IMF Executive Board Concludes 2009 Article IV Consultation with IrelandPublic Information Notice (PIN) No. 09/79
June 24, 2009
Public Information Notices (PINs) form part of the IMF's efforts to promote transparency of the IMF's views and analysis of economic developments and policies. With the consent of the country (or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations with member countries, of its surveillance of developments at the regional level, of post-program monitoring, and of ex post assessments of member countries with longer-term program engagements. PINs are also issued after Executive Board discussions of general policy matters, unless otherwise decided by the Executive Board in a particular case. The staff report (use the free Adobe Acrobat Reader to view this pdf file) for the 2009 Article IV Consultation with Ireland is also available.
On June 15, 2009, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Ireland.1
Following years as a star performer, Ireland is undergoing a painful adjustment as critical internal imbalances unwind. Since the start of the decade, and especially from 2005 to 2007, easy credit fostered a property bubble, bank exposures to property lending soared while reliance on wholesale funding intensified, wages rose rapidly, and international competitiveness was compromised.
GDP grew in 2007 at a brisk 6 percent. However growth began to slow early in 2008 with a deceleration in housing construction, even while parts of the eurozone, notably Germany, were still in the last phases of the previous up cycle. As elsewhere, the pace of contraction accelerated following the failure of Lehman Brothers in September. Recent data point to further deceleration in 2009.
The banking system is under considerable stress as asset quality—especially that related to property development—has deteriorated and the global financial crisis has tightened access to wholesale funding. Irish bank stock prices have fallen sharply relative to the overall stock index, more so than in other eurozone countries. Extensive support by the government has been vital to maintaining financial stability.
Strong growth and buoyant public revenues prompted tax reductions and expansion in public expenditures that have proved unsustainable. Following a decade of close-to-balance-or-surplus fiscal positions, the general government deficit was 7 percent of GDP in 2008 as property-related revenues collapsed. The structural deficit is estimated to have reached 12½ percent of GDP in 2008. Gross public debt reached 43 percent of GDP. The authorities have taken a series of consolidation measures, and laid out a multi-year plan to restore the fiscal position to health.
Executive Board Assessment
Executive Directors noted that Ireland has been hit particularly hard by the global economic and financial crisis, reflecting significant vulnerabilities built up during the boom years, amplified by the openness of the economy to global shocks. Critical macroeconomic imbalances emerged as credit supply accommodated an unsustainable rise in property prices; banks’ exposure to property lending soared while their reliance on wholesale funding intensified; and, as wages climbed rapidly, international competitiveness declined.
Directors agreed that the priorities are to restore the health of the financial sector, ensure the sustainability of the public finances, and enhance external competitiveness and the growth potential over the medium term. They commended the scale and speed of the authorities’ response so far, while noting that these efforts will need to be sustained over an extended period of time. Pragmatic and flexible responses as well as careful contingency planning will be required given the complex policy dilemmas to be confronted and the prospect of only modest recovery ahead.
Directors welcomed the actions taken to safeguard financial stability, backed by ready access to European Central Bank financing. Noting that banking system losses are likely to be sizeable in the near term, Directors supported the authorities’ efforts to restructure the financial sector, including the decision to establish the National Asset Management Agency (NAMA). Directors underscored the importance of adequate design and timely implementation of NAMA. They advised the authorities to consider risk-sharing structures to help deal with the problems with pricing distressed assets. In addition, NAMA should be given the legal and operational flexibility to address all classes of distressed bank assets. A number of Directors considered that, for bank restructuring, other options including a greater equity interest by the government should not be ruled out.
Directors welcomed recent plans to strengthen the supervisory framework, noting that the proposed macro-prudential supervisory framework will blend considerations of systemic stability with managing the stress in individual financial institutions. Directors recommended intensified bank-by-bank surveillance beyond the banks currently under deposit guarantee, and stronger safeguards against related-party exposures. They also called for rigorous assessments of banks’ overall capital adequacy, and for strengthened home-host supervisory cooperation. Directors considered that a special resolution regime for financial institutions would facilitate a speedy and less disruptive resolution of distressed banks.
Directors welcomed the fiscal measures already taken, including significant and politically difficult cuts in public sector wages, and the authorities’ ambitious medium-term fiscal consolidation plans. The emergence of a large structural fiscal deficit—following the reassessment of the underlying balance—the rising public debt, and the fiscal burden from financial support to banks will require a sustained adjustment effort over several years. Directors stressed that the composition of consolidation efforts would be important in laying the foundation for a return to robust growth. They generally concurred that the focus should be on expenditure reduction, possibly including a further reduction of the public sector wage bill. A few Directors, while recognizing that fiscal consolidation is an imperative, cautioned that consolidation should not undermine efforts to arrest the economic downturn.
Directors considered that, over time, the sustainability of the planned fiscal consolidation would benefit from an effective institutional framework, including an appropriate fiscal rule and a medium-term expenditure plan that details the intended measures over the full planning horizon. They also underscored the importance of better targeting benefits for the vulnerable, broadening the tax base without hampering the restoration of external competitiveness, and further pension reform. A few Directors expressed concern about the use of resources of the National Pension Reserve Fund for bank recapitalizing purposes.
Directors stressed that economic growth will hinge on continued restoration of Ireland’s international competitiveness and a reorientation of the economy toward high-productivity activities. They noted that, with no scope for nominal exchange rate adjustment, Ireland’s relatively flexible product and labor markets will be an invaluable asset. They welcomed in this regard the authorities’ commitment to the restoration of wage cost competitiveness—acknowledging the progress already underway—and their plans on infrastructure and R&D investment. A few Directors cautioned, however, that falling nominal wages could impair domestic demand and accelerate deflation.