The ESRI’s new forecasts

The executive summary of the latest quarterly economic commentary from the ESRI is here.   The Irish Times report is here , while Jim O’Leary provides some commentary here.

19 thoughts on “The ESRI’s new forecasts”

  1. Its a bit like ireland is waiting on a trolley for cancer treatment, only the treatment to eradicate the fianna fail could also kill the patient if the treatment is not taken in time……………

  2. Jim O’Leary argues reasonably that a focus on policy actions is more important than agonising over short-tern forecasts, and he could have added that short-term fiscal targets, beloved of the EU Commission’s Stability Pact Police, are of particularly low value in current circumstances.

    An interesting feature of the ESRI forecasts is that nearly all of the GDP decline in 2009 is coming from the collapse in GDFCF and inventories. The implication is that de-leveraging proceeds apace, and that this component at least of the demand for credit is weakening fast. Some portion of bank balance-sheet contraction is therefore benign, since de-leverage we must.

  3. Colm,

    Like you, I agree with Jim O’Leary’s focus on policy actions rather than hand-wringing about extremely uncertain short term forecasts. I also accept the validity of your point about de-leveraging; this is happening – and must happen – for households, businesses and Government. But, while tossing the mandatory pinch of salt over my shoulder as to the accuracy of the ESRI’s forecasts, I’m inclined to be less sanguine about the drop in GDFCF from around €50 billion in 2007 to about €21 billion (projected) for 2010.

    Although exports are projected to grow – this seems to be the Government’s Get out of Jail free card (even though, again, I would be less sanguine about the machinations of the MNCs generating them), do you not see this precipitious decline in GDFCF as a serious demand deficiency which Government should tackle as a matter of urgency to remove infrastructure bottlenecks and to enhance the productive capacity of the economy when growth resumes?

    I realise all the usual objections (SOE leakages, scarcity of “shovel-ready” projects, deficiencies in public sector project definition and management capabilities, long lead times, digging holes and filling them in, etc.) may be trotted out, but, with rapidly shrinking demand and an abundance of capacity, Government (in true Keynesian fashion) is the only agency that can and should take the lead.

    The perceived constraints on financing are more apparent than real. The global glut in liquidity that contributed to the current crisis has not disappeared. Much is sitting in low-return, near-liquid assets, but there is a demand for stable, secure, low-risk, but higher, returns. These may be generated by effective regulation of infrastructure investments and the challenge is to attract, direct and reward this financing.

    In response to some special pleading from the construction industry, the Government appears willing to consider tapping private investment and pension funds, but the potential is much, much greater than this. Previously, you have advocated the sale of, at least, some of the semi-states as a means of de-leveraging the Government balance sheet, but this could have wider and more beneficial implications.

    It is frequently countered that selling the semi-states now would result in a “fire-sale”, but this does not make sense. The existing regulatory system, with some limited necessary reform to protect the interests of consumers, guarantees the secure, stable, low-risk returns that would be required. The sales proceeds would help to replenish the NPRF (which is likely to be drawn on increasingly to recapitalise the banking sector) and selling the semi-states would give a clear signal to international capital markets of the seriousness of the Government’s intent to get both its current finances and its balance sheet in order. An injection of private sector finance would eliminate the current up-front contribution from consumers to finance a large share of investment (particulalry in the energy sector) and this would lead to lower utility charges – and contribute to international competitiveness.

    I accept that restructuring the semi-states for sale would take time, but there is no reason why the Government should not make use of the IMF’s Flexible Credit Facility. The IMF seems determined to remove any stigma attaching to recourse to its resources. Which, of course, makes the Government’s current attacks on the IMF – documented in a parallel thread – all the more stupid.

    I would be pleased to get reactions to these ideas, if only to disabuse me of any naivete of which I am not aware.

  4. I note from reading the forecast that they have made no allowance for the impact of NAMA in their calculations. Guess it would be hard for them to measure an unknown unknown, but it does not bode well for these figures being beaten in the next couple of years.

  5. @ Paul
    R.E. infrastructural bottlenecks:
    While the Supplementary Budget cut public capital expenditure significantly, it will still be at a level in excess of the level of expenditure at the start of the decade in nominal terms.

    If the government pursued the cost savings implied by the reductions in tender prices (20%) and land prices (30%-50%) then it would seem reasonable to expect the costs to drop by20%. Thus, in real terms the level of investment would still be at the 2006 level or above while the economy is going backwards.

    In other words the level of expenditure budgeted for will help in addressing infrastructure bottlenecks. At a time when our government deficit is rocketing up this is the best response one can hope for. Of course these cost savings have yet to be achieved!!

    For more on this you might want to check out: http://www.irishtimes.com/newspaper/finance/2009/0424/1224245295927.html

  6. The analysis contained in this ESRI report is a fraud. There is a gaping hole in its logic. I am not at all left-wing myself, but social justice demands that some of our moderately left-wing journalists and trade union leaders started challenging the analyses of Ireland’s economic problems that are being passed down to us by right-wing economists in ESRI, in various banks and stockbroking firms, Finfacts and, last but not least, George Lee.

    The question that needs to be addressed is whether the ongoing increase in unemployment in Ireland is primarily due to a loss of competitiveness, resulting in loss of market share by Ireland Inc, as all of the above claim, or whether its due to a collapse in domestic demand. The appropriate policy response depends on which of these is primarily behind the increase in unemployment. Those economists who represent vested interests, such as the ones mentioned above, will always claim that its loss of
    competitiveness. This is hardly surprising since, if that were the case, the appropriate policy response would be to cut wages and generally deflate demand in the economy. However, if the increase in unemployment is not due to any loss of competitiveness or market share, but due to a collapse in demand in the economy, then cutting wages and deflating demand are akin to trying to cure someone suffering from anorexia by putting him/her on a lettuce diet.

    So, let’s look at what ESRI say.

    On their own admission, Ireland’s exports are faring exceptionally well. ESRI forecast that Ireland’s exports will be down 5% in 2009. They also forecast that U. Kingdom’s will be down 9.8% (despite devaluation of sterling), France’s down 11.4%, Germany’s down 16.5%, and the OECD’s down 14%. So, on ESRI’s forecasts Ireland Inc is gaining almost 10% market share of OECD exports in 2009.

    The obvious conclusion is that Ireland Inc is highly competitive. This is confirmed by recent statistics. The trade surplus is going through the roof (averaging 1.5 billion a year more than a year ago). The balance of payments is headed for surplus, Manufacturing output is down just 1% in Jan and Feb, compared to 20% average in EU countries..

    So, why then is ESRI advocating massive pay cuts? Not modest 1% or 2% pay cuts, but 10% to 15%. Wages are not being cut elsewhere, even though their export volume falls are 2 or 3 times that of Ireland.

    The predictable effect of massive wage cuts on this scale, allied to other deflationary measures, is a collapse in demand. And its precisely because of the collapse in demand that unemployment is soaring. Its got nothing to do with any loss of market share by our exporters. In other countries, even though their exports are faring much worse than Ireland’s, jobs are not being lost on the same scale as Ireland because domestic demand is holding up better. Those countries are not mad enough to cut wages and increase taxes at a time of global recession.

    The Government should throw the ESRI report in the bin, recognise that its the collapse in demand in the economy that is the problem and not any fictitious loss of market share by Ireland’s exporters. That would involve: (a) no further cuts in general wage rates (although there may be specific exceptions) (b) cancel the recently-announced tax rises (c) take whatever measures are necessary to get banks lending again.

  7. John, you make some interesting points which I hope others more qualified than I will address, but while who or what is “right-wing” is very much a matter of opinion, I don’t think it’s fair to lump the ESRI and George Lee in with those economists employed by banks/stockbrokers as “represent[ing] vested interests”.

  8. I take James’ point. I might have been a bit harsh, due to typing quickly while at work. I’m interested only in the analyses people give, and whose interests they serve. I’m not suggesting they’re all on the payroll of vested interests, but that the analyses they give are highly convenient for those vested interests, even if they sincerely believe them.

    Further to my last post:

    Since I posted it only 30 mins ago, the February trade figures have been published by the CSO. Given the current global collapse in trade, they are quite spectacular. I’d describe the export performance as ‘sensational’.

    http://www.cso.ie/releasespublications/documents/external_trade/current/extrade.pdf

    exports in Feb 09 UP 1% on Feb 08
    imports in Feb 09 down 20% on Feb 08

    trade surplus in Feb 09: 3.7 billion, or 44 billion annualised – compared to 26 billion in 2007

    Proves my point.

    I’ll wager no other OECD country is seeing a y-o-y increase in exports in Feb 09. In most, exports are down 20%. In some, exports are down 50%.

    So, again I ask, given how well exports (and manufacturing) in Ireland are performing, why are we suffering the fastest-rising unemployment? Its unnecessary and criminal.

    Answer: its the collapse in domestic demand, stupid (as Bill Clinton might say) – as illustrated by the 20% fall in imports and the stratospheric trade surplus

    So, let’s have done with this ‘loss of competitiveness is the cause of the rise in unemployment’ argument (which doesn’t mean competitiveness
    is unimportant or should be ignored). Instead, let’s get demand back in the economy.

  9. Edgar,

    Thank you for removing a portion of my naivete and for the link to your IT piece. I fully accept the case you are making. Perhaps I should have mentioned bottlenecks and deficiencies. In my defence I can only claim to be trying to get a handle on the “big picture”. Quite understandably your focus is on transport and, perhaps, water and waste water as this is the area where there is direct state (and local authority) – rather than semi-state – participation.

    Although I hold no brief for Fine Gael, I found the priorities in their stimulus plan (restructuring and recapitalisation of semi-states, broadband roll-out, smart electricity grid, efficient promotion and connection of renewable energy, household energy efficiency. rationalisation of water and waste water services and reform of infrastructure regulation) to be extremely relevant and forward-looking. My principal problem with FG’s proposal is that they are not sufficiently radical or forward-looking when it comes to financing these good ideas.

    I also take your point about the public capital expenditure/IDA Ireland job cost ratio, but the IDA’s ability to attract jobs partly depends on the infrastructure “platform” for the firms providing these jobs. I remain convinced that there are deficiencies in this infrastructure “platform” and now, with a serious demand deficiency in the economy, is the time to address them.

  10. Given that mainly American companies are responsible for about 90% of Irish exports, we should be cautious in interpreting export trends and the impact on the economy.

    Chemical exports increased by 6% in the first two months of the year, while the value of all other exports actually fell by 14%.

    The increase in bulk chemicals may be big in value but have little economic impact.

    Just over two years ago, General Electric’s aviation leasing unit spun off Genesis Lease, which is headquartered at Shannon. It has 20 staff and annual revenues per capita of $12 million.

    We could lose Intel and its direct 5,000 jobs and gain the equivalent in services exports with say 100 employed.

    Keep in mind, two of Ireland’s biggest companies by revenue have no direct staff and operate from the offices of a Dublin law firm.

    As services exports increase, I would like to see some useful research on the impact of the switch from manufacturing.

    As for competitiveness, it may not be a big deal for chemical producers but labour cost rises of 33.3% in the period 1999-2007 compared with 2.9% in Germany, is not small beer.

    Grafton St, the sixth most expensive retail street in the world; Dublin is among top 12 for prime office rents; Irish housing costs ranking with Beverly Hills, Calif., crappy food at ridiculous prices in Dublin restaurants; the head of a small State agency, the National Consumer Agency, earning as much as Ben Bernanke and so on – – one doesn’t need to be a pointy-head economist to see that such a scenario is bound to have an impact in an export dependent economy.

    On location of ownership, like much else, it’s not a clearcut issue.
    “Irish” company CRH is more than 80% owned by overseas shareholders and employs only 2,000 of its 94,000 payroll in Ireland.

    However, “Finnish” company Nokia is 89% owned overseas but crucially has a key role in the home economy with an important network of suppliers. Up to 2006 (before almost doubling payroll with expansions in China and India), home staff was about 30% of total, mainly in R&D.

  11. @John et al.

    I see people using national accounts trade statistics as evidence of all sorts of things for Ireland. But you can’t escape the inherent problems in trying to interpret data that is so badly tainted by commercial and tax driven transfer pricing policies. I think they need a major health warning.

    But, as a more salient point with regard to foreign trade, it is my view that nearly everyone (possibly everyone), mistake Ireland for “small open economy”, which might be translated into English to mean that national income exhibits a highly elastic reponse to foreign demand.

    However, I think Ireland is more accurately described to be a “re-exporting economy”, akin to Hong Kong, or Belgium. Some importatant implications include:

    Trade will not display a particularly elastic repsonse to changes in relative costs (for example relative unit labour costs). This makes sense when yo understand that 90%+ of the value added passing out of Ireland in the form of exports was created elsewhere and imported.

  12. @John
    You’re quite brave, as you’re essentially sticking your neck on the line re future export performance also. To my mind, collapsing imports could in fact be a sign of MNCs gearing down, and clearing their inventory – which would imply sharp falls in year-on-year exports later in the year.

    I would be interested in hearing the thoughts of those more familiar with the export stats and the MNC sector on this. And I’d be delighted if my theory above is wrong and John’s is right.

  13. On the domestic demand issue, I think the key question is the extent to which it is a cyclical downturn that will respond to a temporary fiscal boost, as opposed to a more fundamental shift in the structure of the economy. My take is that it is more the latter. Since around 2001, the share of employment accounted for by exporting industry has fallen steeply (holding fairly steady in absolute terms), compensated mainly by steep increases in construction and healthcare employment. As near as I can make it, growth in activity in the economy shifted from being driven primarily by growth in wages and salaries of employees in export industries to being driven primarily by ever-increasing rates of new overseas borrowings undertaken to finance construction.

    The tap has turned off on net overseas borrowings. This is being reflected in a steep fall in construction activity. The share of all employment accounted for by construction is falling from 13.7% to (my best guess based on international and historical data and the assumption that the Government will keep spending heavily) about 8%. At trough, that will be 8% of a significantly smaller national employment total. And for every job lost in construction, approaching another one will be lost in domestically traded service industries.

    That’s a source of employment that isn’t coming back. In the short to medium term, the fact that we are overbuilt in residential and commercial property would rule out a rebound even if funding was available. In the long term, all the international data suggests that we can’t sustain construction employment at more than about 7-8% of the workforce.

    Could a fiscal expansion stimulate employment in other sectors enough to compensate for the construction collapse? I don’t believe so. Employment in the main domestically traded service sectors (excluding health, education and public admin/defence) has been nailed into the range 40-42% for more than a decade, and I’ll be surprised if it breaks far out of this range any time soon.

    In my view, the only way out is to start growing employment in exporting industries again, both in absolute terms and as a percentage of all employment. That means improving competitiveness. Despite today’s trade data, it’s pretty clear that employment in exporting industries is currently falling.

  14. @John

    I agree that the debate about wages and competitiveness is not nearly as clear cut as economists and commentators portray. Unfortunately, I think this has been an enduring trusim of mainstream economics to blame workers for “unreasonable” wage compensation. What is striking in this recessionary period is the absence of any political defence of living standards. This is a political problem (I would suggest you read an interesting essay on this here)

    I do not think it is helpful to indulge economists’ preference to reduce social demands for living standards to the bottom line.
    Anemeconomy

  15. @Ronan

    As I can’t predict the future, I am unable to say whether your theory will prove to be the case. We’ll have to wait and see.

    But, the bottom line is this.

    In 2005, 2006 and 2007, the economy overheated. Too many houses were built, inflation rose and Ireland went into balance-of-payments deficit. There had to be a correction, i.e. a contraction in demand to bring things into balance (in terms of balance-of-payments, inflation etc), and one which was bound to cause pain and increase unemployment. All that is not in dispute.

    My point is that this necessary correction has now been largely achieved. The contraction in demand, painful though it was, had by 2009 Q1 achieved the necessary outcomes of eliminating the balance-of-payments deficit, reducing house prices, reducing housebuilding, killing inflation and so on. Any further contraction in demand on top of this, let alone one on the scale ESRI predict, is pure masochism. If you’re overweight, you go a diet to bring your weight down to normal. You’re not expected to diet beyond that until you become a skeleton. On that analogy, the Irish economy went from being overweight in 2005-2007 to normal weight by 2009 Q1. Its not necessary to reduce it to a skeleton by 2010 by an additional 12% contraction in demand (ESRI forecast) on top of what had allready occurred by 2009 Q1.

    Look at the facts. By 2009 Q1, new house completions were down to mid-1970s levels, new car sales were down to mid-1960s level, and retail sales had collapsed. On the plus side of this, and resulting from it, the balance-of-payments deficit had gone, with most economists now saying Ireland was allready in balance-of-payments surplus in 2009 Q1. And inflation was killed stone dead. And even wages had fallen. The economy has gone from being overheated in 2005-2007 to being stone-cold dead in 2009 Q1.

    Now, one can argue as to whether such a massive contraction in demand was or was not necessary. But, let’s assume, for the sake of argument, that it was. That doesn’t mean that a further world-record-shattering 12% contraction in demand (ESRI forecast) between 2009 Q1 and 2010 is necessary. There is no economic necessity for it. If it happens, its because of policy failure, not because it was necessary to cure some excess in the economy (unlike, say, 1982 when the 13% balance-of-payments deficit had to be eliminated). All the excesses of the 2005-2007 period, such as the balance-of-payments deficit, the inflation, the overheated housing market have by 2009 Q1 been worked off. They are gone. They are dead parrots. The economy is now in external surplus, with negative inflation, collapsing house prices and high unemployment. There is no reason in economics for more punishment on top of this. Its not a question of expanding demand, as some have said, but of preventing a further 12% contraction in demand (ESRI forecast) on top of the contraction that had allready occurred by 2009 Q1. No other country in the entire OECD, including those which still have high balance-of-payments deficits and inflation, are being required to contract demand by 12% in the next 18 months. Why is Ireland being expected to? Is the aim to get in the Guinness Book of Records for the largest balance-of-payments surplus ever, the largest negative inflation ever and the highest rate of unemployment ever?

  16. Before we get too excited, note that exports other than chemicals exports down 11% in January relative to twelve months before. (The corresponding figure for December was minus 5% — so this trend is worsening) I suspect that Ronan’s conjecture is on the right lines.

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