An International Monetary Fund (IMF) mission visited Dublin during November 29—December 2, 2016, for the sixth post-program monitoring discussions—part of the IMF’s regular surveillance of countries with significant IMF credit outstanding. The mission was coordinated with the European Commission and the European Central Bank. At the end of the visit, the mission issued the following statement:
The Irish economy is growing at a healthy pace, but remains subject to downside risks. Commendable progress has been achieved through a long and difficult adjustment period. The mission welcomes the authorities’ ongoing commitment to reinforce the recovery, while safeguarding financial stability and restoring needed buffers through steady fiscal adjustment. As this process continues, building consensus on measures that best utilize available resources to support sustainable, inclusive growth and job creation remains crucial. Despite risks, capacity to repay the Fund remains strong.
1. The economic outlook remains broadly positive. Robust domestic demand is projected to drive GDP growth to about 4½ percent in 2016 and just above 3 percent in 2017, supporting further moderation in unemployment. Over the medium term, growth is projected to remain around 3 percent, broadly in line with potential. Inflation, which turned slightly negative this year, is expected to edge up gradually.
2. In the context of Ireland’s highly open economy, external risks dominate. Brexit-related risks, a sustained low growth-low inflation environment in Europe, a changing political landscape in the US and Europe and rising anti-globalization sentiment, as well as ongoing developments in corporate tax treatment at the international level add to uncertainty. Within a challenging political context, agreement on the 2017 budget represents an important milestone for the new minority government.
3. The impact of operations by multinationals, including contract manufacturing and aircraft leasing, on headline GDP complicates assessment of domestic activity essential to economic decision making. The mission welcomes work underway, with support from the IMF and other outside experts, on alternative measures for domestic activity. Preliminary results are expected shortly.
4. Against this backdrop, the government’s fiscal targets are broadly appropriate:
- Given Ireland’s strong track record of fiscal discipline, the moderate fiscal adjustment planned in 2017 strikes a reasonable balance between advancing deficit reduction and addressing public expectations for a growth dividend.
- Maintaining steady progress in rebuilding fiscal buffers is essential. With public debt still elevated, the mission welcomes the authorities’ commitment to reach their medium-term deficit target of 0.5 percent of GDP by 2018, establish a “rainy-day” fund beginning in 2019, and reduce debt-to-GDP to 45 percent within a decade. Risks to the outlook and to the revenue base, including from the concentrated corporate tax base, call for maintaining moderate growth in expenditures, saving any revenue windfalls, and ensuring that potentially temporary revenue gains are not used to fund permanent expenditure increases.
5. Within a tight envelope, fiscal policy could be more supportive of growth. Key priorities include further improvement in spending efficiency to support priority social and infrastructure needs. At the same time, a strong tax base is needed to minimize the impact of potential shocks and safeguard resources for social programs, including in the context of demographic shifts. While the budget broadly reflects these priorities, challenges remain:
- With capital expenditure already well below peers, well-targeted increases are needed to buttress Ireland’s competitiveness and support the population’s welfare, including through investments in economic and social infrastructure.
- Expenditure increases beyond those already programmed would need to be offset by tax increases or cuts in other spending to meet the deficit target, requiring difficult trade-offs.
- The mission welcomes the Housing Action Plan and the related efforts to address the acute problem of housing shortages, high rents, and homelessness. They cautioned, however, that fiscal incentives should be limited and closely monitored to ensure they are well-targeted to assist those most in need and to reduce risks of fueling demand and price pressures.
- Plans for a phased elimination of the Universal Social Charge should not come at the expense of the breadth and stability of the tax base. Consideration should be given to a more comprehensive reform of personal income tax with a view to reducing the tax burden on middle-income households. Scaling up the property tax and/or reducing VAT exemptions could also help mitigate the costs of these reforms.
6. The Irish banks continue to operate in a challenging environment. The underlying profitability of domestic banks has increased and their capital and liquidity positions have improved. Nonetheless, recent stress tests by the IMF and EBA indicate that Irish banks remain vulnerable to shocks. The UK’s decision to leave the EU could further pressure domestic banks’ profitability in light of their direct and indirect exposure to the UK market. In the context of the legislative proposal under discussion in the Parliament on variable mortgages interest rates, the mission stressed that loan pricing should adequately reflect market conditions to allow banks to build up capital and return to normal business profitability. This would enhance investors’ confidence and ultimately promote increased competition in the Irish banking system. The disposal of the government’s stakes in Irish banks, which would support public debt reduction, should continue once market conditions are supportive.
7. Non-performing loans are declining overall, but resolution of deep mortgage arrears remains sluggish. Intensified supervisory oversight of banks’ internal management of NPL resolution should continue to ensure that prolonged mortgage arrears are tackled through loan restructuring where feasible. The “advice and arrears” scheme recently introduced by the government shows promise in improving borrower-creditor engagement on mortgage arrears, but further steps to make the legal proceedings more efficient are also critical to accelerate the resolution process.
8. Continued vigilance is needed to safeguard macro-financial stability, especially relating to the property market. The macro-prudential measures introduced in 2015 serve an important role in strengthening the resilience of banks and household to adverse shocks. The mission welcomes the central bank’s first comprehensive review of these measures and concurs with its broad conclusions. The announced recalibration of parameters is reasonable given early experience with the framework and current dynamics in the housing market. Steadfast progress toward full implementation of the Central Credit Register and replacing the loan-to-income limit with a debt-to-income limit, which better captures the borrowers’ repayment capacity, remain key to ensure prudent lending.
The mission thanks the authorities for the open and productive discussions and warm hospitality.
Compliments of the IMF