Fiscal Assessment Report September 2012: Discussion with Irish Fiscal Advisory Council (Continued)

Thursday, 27 September 2012

Joint Committee on Finance, Public Expenditure and Reform Debate

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(Speaker Continuing)

[Professor John McHale:] Weighing up the risks relating to debt sustainability and ongoing weakness in the real economy, the council supports an alternative fiscal stance involving a total of €1.9 billion of additional adjustments in the period to 2015 compared to the Government's baseline. This alternative stance does not involve additional adjustments beyond the €3.5 billion planned for 2013. Due to a continued weakness in demand and some further improvement in market assessments of Ireland's creditworthiness, the amount of additional adjustment for the period to 2015 has been scaled back by €900 million since our previous report. Model-based projections indicate that this alternative scenario would help with the debt-to-GDP ratio and a faster downward trajectory and would provide additional insurance, albeit limited, in the effort to ensure debt sustainability. While we recognise possible rationales for a separate stimulus programme, balancing various considerations, the council is of the view that any relaxation sought by the Government in the overall fiscal stance should be examined within the context of the main fiscal adjustment programme. The council does not see a case for a relaxation of the fiscal stance at present.

Debt sustainability remains fragile and judgments on this issue are coloured by whether it is believed GDP or GNP provides the most appropriate measure of Ireland's fiscal capacity. Both GDP and GNP have limitations as measures of fiscal capacity. In the report the council introduces a hybrid measure, which places a differential weight on GNP and the excess of GDP over GNP, as an intermediate measure of fiscal capacity. The required fiscal adjustment appears challenging under all three measures, but above all under the GNP measure. While relief on the banking-related part of Ireland's debt is unlikely to be a panacea, any relief will increase the chances of a successful outcome. This will be measured by a robust return to market creditworthiness.

In terms of fiscal rules, Ireland has an obligation to comply with the EU Stability and Growth Pact, revised in 2011, and the fiscal compact, which is being implemented in national law through the fiscal responsibility Bill. While the details are complicated, in essence the rules relate to the structural budget balance. This is consistent with the EU's medium-term objective or budgetary rule and a debt reduction requirement, known as the debt rule. To explore the implications of the fiscal rules, the report also presents an illustrative scenario that extends to 2020. The assumptions mirror those in the stability programme update, SPU, for the period to 2015. For the period 2016 to 2020, the scenario assumes average nominal growth of approximately 3.4% per year and a gradual closing of the output gap by 2018. It also assumes expenditure growth will be approximately flat in real terms. The scenarios assessed are consistent with meeting the budgetary rule throughout the period and meeting the debt rule after 2018, when it will become binding.

I thank the committee for the opportunity to appear before it today. The Irish Fiscal Advisory Council has been up and running for more than one year now, during which time it has produced four reports. Although the council will not be on a statutory basis until later in the year, we hope it has already had a positive impact on the public understanding of budgetary management. Anyway, the council's main value will be for the long term. At all times the council will strive to be independent and objective and to provide a voice in the best interests of sound fiscal policy. We look forward to taking the committee's questions and hearing the views of members.

Vice Chairman: Information on Liam Twomey Zoom on Liam Twomey In order to have a good question and answer session this afternoon I appeal to people to keep their contributions short and to the point, if possible. Deputy McGrath, you indicated that you wished to ask some questions.

Deputy Michael McGrath: Information on Michael McGrath Zoom on Michael McGrath I welcome Professor McHale and all his colleagues from the advisory council and I thank them for their work. It is an important contribution to the debate on the public finances, which will feed into the preparation of the budget in December. From reading the report and listening to the opening remarks of Professor McHale, the centrality of growth becomes clear. It seems that during recent years the halo of 3% growth is always next year or the year after but it has never come. Despite this we are basing all our fiscal projections on 3% real GDP growth in 2014. The Government is forecasting 2.2% real GDP growth for next year, although I suspect this will probably be revised downwards in the medium-term fiscal statement next month. Where does the council believe that growth will come from? It seems it would require a spectacular performance by exports over a sustained period to have real GDP growth of 3% on average in the coming years given that all the other elements of output are likely to remain depressed. Consumer demand in Ireland is likely to continue to contract because of the effect of the forthcoming budgets, Government spending will reduce and the environment for private sector investment does not appear to be especially positive at the moment. The concern I expressed last year in the budget debate was that we continue to be too optimistic in some of the forecasts. These form the basis of the plan to bring Ireland to within the 3% deficit target. I am keen to hear the council's views in this regard.

The council has addressed the issue of debt sustainability in its report. It indicated there is a 40% chance that the debt-to-GDP ratio will fail to come under control by 2015. Is it possible that this risk is higher? Ultimately, does it not come down to economic growth? At the moment there is no evidence that growth is materialising. Since the council signed off on the report before us, the latest CSO quarterly accounts have been published. They show GDP to be absolutely flat in quarter 2 at 0.0%. There was an unexpected rise in GDP but that has been explained by an anomaly relating to profit inflows. The forecast this year, a modest 0.7% growth, may not be achieved and the projected 2.2% growth for next year appears to be optimistic at the moment. I am keen to hear the council's views in this regard.

The council also addressed the need for the Government to keep adjustments under review, including in tax rates, public sector pay, pensions and welfare rates. The council will be aware that this runs contrary to commitments made in the programme for Government and repeated several times by the Taoiseach and the Minister for Finance. Recently, the Government recommitted itself to maintaining the Croke Park agreement through to 2014. How difficult will it be to achieve an adjustment of €3.5 billion in the coming budget without touching any of the three pillars that the Government indicated it would not revisit?

I am keen to hear the council's views on the statement by the three finance Ministers from Germany, the Netherlands and Finland some days ago. It would appear to unravel to some extent the spirit of the agreement reached by the Heads of State and Government last June. What impact will this development have? It seems the markets have factored into their thinking that Ireland will get some deal on the banking debt but it appears that if this does take place it will be some distance down the road when the single supervisory authority is up and running and has had its effectiveness proved. That is some distance away. The number of caveats and the conditionality set out in statement of two nights ago causes us some concern on the fiscal side and I am keen to hear the council's views in this regard.

The council recommended an extra €1.9 billion in fiscal consolidation. I realise the recommendation is not for next year but for 2014 and, substantially, 2015. The council has referred to trying to strike a balance between reducing the deficit and not killing the economy completely. This indicates that the council does not have full faith in the forecasts made or that it does not have confidence that, under the current strategy, projections and policy parameters, we will reach a 3% deficit by 2015. Is the council confident this will be achieved? Will the delegation explain how? It is a difficult sell for ordinary people, who are reeling from the effects of recent budgets. They know what is coming in future budgets as well. How would the council explain that the imposition of an additional €1.9 billion would be the right thing to do in the coming years?

Professor John McHale: These are important questions. Deputy McGrath suggested that growth is absolutely central to our pulling our way out of this crisis. One thing we stress in the report is the significant uncertainty that surrounds the growth prospects of the Irish economy, given that we are in a post-bubble economy whose dynamics are hard to predict.


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