strong job creation, improved participation and migrants' demands for work would benefit the economy.
"As has been the trend of late and given the expected composition of growth, economic growth is likely to be accompanied by strong employment growth, driven in large part by continued significant net inward migration and, to a lesser extent, further increases in the participation rate," he said.
"As a result, unemployment is projected to remain at around its current level of 4 to 4.5 per cent."
