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Group Economics
Too high expectations cloud strong growth
Contact: Pat McArdle
Chief Economist
+353 1 608 4060
[email protected]
www.ulsterbank.com/economics
Published: Public Affairs Ireland Journal June 2007 Issue No. 39
There is a feeling abroad that the economy is in the doldrums. This view has little enough basis in reality but was
probably sparked by a number of developments. Interest rates are an important influence – this time last year the
expectation was that ECB rates would not go much over 3%; in fact they are currently 3.75% and are about to rise to
4% in June with a possibility of another hike later on. Ironically, the proximate cause of the higher rates is stronger
eurozone, especially German, growth which, on the face of it, should be good for Irish exports and, ultimately, activity
here. Not at all, our exports remain in the doldrums while higher interest rates (with the added imposition of a prudential
2% stress test) restrict the ability of the first time buyer to get on the property ladder. This caused house price inflation to
slow, in turn, generating some wild speculation of a collapse in house prices.
Other factors at work include a major increase in supply – this would usually be regarded as evidence of a wellfunctioning economy – and speculation about the easing or removal of stamp duties. The latter is definitely unhelpful
but, in my view is the lesser of the three influences. It is, however, evidence that we have not learned the lessons of the
past – Government intervention in the housing market is frequently counterproductive, witness the three, abortive,
Bacon reports.
In any event, higher interest rates allied to higher energy prices (though petrol, diesel and home heating oil prices are
little changed from what they were a year ago, electricity and gas prices are up between 12% and 20%) and some
recent high-profile job loss announcements have combined to create a “feel bad” factor which has outweighted the
expansionary pre-election Budget. It has also affected plans to spend the SSIA money. While expectations that this
money would be blown in a massive spending binge always looked wide of the mark, the recent experience indicates
that the bulk of the funds will be invested or used to pay down debt with only a relatively small proportion being spent on
consumer items.
The global economy has also slowed. Even though the prospects for the eurozone have improved considerably, this has
been offset by an even more dramatic deterioration in the case of the US. A year ago, the consensus was that US
growth in 2007 would be 2.9%, now it is 2.3% with opinion split as to whether it will slowdown or accelerate from here.
During 2006, estimates for Irish growth were steadily revised up as consumer spending gathered pace and investment
was buoyant. This year, the reverse is the case. Growth forecasts for 2007 started off strong as most people factored in
a good dollop of SSIA-related spending on consumption and investment. More recently, they have begun to edge down.
The central expectation for 2007, which was as high as 6% in the middle of last year, is now below 5.5%. It is lower still
– around 5% - if you take the average of the two main quasi-official forecasters, the Central Bank and the ESRI.
These forecasts reflect a more sober assessment of the outlook for house completions and, in turn, investment.
Whereas new house completions were 88,000 in 2006, forecasts for the current year range from 70,000 to 80,000. The
more pessimistic figures have quite a knock-on impact on investment and growth.
The other major factor affecting 2007 has been stocks. There was a huge and unexpected build up in stocks in the final
three quarters of 2006 – in their absence, growth would have been a full one percent lower. (You could argue, therefore,
that the acceleration in growth last year was entirely illusionary as it reflected goods produced but not sold).
Forecasters, in turn, are taking the view that there will be a payback this year as these stocks were sold off.
These revisions have clouded the fact that growth around 5% is still a phenomenal achievement, vastly in excess of that
in our trading partners. The problem, as usual, is expectations – we thought that the good times were going to get even
better.
The outlook for 2008 is more sober still – a recent Reuters survey of 11 forecasters produced an average growth rate of
4% which would bring us back to 2004 levels. While the range was from 3% to 5.2%, needless to say the more
pessimistic ones got most of the publicity. The main change from 2006 lies in a fairly radical cut back in estimates of
consumer spending. The Central Bank, for example, has knocked almost 2 percentage points off growth on that account
alone. The more pessimistic stockbroking forecasts would have factored in an even greater reduction. One can
understand that there should be some payback from the ending of the SSIA effect and, of course, employment growth is
likely to tail of f as construction slows. However, if the SSIAs are having only a limited positive impact on spending in
2007, why should they have such a big negative effect next year?
Pat Mc Ardle
Chief Economist
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