## 1. CIT Revenue at Risk ## Source details **Canonical URL:** [1. CIT Revenue at Risk](https://www.imf.org/-/media/files/publications/cr/2019/1irlea2019001.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2019/1irlea2019001.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2019/1irlea2019001.pdf.json) --- ### Macro-fiscal context and dependence on CIT - Real GDP growth in 2018: 6.8 percent. - Real modified domestic demand expansion in 2018: 3.3 percent. - Abundant unforeseen CIT proceeds in 2018 more than offset additional expenditure growth of 3 percent (compared to Budget 2018); the 2018 budget closed in balance, 0.2 percentage points of GDP better than expected. - Public debt declined by almost 4 percentage points to below 65 percent of GDP (105 percent of GNI*). - Government targets reducing public debt to 45 percent of GDP (70 percent of GNI*) by the next decade. - Budget 2019 includes a €500 million annual contribution to the Rainy-Day Fund (RDF); the Strategic Investment Fund will contribute €1.5 billion to the RDF. ### Fiscal projections and fiscal stance linked to CIT - Staff projects growth to slow to about 4 percent in 2019 and to converge toward close to 3 percent over the medium term. - Staff projects the structural balance to reach a surplus of 0.7 percent of GDP by 2024 under current policies. - Under current policies, staff estimates the fiscal stance to be broadly neutral during 2019–20; consolidation expected to resume in the outer years with the structural balance reaching a surplus of 0.7 percent of GDP by 2024. - Budget 2019 targets maintaining overall balance in 2019, with the Medium-Term Objective for a structural deficit of 0.5 percent of GDP expected to be achieved in 2019 and the government planning a structural surplus of 0.2 percent of GDP in 2021. - Staff’s fiscal projections are somewhat less optimistic than those of the authorities due to more conservative tax buoyancy and expenditure assumptions. ### Main risks to CIT and fiscal resilience - International corporate tax reforms: significant changes in tax planning strategies of U.S. MNEs would reduce investment and tax revenues. - Full implementation of the G-20/OECD BEPS initiative, including the EU ATADs, and unilateral digital taxes in more EU countries may reduce corporate profits taxed in Ireland. - Boom-bust dynamic: abundant CIT receipts can increase pressure for tax cuts, wage hikes, and public investments; weakening fiscal restraint could push expansion toward a boom-bust dynamic. - Escalation in protectionism and Brexit are additional downside risks affecting growth and CIT receipts. - Volatility in MNE-related statistics: preliminary current account surplus widened from 8.5 percent of GDP in 2017 to 9.1 percent in 2018; staff anticipates the 2018 preliminary surplus will be revised downward for reasons related to MNE operations—this volatility underscores uncertainty around revenue baselines tied to multinational activity. ### Box 1 — Estimating CIT revenue at risk (approaches and magnitudes) - Two estimation approaches: - Lower bound: compare relative share of gross profits in gross value added (GVA) of the non-financial sector (NFS) to peers; apply effective CIT rate to the extra profits (difference between Ireland’s share and the highest gross profits/GVA ratio of EU peers). - Alternative: impute underlying gross profits (including the financial sector) based on past growth (projecting 2015–18 using the 2014 growth rate) and apply the effective CIT rate to the difference between actual and imputed profits. - Resulting ranges: CIT revenue at risk ranged from 0.6 to 1 percent of GDP, or 1.1 to 1.8 percent of GNI* in 2018. ### Policy recommendations and contingency measures - Build buffers and strengthen resilience: - Continue to build buffers given an advanced cyclical position and uncertainties around Brexit and corporate tax reforms. - Establish and fund the Rainy-Day Fund; Budget 2019 includes a €500 million annual contribution. - Use proceeds from disinvestments in the financial sector for debt reduction, as committed by the government. - If external shocks materialize (e.g., no-deal Brexit): - Allow automatic fiscal stabilizers to operate freely. - Support targeted, temporary, and effective government assistance to help hard-hit industries adjust. - Prepare to mount a broader fiscal stimulus and deploy the Rainy-Day Fund depending on downturn severity. - Ensure discretionary infrastructure investment projects are well-prepared, in line with PIMA recommendations. - Central Bank of Ireland should release the countercyclical capital buffer in the event of a sharp contraction in bank credit. - Do not adjust macroprudential policies aimed at limiting excessive leverage in the housing market. - Mitigation of CIT risks from international tax reform: - Consider tax-base broadening in a growth-friendly manner to mitigate potential revenue losses from international corporate tax changes. ### Fiscal policy recommendations and specific targets - Resume consolidation to rebuild buffers: - Government should aim at an overall surplus of 0.2 percent of GDP in 2019, achievable by strictly adhering to budgeted expenditures, a small structural effort, and saving any additional unforeseen CIT revenues (either in the RDF or to reduce public debt). - In 2020, target a surplus of 0.5 percent of GDP. - Medium-term strategy: reduce public debt ratio to below 50 percent of GDP by realigning moderate structural expenditure growth with broad and stable revenue-raising measures. ### Revenue-side policy options (estimated yields and design points) - VAT: - Streamline preferential rates and exemptions. - Narrowing the VAT rate structure could yield between 0.2–0.8 percent of GDP. - Income distribution concerns could be mitigated by means-tested allowances for low-income households. - USC and income tax: - USC could be replaced by a reformed income tax (IT); option to discontinue the USC and achieve its yield through a reformed IT with somewhat higher rates, broader base, and more tax bands. - Local property tax: - Improve implementation by adhering to three-year valuation frequency and capping the rate of annual tax base increases to smooth payments, while preserving the tax rate. ### Expenditure-side and public investment recommendations - Moderate expenditure growth and improve spending efficiency. - Deeper spending reviews needed in specific areas (healthcare) to avoid soft budget constraints. - Improve planning, selecting, costing (including PPPs), and ex-post assessing of projects to close Ireland’s efficiency gap (IMF PIMA). ### Social Insurance Fund (SIF) long-term soundness - KPMG projections: SIF faces significant deficits starting in 2030 of about 1 percent of GDP, increasing to 3 percent by 2055. - Measures should be developed (including review of social security contributions and benefits) to safeguard SIF long-run viability. - Planned increases in the state pension age are steps in the right direction. ### Key numerical indicators linked to fiscal and macro outlook - GDP growth: 2018 = 6.8 percent; staff projection 2019 ≈ 4 percent; medium-term potential close to 3 percent. - Real modified domestic demand expansion in 2018: 3.3 percent. - Unemployment rate: below 6 percent in April 2019; staff expects about 5 percent over the medium term. - Inflation: core inflation picked up to one percent at end-2018; headline inflation expected to reach 2 percent over the medium term. - Current account (percent of GDP): 2017 = 8.5 percent; 2018 preliminary = 9.1 percent; projected to decline to 4.6 percent by 2024. - Public debt: below 65 percent of GDP (105 percent of GNI*); government target 45 percent of GDP (70 percent of GNI*) by the next decade. - Rainy-Day Fund contribution: €500 million annual starting in 2019; Strategic Investment Fund contribution to RDF = €1.5 billion. - Budget outturn: 2018 budget closed in balance, 0.2 percentage points of GDP better than expected. - Expenditure growth in 2018 relative to Budget 2018: 3 percent. ### Authorities’ views (summary) - Government committed to further strengthening public finances, acknowledged spending pressures related to the election cycle, challenges in public investment, and risks of repeated healthcare overruns. - Intends to save additional CIT revenue, enhance spending controls, and increase efficiency of public investment. - Preparing to review VAT and income taxation frameworks and update property taxation by next year. - Plans to use future proceeds from disinvestments in the banking sector and National Asset Management Agency profits to reduce public debt. - Reaffirmed constructive engagement with international corporate tax reform and pursuit of measures to strengthen SIF and an upgraded comprehensive climate strategy aiming to meet Ireland’s 2030 carbon emission targets. _Italic line: International Monetary Fund staff analysis as presented in the source._ ### 1. CIT Revenue at Risk____________________________________________________________________________________ 13 ### 1. CIT Revenue at Risk ### Macro-fiscal context and dependence on CIT - Strong growth continues, with real GDP growth in 2018 of 6.8 percent and real modified domestic demand expansion of 3.3 percent, supported by multinational sector-led net exports and robust domestic demand. - Abundant unforeseen corporate income tax (CIT) proceeds in 2018 more than offset additional expenditure growth of 3 percent (compared to Budget 2018), contributing to a budget that closed in balance in 2018, 0.2 percentage points of GDP better than expected. - Public debt declined by almost 4 percentage points to below 65 percent of GDP (105 percent of GNI*). The government targets reducing public debt to 45 percent of GDP (70 percent of GNI*) by the next decade. - Budget 2019 includes a €500 million annual contribution to the Rainy-Day Fund (RDF); the Strategic Investment Fund will contribute €1.5 billion to the RDF. ### Fiscal projections and assumptions linked to CIT - Staff projects growth to slow to about 4 percent in 2019 and to converge toward close to 3 percent over the medium term. Staff projects the structural balance to reach a surplus of 0.7 percent of GDP by 2024 under current policies. - Under current policies, staff estimates the fiscal stance to be broadly neutral during 2019–20; consolidation is expected to resume in the outer years with the structural balance reaching a surplus of 0.7 percent of GDP by 2024. - Budget 2019 targets maintaining overall balance in 2019, with the Medium-Term Objective for a structural deficit of 0.5 percent of GDP expected to be achieved this year and the government planning a structural surplus of 0.2 percent of GDP in 2021. - Staff’s fiscal projections are somewhat less optimistic than those of the authorities due to more conservative tax buoyancy and expenditure assumptions. ### Risks to CIT and fiscal resilience - Main risks related to CIT revenues identified in the source: - International corporate tax reforms: significant changes in tax planning strategies of U.S. MNEs, which play an important role in the Irish economy and contribute significantly to CIT revenue, would reduce investment and tax revenues. - Full implementation of the G-20/OECD Base Erosion and Profit Shifting (BEPS) initiative, including the EU Anti-Tax Avoidance Directives (ATAD), and unilateral introduction of digital taxes in more EU member countries may somewhat reduce corporate profits taxed in Ireland. - Boom-bust dynamic: abundant CIT receipts can increase pressure for tax cuts, wage hikes, and public investments; a further weakening of fiscal restraint could push the expansion toward a boom-bust dynamic. - Escalation in protectionism and Brexit are additional downside risks that could affect growth and CIT receipts. - The preliminary current account surplus widened from 8.5 percent of GDP in 2017 to 9.1 percent in 2018; staff anticipates the 2018 preliminary surplus will also be revised downward for reasons related to MNE operations—this volatility underscores uncertainty around revenue baselines tied to multinational activity. ### Policy recommendations and contingency measures - Build buffers and strengthen resilience: - Continue to build buffers in light of an advanced cyclical position and uncertainties around Brexit and corporate tax reforms. - Establish and fund the Rainy-Day Fund (RDF); Budget 2019 includes a €500 million annual contribution. - Use proceeds from disinvestments in the financial sector for debt reduction, as committed by the government. - If external shocks materialize (e.g., no-deal Brexit): - Allow automatic fiscal stabilizers to operate freely. - Support targeted, temporary, and effective government assistance to help hard-hit industries adjust. - Prepare to mount a broader fiscal stimulus and deploy the Rainy-Day Fund depending on the severity of the downturn. - Ensure discretionary infrastructure investment projects are well-prepared, in line with PIMA recommendations. - Central Bank of Ireland should release the countercyclical capital buffer in the event of a sharp contraction in bank credit. - Do not recommend adjusting macroprudential policies geared toward limiting excessive leverage in the housing market. - Mitigation of CIT risks from international tax reform: - Consider tax-base broadening in a growth-friendly manner to mitigate potential revenue losses from international corporate tax changes. ### Key numerical indicators linked to fiscal and macro outlook (as presented) - GDP growth: 2018 = 6.8 percent; staff projection 2019 ≈ 4 percent; medium-term potential close to 3 percent. - Real modified domestic demand expansion in 2018: 3.3 percent. - Unemployment rate: below 6 percent in April 2019; staff expects about 5 percent over the medium term. - Inflation: core inflation picked up to one percent at end-2018; headline inflation expected to reach 2 percent over the medium term. - Current account (percent of GDP): 2017 = 8.5 percent; 2018 preliminary = 9.1 percent; projected to decline to 4.6 percent by 2024. - Public debt: below 65 percent of GDP (105 percent of GNI*); government target 45 percent of GDP (70 percent of GNI*) by the next decade. - Rainy-Day Fund contribution: €500 million annual starting in 2019; Strategic Investment Fund contribution to RDF = €1.5 billion. - Budget outturn: 2018 budget closed in balance, 0.2 percentage points of GDP better than expected. - Expenditure growth in 2018 relative to Budget 2018: 3 percent. *International Monetary Fund staff analysis as presented in the source.* ### 12. However, vulnerabilities are building mainly through increasing dependency on ### 1irlea2019001 - 12. However, vulnerabilities are building mainly through increasing dependency on potentially fragile CIT revenue ### Fiscal vulnerabilities and reliance on CIT - CIT revenue now accounts for nearly a fifth of total tax revenues, up from 7 percent in 2014. - Budget 2019 would show a deficit of 0.5 percent of GDP when adjusted for a part of CIT revenues that are estimated at risk. - Only a small fraction of the additional CIT revenue is saved in the RDF; much has been allocated to permanent measures (funding healthcare budgetary over-runs, reducing income tax and the Universal Social Charge (USC)). - The share of healthcare in the budget has increased to 25 percent – the highest in the EU and 10 percent above the EU average. - The still high public debt represents a vulnerability; a part of the CIT revenue at risk drying up could meaningfully increase public debt. ### Box 1 — CIT revenue at risk (estimation approaches and magnitudes) - Two estimation approaches used to derive a rough range of MNE profits and taxes at risk: - Relative share of gross profits in gross value added (GVA) of the non-financial sector (NFS) compared to peers; apply the effective CIT rate to the extra profits (difference between Ireland’s share and the highest gross profits/GVA ratio of EU peers). This is a lower bound. - Imputed underlying gross profits (including the financial sector) based on past growth (projecting 2015–18 using the 2014 growth rate) and applying the effective CIT rate to the difference between actual and imputed profits. - The resulting CIT revenue at risk ranged from 0.6 to 1 percent of GDP, or 1.1 to 1.8 percent of GNI* in 2018. ### Fiscal policy recommendations and specific targets - Fiscal policy should resume consolidation to rebuild buffers given vulnerabilities and the advanced cyclical position. - Government should aim at an overall surplus of 0.2 percent of GDP in 2019, achievable by: - Strictly adhering to budgeted expenditures; - A small structural effort; - Saving any additional unforeseen CIT revenues (either in the RDF or to reduce public debt). - In 2020, the government should target a surplus of 0.5 percent of GDP. - Medium-term strategy: reduce public debt ratio to below 50 percent of GDP by realigning moderate structural expenditure growth with broad and stable revenue-raising measures. ### Revenue-side policy options - VAT: - VAT preferential rates and exemptions could be further streamlined. - Narrowing the VAT rate structure could yield between 0.2–0.8 percent of GDP. - Income distribution concerns could be mitigated by means-tested allowances for low-income households. - USC and income tax: - The USC could be replaced by a reformed income tax (IT). In the current setting the USC largely duplicates the IT and adds administrative costs. - Option: discontinue the USC and achieve its yield through a reformed IT with somewhat higher rates, broader base, and more tax bands to reduce disincentives to work while preserving current income redistribution. - Local property tax: - Improve implementation by adhering to the three-year valuation assessment frequency and capping the rate of annual tax base increases to smooth tax payments, while preserving the tax rate. ### Expenditure-side and public investment recommendations - Moderate expenditure growth and improve spending efficiency. - Deeper spending reviews needed in specific areas (healthcare) to avoid soft budget constraints. - The Investment Projects and Programmes Tracker improves transparency for an enlarged capital budget (National Development Plan 2018–2027), but further improvements are needed in planning, selecting, costing (including PPPs), and ex-post assessing of projects to close Ireland’s efficiency gap (IMF PIMA). ### International corporate tax reform and climate policy - Continue proactive engagement and implementation of international corporate tax reform agenda (G20/OECD BEPS actions, tax transparency, exchange of information, EU Anti-Tax Avoidance Directives (ATADs)). - Engage in multilateral efforts to address digitalization and tax avoidance; Ireland’s competitive advantages will mitigate impacts. - Climate: - Ireland is the only EU country with rising greenhouse gas emissions, on average by 2 percent per year during 2015-17. - A comprehensive and appropriately ambitious strategy is needed to decarbonize agriculture, housing, and transport, phase out peat and coal heating, and increase the carbon tax. - Partial measures currently in place include electric car incentives and a surcharge for diesel passenger car registrations. ### Social Insurance Fund (SIF) long-term soundness - KPMG projections: SIF faces significant deficits starting in 2030 of about 1 percent of GDP, increasing to 3 percent by 2055. - Measures should be developed (including review of social security contributions and benefits) to safeguard SIF long-run viability. - Planned increases in the state pension age are steps in the right direction. ### Authorities’ views (summary) - Government committed to further strengthening public finances, acknowledged spending pressures related to the election cycle, challenges in public investment, and risks of repeated healthcare overruns. - Intends to save additional CIT revenue, enhance spending controls, and increase efficiency of public investment. - Preparing to review VAT and income taxation frameworks and update property taxation by next year. - Plans to use future proceeds from disinvestments in the banking sector and National Asset Management Agency profits to reduce public debt. - Reaffirmed constructive engagement with international corporate tax reform and pursuit of measures to strengthen SIF and an upgraded comprehensive climate strategy aiming to meet Ireland’s 2030 carbon emission targets. ### Financial sector: size, composition, and risks - Total financial sector assets in 2018:Q3 were 1.6 times higher than in 2009. - Investment funds (IFs) assets grew fivefold, reaching €2.4 trillion. - Money market funds (MMFs) and Other financial intermediaries (OFIs) grew by 58 and 43 percent, respectively. - IFs, MMFs, and OFIs account for 80 percent of total financial sector assets. - Non-bank financial sector: - Total assets of IFs and OFIs amounted to €3.9 trillion in 2018:Q3 (12 times annual GDP), up from €1.4 trillion at end-2009. - Irish investment funds have doubled their share in the euro area’s investment funds sector to almost 20 percent. - Irish households’ financial assets remained flat at 1.6 percent of euro area household assets. ### Banking sector: capitalization, profitability, and asset quality - Domestic banks are well capitalized and liquid; capital ratios declined somewhat in 2018 but remain among the highest in Europe. - Common equity Tier 1 ratio for the three largest domestic banks: 17.8 percent. - Under the adverse EU-wide stress test scenario the fully loaded Common Equity Tier 1 ratio for the two largest banks was projected at 10.5 percent in 2020, above the EU average of 10 percent. - Liquidity coverage ratios remain in line with international peers and well above minimum requirements. - Profitability pressures: - Banks’ profits declined last year due to lower interest rate margins. - High level of non-performing loans (NPL), sizable portfolio of low-rate tracker mortgages, regulatory requirements to build up loss-absorbing liabilities, and elevated operational costs weigh on margins. - Bank loan portfolios remain heavily concentrated in property-related lending (above 70 percent of total loans). - Non-performing loans: - NPL ratio for the three largest domestic banks declined to 8.1 percent in 2018 from 10.7 percent at end-2017. - Largest absolute decline in mortgages on primary residences. - Share of mortgages with long-term arrears remains high and repossession rate is low by international standards. - Provisioning for impaired loans decreased and is well below the EU average. - Continued loan-restructuring, strengthened borrower-creditor engagement, accelerated legal proceedings, and enhanced supervisory efforts are needed to reduce NPL ratio to the 5 percent target by 2020. - Operational and strategic bank actions recommended: continue balance sheet repair, improve cost efficiency, upgrade IT systems, and diversify lending. ### Macroprudential stance and recommended toolkit expansion - Recent mortgage review kept prudential settings unchanged; current LTVs and LTIs limits are becoming more binding. - Given no signs of deterioration in lending standards and subdued credit growth, the current macroprudential stance is appropriate. - Recommendations: - Introduce debt-based measures (DTI and DSTI) to better capture household repayment capacity. - Countercyclical capital buffer increase to 1 percent will come into effect in July and is appropriate given the advanced business cycle. - Consider a systemic risk capital buffer to bolster system resilience given Ireland’s openness and proneness to volatility and external shocks. *Source: IMF staff report content provided in the supplied PDF excerpt.* ### 26. Most exposures of ### 1irlea2019001 - 26. Most exposures of ### Non-bank financial sector exposures and domestic links - Most exposures of the investment funds and OFI sector are to non-residents, but domestic links are non-trivial and growing. - Cross-sector domestic holdings (percentages of respective assets or funding): - Insurance companies have invested 9 percent of their assets in funds and vehicles. - Pension funds have invested 8 percent of their assets in funds and vehicles. - Non-financial corporations hold about 4 percent of their assets in OFIs. - Domestic banks invested about 14 percent of their assets into IFs and OFIs and receive 11 percent of their funding from the industry. - OFIs hold more than a quarter of households’ liabilities (e.g., securitized mortgages and NPL portfolios). - Implication: A large shock to the non-bank financial sector could have a non-trivial adverse impact on the Irish economy; Ireland can become a conduit of global financial shocks. ### Financial stress, liquidity and maturity transformation in funds - Overall financial stress level in the investment funds sector remains low, but vulnerabilities are emerging. - The aggregate probability of distress index shows financial stress in the Irish funds industry is significantly lower than during the European sovereign debt crisis or the normalization of U.S. monetary policy in 2016. - There was a moderate increase in 2018:Q4, largely reflecting the pullback in global equity markets. - Liquidity and maturity transformation trends: - Liquidity transformation has increased somewhat across all fund types, especially in real estate and bond funds. - Bond funds and real estate funds have increased maturity transformation; for bond funds only 11 percent of their short-term liabilities are covered by short-term assets. - Bond funds account for 30 percent of total funds’ assets. - Real estate funds are small but growing fast, have strong links to the domestic economy, and are highly leveraged. ### Data, monitoring, stress-testing and international cooperation (policy recommendations) - Authorities should further improve data collection, closely monitor risk build-up, initiate system-wide stress-testing, and continue intensive international cooperation. - The CBI and the Central Statistics Office (CSO) have continued to develop deeper insights into the funds and vehicles sector and expanded data collection. - Going forward the authorities should: - Enhance surveillance of the sector, including by closely monitoring liquidity and maturity mismatches and excessive leverage. - Provide guidance to the industry on liquidity stress-testing and the use of liquidity management tools. - Build the capacity that would allow for system-wide stress testing. - Contribute to the development of standardized cross-border data-sharing arrangements through international fora. ### Brexit-related preparedness and supervisory recommendations - Financial sector preparations for Brexit appear broadly adequate to mitigate major disruptions. - The CBI continues to closely monitor Brexit contingency planning of Irish financial firms. - According to the latest report by the Task Force on Brexit, the majority of Irish banks, insurers and brokers provided their assessment and contingency plans, which the CBI deemed to be adequate in most cases. - The CBI cooperates closely with the EU and U.K. institutions to ensure business continuity and avoid cliff-edge risks in the financial sector. - Additional recommendations: - Given continued uncertainty, banks and other financial institutions should remain conservative in their internal stress tests and risk assessments. - It is important to analyse the potential impact of Brexit-related financial market shocks, including on the nonbank financial sector. - More than one hundred U.K.-based firms have been seeking authorization from the CBI to relocate some of their activities to Ireland to continue business in the EU after Brexit. - Staff encourages the CBI to continue to devote adequate resources to guarantee a high-quality authorization process. ### AML/CFT and integrity of globally interconnected economy - Authorities should continue to strengthen Ireland’s AML/CFT regime and ensure the integrity of its globally interconnected economy. - Legislative steps aimed at transposing the 4th Anti-Money Laundering Directive have been taken, including to establish the legal basis for a central registry of beneficial ownerships and enhance due diligence requirements for politically exposed persons. - Continued efforts are needed for effective implementation of existing requirements relating to: - customer due diligence; - politically exposed persons; - transparency of beneficial ownership; and - suspicious transaction reporting by banks, the real estate sector, lawyers, and trust and company service providers. - In view of the rapidly growing financial sector and Brexit-related relocations, an appropriate framework is crucial to mitigate any new risks. ### Authorities’ views on financial-sector resilience - Authorities emphasized the need to further strengthen financial sector resilience and noted: - Progress in banks’ balance sheet repair and the successful issuance of MREL. - Need to maintain progress in NPL reduction and to use the full toolkit (including restructuring and sale of loan portfolios) while ensuring full compliance with statutory consumer protections. - Need to continue strengthening banks’ business models. - Current macroprudential policy settings are vital to limit financial stability risks, including in the housing market; consideration will be given to enhancing the CBI’s macroprudential toolkit by completing the capital buffer framework with a systemic risk buffer. - Commitment to improving data collection and deepening understanding of stability risks in the non-bank financial sector, including through expanding stress testing. - Assessment of Brexit contingency planning as broadly adequate to mitigate major disruptions. - Determination to maintain an appropriate anti-money laundering framework. ### Structural bottlenecks to growth and policy priorities - To support high sustainable growth and enhance resilience, continuous efforts are needed to address Ireland’s three main structural gaps: - Housing gap: - Structural measures to expand housing supply are essential. - Important actions: ensure proper zoning and planning, streamline administrative requirements, improve access to financing for distressed but viable construction firms, ensure tax measures counter land hoarding in urban growth areas are effective, and target affordability measures to low-income households and the homeless. - Rebuilding Ireland Action Plan targets and initiatives: - Double the annual level of residential construction to 25,000 homes by 2020. - Deliver an additional 50,000 social housing units in the period to 2021. - Meet the housing needs of an additional 87,000 households through housing assistance schemes. - Home Building Finance Ireland aims to deliver up to 7,500 new homes over the next five years, financed by a €750 million investment from the Ireland Strategic Investment Fund. - Other initiatives include an infrastructure fund and a new fast-track planning process for large-scale housing developments. - Indicators: - Number of new dwellings connected to the electric grid increased by 17 percent in 2018. - Building permits granted increased by 8.5 percent year-on-year in 2018:Q3. - Productivity and skills gaps: - Aggregate productivity in Ireland is high and its growth is faster than in most European countries, driven by the MNE sector. - SMEs’ productivity is below that of MNEs’ but higher than average SME productivity in other European countries. - Declining productivity over the last decade in sectors: transportation, accommodation, food services, and agriculture — sectors that will be most exposed to a Brexit shock. - Policy aims: improve enabling environments in these sectors via direct funding of R&D, training of employees, and quality infrastructure investment. - Finance, professional services, and ICT sectors face persistent hiring difficulties; skills mismatches could be addressed by tailoring education profiles to these sectors. - Gender gap: - Female labor force participation, albeit increasing, continues to lag the EU average. - Closing the employment gap would result in boosting potential GNI* by up to 10 percentage points. - High child care cost is a major limitation for greater female labor force participation, especially for low-income families. - Measures: Affordable Childcare Scheme (launched in 2019), promote equal opportunities, flexible work schedules, income tax individualization, gender pay transparency at company level, and foster women’s entrepreneurship. ### Authorities’ views on structural agenda - Authorities noted: - Rebuilding Ireland Action Plan implementation is on track to meet home-building targets and loan applications with Home Building Finance Ireland have been in line with expectations. - Enhanced supply has contributed to house price moderation but supply needs to expand further and affordability remains an issue. - Social housing has increased substantially and the number of homeless people has stabilized. - Vacant site levy effective at stimulating development at the local level, though more information is needed to identify vacant sites in urban growth areas. - Expanded training programs, including free of charge for skilled women out of the labor force; rollout of the Affordable Childcare Scheme to help increase female labor force participation. - Progress towards Technology Skills 2022 targets to increase ICT graduates. - Bolstered R&D spending, noting constraints on economies of scale and absorptive capacity of SMEs. ### Staff appraisal and macroeconomic policy guidance - Staff assessment: - The Irish economy is one of the most dynamic in Europe but faces several external risks. - Baseline outlook is favorable but Ireland is uniquely vulnerable to Brexit; escalation in global protectionism and changes in international corporate taxation could have negative spillovers. - Ireland’s external position is broadly in line with its medium-term fundamentals and desirable policy settings, but measurement issues regarding multinationals continue to complicate assessment. - Fiscal policy recommendations: - Manage risks by building buffers and strengthening resilience. - Fiscal policy should be tightened to alleviate demand pressures and build buffers against potential shocks. - Barring a no-deal disorderly Brexit, staff recommends pursuing small budget surpluses in 2019–20, including by avoiding further spending overruns and saving any corporate tax windfalls. - Aim at reducing the public debt ratio below 50 percent over the medium term. - To reduce dependency on fragile corporate taxes: further streamline the VAT, reform income taxation, and gradually increase property taxes. - Moderating expenditure growth while increasing its efficiency, notably in healthcare and public investment, is important. - Any proceeds from government disinvestments in the financial sector should be used for public debt reduction. *Source: IMF staff report content extracted from the provided chapter text.* ### 37. A disorderly no-deal Brexit would have significant and immediate adverse ### 1irlea2019001 - 37. A disorderly no-deal Brexit would have significant and immediate adverse ### Brexit risk and near-term fiscal/monetary response - A disorderly no-deal Brexit would have significant and immediate adverse consequences for the Irish economy and reduce long-run output. - Recommended near-term responses if this risk materializes: - Allow automatic fiscal stabilizers to operate freely. - Provide targeted, temporary, and effective support to hard-hit sectors. - Prepare for a fiscal stimulus, depending on the severity of the downturn in the broader economy. - In the event of a sharp contraction in bank credit, the central bank should release the countercyclical capital buffer. ### International corporate tax reform - Ireland should continue its proactive approach to the international corporate tax reform agenda. - The government’s commitment to implement agreed reforms to reduce profit shifting is welcome. - Staff encourages the authorities to continue to constructively engage in ongoing multilateral efforts to address digitalization and tax avoidance. ### Long-term structural challenges: ageing and climate - Important to tackle long-term challenges related to population ageing and climate change. - To safeguard the SIF’s long-term viability and avoid future pressure on the government budget, a review of social security contributions and benefits is needed. - Ireland should step up policy efforts to achieve its climate targets. - Urgent need to develop and implement a comprehensive and appropriately ambitious strategy to transform the carbon-based economic model. ### Financial sector stability and Brexit preparedness - Domestic banks have improved their resilience, but profitability remains vulnerable. - Banks should: - Further reduce nonperforming loans, including through loan-restructuring and portfolio sales. - Improve cost-efficiency. - Diversify lending. - Non-bank financial sector: - Financial stability risks are currently limited, but rapid growth calls for better data collection, close monitoring of risk build-up, system-wide stress testing, and continued intensive international cooperation between supervisors. - Financial sector preparations for Brexit appear broadly adequate, but close cooperation with the EU and U.K. should continue to ensure business continuity and avoid cliff-edge risks. - Maintain a high-quality authorization process for U.K.-based financial firms seeking to relocate some activities to Ireland. ### Macroprudential policy and toolkit enhancements - Macroprudential policies appear to be appropriately calibrated, but the toolkit should be enhanced. - Authorities should complement existing limits on loan-to-value and loan-to-income ratios with debt-based measures to better capture household repayment capacity of mortgages. - Given openness and vulnerability to external shocks, expanding the toolkit with a systemic risk capital buffer would bolster system resilience. ### Anti-money laundering (AML) efforts - Further steps are needed to strengthen Ireland’s anti-money laundering regime and ensure the integrity of its globally interconnected economy. - Progress in transposing the 4th EU Anti-Money Laundering Directive into national legislation is welcome. - Authorities should continue efforts to ensure effective implementation of preventive measures by banks and key gatekeepers and strengthen transparency of beneficial ownership. ### Growth bottlenecks and productivity - Addressing bottlenecks to growth remains important. - Housing shortage: further efforts needed, including improving spatial planning, rationalizing building regulations, and effectively countering land hoarding in urban growth areas. - Ongoing expansion of social housing is welcome. - To boost productivity of domestic firms, the government should improve the enabling environment in lagging sectors through: - Direct funding of research and development. - Training of workers. - Quality infrastructure investment. - Better aligning education outcomes with business needs and increasing female employment are also important. ### IMF consultation timing - Staff proposes that the next Article IV consultation with Ireland take place on the standard 12-month cycle. ### Key statistics and selected projections (as presented) - Population (2018, millions): 4.8 - Per capita income (euros): 37,545 - Real GDP (annual percentage change): 2016 4.9; 2017 7.2; 2018 6.8; 2019 4.1; 2020 3.4; 2021 3.1; 2022 2.9; 2023 2.7; 2024 2.7 - Potential growth (percent): 2016 3.5; 2017 8.5; 2018 6.0; 2019 4.3; 2020 3.7; 2021 3.5; 2022 3.2; 2023 3.0; 2024 2.8 - Inflation (HICP): 2016 -0.2; 2017 0.3; 2018 0.7; 2019 1.2; 2020 1.5; 2021 1.7; 2022 1.9; 2023 2.0; 2024 2.0 - Unemployment rate (percent): 2016 8.4; 2017 6.7; 2018 5.8; 2019 5.4; 2020 5.0; 2021 5.0; 2022 4.9; 2023 4.9; 2024 4.9 - Overall balance (percent of GDP): 2016 -0.7; 2017 -0.3; 2018 0.0; 2019 0.0; 2020 0.2; 2021 0.3; 2022 0.5; 2023 0.7; 2024 0.7 - General government gross debt (percent of GDP): 2016 73.5; 2017 68.6; 2018 64.8; 2019 62.3; 2020 58.8; 2021 57.0; 2022 54.0; 2023 51.1; 2024 48.0 - Current account balance (percent of GDP): 2016 -4.2; 2017 8.5; 2018 9.1; 2019 7.9; 2020 6.9; 2021 6.3; 2022 5.8; 2023 5.2; 2024 4.6 - Gross external debt (excl. IFC): 2016 294.4; 2017 255.0; 2018 221.3; 2019 209.7; 2020 200.3; 2021 191.5; 2022 183.3; 2023 176.3; 2024 169.8 - Nominal GDP (€ billions): 2016 272.9; 2017 293.7; 2018 318.3; 2019 335.4; 2020 351.8; 2021 369.4; 2022 387.7; 2023 405.9; 2024 425.0 _Italic line: Sources: CSO; DoF; Eurostat; and IMF staff._ ### 3. Ireland’s public debt burden is projected to decline steadily over the medium term. ### 3. Ireland’s public debt burden is projected to decline steadily over the medium term. ### Overview and projection - Solid fiscal performance, as incorporated in staff’s forecast, and the positive real growth-interest rate differential would bring the gross public debt to 48 percent of GDP (41 percent of GDP in net terms) by 2024 from about 65 percent (55 percent in net terms) in 2018. - Conventional debt metrics overstate the improvement due to the well-known specifics of Ireland’s headline GDP figures. - Expressed in terms of GNI* or general government revenue, the improvement path would be slower and the debt burden would continue to compare unfavorably with EU peers. - Privatization proceeds and any potential funds related to a settlement of the EC ruling on Apple Inc., which have not been incorporated into current projections, may provide additional resources for debt reduction. ### Main working assumptions - All public debt treated as euro-denominated; share of debt denominated in foreign currency is about 2 percent of the outstanding stock and fully hedged. - About 10 percent of public debt is represented by the State Savings Scheme (including Post Office Savings bank deposits); assumed that 20 percent of the stock of these liabilities falls due each year and is fully rolled-over with a medium-term maturity beyond the projection period. A similar assumption applies to another small portion (2 percent) due to local authorities and other general government entities. Both components are kept constant over the projection period at their estimated 2018 level. - The 10-year bond spread between Ireland and Germany is projected to gradually widen to 125 basis points from the current 60 basis points; as a result, the real interest rate on new issuances becomes closer to real output growth, although the growth-interest rate differential remains positive. ### Gross financing needs (GFNs) - GFNs are estimated to average about 4.5 percent of GDP (about 7 percent of GNI*) over the 2019–24 period. - About 20 percent of the estimated GFNs (equivalent to about one percent of GDP) is represented by stable liabilities that have historically been fully renewed, reducing the government’s need to tap financial markets. ### Vulnerabilities and fiscal concentrations - The economy is highly integrated into the world economy and concentrated in a small number of sectors, leaving public finances vulnerable to common and idiosyncratic shocks. - Corporate Income Tax (CIT) proceeds account for nearly 20 percent of total revenue; the top ten payers account for about 40 percent of tax receipts. - Staff estimates that more than 50 percent of Ireland’s total CIT revenue is paid by affiliates of U.S.-based MNEs; the U.S. corporate tax reform might affect Ireland’s public finances. ### Risk assessment and stress scenarios - Growth shock: calculated as a one standard deviation shock over 2008–2018 excluding 2015, resulting in a growth shock of -4.7 percent. - Primary balance shock: modeled as half of the historical standard deviation (2009–18) of the primary balance in percent of GDP, recalculated excluding crisis-era banking support; implies primary balance shifts from a surplus of 1.6 percent of GDP in 2019 to an average deficit of about 0.5 percent in 2020–21. - Interest rate shock: by default would exceed 800 basis points given crisis-era rates; capped at 200 basis points for Ireland (would imply issuing government bonds at an interest rate almost three times the current one). - Combined macro-fiscal shock: simultaneous application of the growth, primary balance, and interest rate shocks. - Contingent financial liability (CFL) shock: growth shock combined with a one-time increase in public expenditure equal to 10 percent of banks’ assets (noted as a tail risk because domestic banks have significantly strengthened capital buffers). - Customized shock: permanent decline in CIT revenue by 20 percent (reflecting MNE volatility), equivalent to about two-thirds of the difference between actual and expected CIT revenue in 2015, about half of the CIT proceeds from the ten largest companies, and almost half of the estimated CIT losses if Irish affiliates of U.S.-based MNEs allocated profits more in line with activity in Ireland; accompanied by a severe one-time drop in headline GDP of about 12 percent. - Scenario outcomes (traditional debt metrics, relative to GDP): - Under baseline, debt-to-GDP declines as projected. - CFL shock: debt-to-GDP almost reaches the 85 percent threshold; GFNs briefly surpass the 20 percent of GDP vulnerability mark; debt-to-GDP remains close to 75 percent in 2024 (more than 20 percentage points higher than baseline and about 10 percentage points above the starting point). - Growth-shock and combined macro-financial and customized scenarios: debt burden returns approximately to the level at the beginning of the scenario analysis (around 62 percent of GDP); achieving government goal of bringing debt-to-GDP below 60 percent in the early part of the next decade would require additional fiscal measures. - Interest rate and primary balance shocks: modest impact on debt dynamics due to relatively long maturity of public debt and limited GFNs; primary balance shock impact would be smaller if increased spending translated into higher growth. - In all scenarios, GFN-to-GDP ratios remain well below the vulnerability threshold and decline over time. - When measured relative to GNI*, vulnerabilities are more evident: debt burden would fall below the 80 percent benchmark towards the end of the projection period only in the baseline; GFNs risks remain relatively low except in the CFL shock, though in a few scenarios the GFN-to-GNI* ratio would be closer to vulnerability thresholds. ### Mitigating considerations - Large share of public debt held by non-residents poses risks, but non-resident holders are mainly real-money investors with long-term horizons, making a sudden stop a tail risk. - Exchequer cash balances provide a buffer: as of end-January, total Exchequer cash balance amounted to nearly €25 billion, equivalent to about 14 months of the average GFNs in 2019–20. - Substantial external financing requirements largely reflect intra-company and intra-group operations of large MNEs, which also hold large financial assets. *Source: IMF staff chapter titled "3. Ireland’s public debt burden is projected to decline steadily over the medium term."* ### 11. The authorities broadly concurred with staff’s analysis. They recognized the need to ### 1irlea2019001 - 11. The authorities broadly concurred with staff’s analysis. They recognized the need to ### Public debt assessment and authorities' view - Authorities agreed GDP is distorted by activities of multinationals and that traditional debt-to-GDP ratio should be complemented with alternative measures (e.g., debt-to-GNI* or debt-to-revenue). - Using alternative measures, public debt remains high. - Steps taken to mitigate risks: - Maintained a strong liquidity position and covered refinancing needs for nearly a year ahead. - Locked in currently low fixed interest rates. - Extended average debt maturity to 10 years. - Diversified the investor base. - Continued building buffers, including the Rainy-Day Fund, which importantly lowers the net debt burden. - Contingent liabilities have declined with improving financial soundness of the banking sector. - Proceeds from the National Asset Management Agency, estimated at close to €4 billion over the next two years, will be used to reduce public debt. ### DSA baseline outcomes and key projections (figures and metrics as presented) - Nominal gross public debt (percent of GDP) series shown include: 88.4, 68.6, 64.8, 61.7, 58.5, 56.8, 54.9, 52.0, 49.2 (as displayed). - Public gross financing needs (percent of GDP) series shown include: 14.8, 9.4, 6.7, 6.4, 5.8, 5.5, 2.5, 3.8, 2.8 (as displayed). - Real GDP growth (in percent) series shown include: 4.0, 7.2, 6.8, 4.1, 3.4, 3.1, 2.9, 2.7, 2.7 (as displayed). - Nominal GDP growth (in percent) series shown include: 4.3, 7.6, 8.4, 5.4, 4.9, 5.0, 5.0, 4.7, 4.7 (as displayed). - Effective interest rate (in percent) series shown include: 3.9, 2.9, 2.6, 2.7, 2.5, 2.3, 2.1, 2.1, 2.3 (as displayed). - Change in gross public sector debt (cumulative projection): -15.6 (displayed cumulative). - Identified debt-creating flows (cumulative projection): -16.1 (displayed cumulative). - Primary (noninterest) revenue and grants (percent of GDP) samples: 31.8, 26.0, 25.7, 25.9, 25.5, 25.3, 24.7, 24.6, 24.5 (as displayed). - Primary (noninterest) expenditure (percent of GDP) samples: 38.9, 24.4, 24.1, 24.4, 24.4, 24.0, 23.8, 23.1, 22.8 (as displayed). - Automatic debt dynamics (contribution, percent of GDP) examples: -1.5, -3.2, -3.7, -1.7, -1.4, -1.5, -1.5, -1.4, -1.2 (as displayed). ### Alternative scenarios and stress tests (high-level outcomes) - Alternative scenarios shown: Baseline, Historical, Constant Primary Balance. - Baseline underlying assumptions (examples, percent): Real GDP growth 4.1, 3.4, 3.1, 2.9, 2.7, 2.7; Inflation 1.2, 1.4, 1.8, 2.0, 2.0, 2.0; Primary Balance 1.5, 1.5, 1.5, 1.6, 1.8, 1.8; Effective interest rate 2.7, 2.5, 2.3, 2.1, 2.1, 2.3 (as displayed). - Historical scenario examples: Primary Balance 1.5, -2.6, -2.6, -2.6, -2.6, -2.6; Effective interest rate 2.7, 2.5, 2.6, 3.0, 3.3, 3.8 (as displayed). - Stress tests analyzed include: Primary Balance Shock; Real GDP Growth Shock; Real Interest Rate Shock; Real Exchange Rate Shock; Combined Shock; Contingent Liability Shock; Customized scenarios. - Example stress-test projections (Gross Nominal Public Debt percent of GDP under various shocks) displayed range across years 2019–2024 (charts provided in source figures). - Risk assessment heat map indicators referenced: - Benchmarks cited: bond spread upper/lower 400 and 600 basis points; external financing requirement 17 and 25 percent of GDP; change in share of short-term debt 1 and 1.5 percent; public debt held by non-residents 30 and 45 percent. - Public Debt Held by Non-Residents sample shown as 59 percent (displayed). ### External stability assessment and current account revisions - Preliminary headline current account surplus: 9.1 percent of GDP in 2018 (up from 8.5 percent in 2017). - Staff adjusted the 2018 headline current account surplus downward to 3.4 percent of GDP, an adjustment equivalent to €11 billion, based on historical relationships and anticipated revisions to the primary income balance. - Historical BOP revisions for 2015–17 (select figures from Table 1): - 2015 initial current account 10.9, revised 4.4, change -6.5. - 2016 initial current account 3.3, revised -4.2, change -7.5. - 2017 initial current account 12.5, revised 8.5, change -4.1. - Services balance examples (2015–2017): initial -10.2, -16.4, -4.1; revised -14.4, -23.4, -6.2; change -4.2, -6.9, -2.1 (as displayed). - Primary income balance examples (2015–2017): initial -20.9, -17.3, -18.2; revised -23.2, -18.3, -20.4; change -2.2, -1.0, -2.2 (as displayed). - EBA model results and staff interpretation (Table 2): - Actual CA (2018): 9.1 percent of GDP; Staff adjustment: 3.4 percent of GDP. - Cyclically adjusted CA (actual): 9.6 percent of GDP; after staff adjustment: 3.9 percent of GDP. - Cyclically adjusted CA norm (EBA model): 2.9 percent of GDP. - CA Gap: 6.7 percent (model result) and 1.0 percent (after staff adjustment). - Policy gaps breakdown (percent of GDP): total policy gaps 2.2; credit gap 1.9; fiscal gap 0.4; other gaps -0.1; unexplained residual 4.5 (model) and -1.2 (after adjustment). - Total CA gap range reported as [5.3%, 8.3%] (model) and [-0.5%, 2.5%] (staff adjustment range), with note: Total CA gap +/- 1.5 percent of GDP. ### Concluding analytical points - Because BOP and current account data are volatile and heavily influenced by multinational enterprise (MNE) activity, assessments are subject to considerable uncertainty. - Staff considers Ireland’s external position broadly consistent with medium-term fundamentals and desirable policy settings after adjusting the 2018 current account surplus downward to account for expected data revisions. - The credit gap and fiscal gap components should be interpreted with caution given historical distortions (e.g., mid-2000s credit bubble) and external policy distortions. *Source: IMF staff, 1irlea2019001.* ### 5. The assessment of Ireland’s external position is clouded by the large-scale operations ### 5. The assessment of Ireland’s external position is clouded by the large-scale operations ### Modified current account (CA*) and GNI* - CA* fell to 1.2 percent of GNI* in 2017 from 2.6 percent in 2016. - Preliminary estimates for 2018 suggest a CA* equal to about 4.6 percent of GNI*. - The depreciation of foreign-owned domestic capital (related to net imports of intellectual property and imports of R&D services) accounts for much of the divergence between the headline current account balance and CA*. - Large-scale operations of multinationals (MNEs) have limited links to the domestic economy and distort the headline current account balance. ### Real effective exchange rate (REER) - CPI-based REER appreciated by 0.5 percent in 2018. - ULC-based REER appreciated by 2.6 percent in 2018. - EBA REER Index approach indicates an undervaluation of 9.8 percent. - REER level approach yields an overvaluation of 15.6 percent. - Explanatory power of policy variables is negligible in both REER models; gaps are almost entirely attributed to unexplained residuals. - Using the staff-adjusted current account gap range of -0.5 percent to 2.5 percent of GDP and an elasticity of 0.92, the REER is deemed close to its equilibrium value, ranging from an undervaluation of 2.7 percent to an overvaluation of 0.5 percent. ### Net international investment position (NIIP) and external balance sheets - NIIP at end-2018 stood at an estimated -142 percent of GDP (compared to nearly -200 percent of GDP in 2015). - NIIP excluding the International Financial Services Centers (IFSC) narrowed to -102.5 percent of GDP; IFSC NIIP worsened to -39.9 percent. - Non-IFSC gross external debt was equal to 248 percent (down from a peak of 301 percent in 2015) and is projected to decline further over the medium term. - Improvement in NIIP relates mainly to growing foreign assets of the central bank and monetary financial institutions. - Stripping away pass-through entities results in a considerably less negative NIIP. - EBA’s External Sustainability (ES) approach: current account norm sufficient to stabilize net foreign assets at a benchmark level of -91 percent of GDP is a deficit of 4.8 percent of GDP. - This implies a gap of 8.2 percentage points relative to the revised current account surplus of 3.4 percent of GDP. - Assuming an elasticity of 0.92, the ES approach leads to an REER undervaluation of 9 percent. - Staff considers the ES approach less relevant for Ireland because of the country’s role as a financial center and hub for MNEs. ### Overall assessment and structural features - Overall assessment: Ireland’s external position in 2018 was broadly consistent with medium-term fundamentals and desirable policy settings, but subject to considerable uncertainty due to data volatility and the role of MNEs. - Competitiveness has improved, shown by an increasing share of Irish exports in world exports. - External balance sheets have strengthened; FDI inflows remain strong, supported by a favorable business climate and robust economic growth. - Productivity growth varies sharply across sectors and is concentrated in large foreign-owned firms. ### Current account (CA) - Background: CA has averaged a surplus of 3½ percent of GDP since the 2013 recovery began. - CA surplus widened to 9.1 percent in 2018, as strong growth in exports of computer services helped reduce the deficit in the services balance. - Cyclically-adjusted CA balance was 9.6 percent of GDP in 2018 compared to the CA norm of 2.9 percent, resulting in a CA gap of 6.7 percent of GDP. - Staff anticipates the headline CA surplus will be revised downward once more complete information about MNE activities becomes available; this expected revision would reduce the CA gap to 1.0 percent. - CA surpluses for 2015–17 were subject to significant downward revisions, complicating analysis of Ireland’s external position. ### Capital and financial accounts - Capital and financial accounts are characterized by extreme volatility. - In 2018, negative FDI inflows in Ireland increased sharply, driven by large repatriations of earnings by U.S. companies following changes to U.S. tax law. - Net direct investment swung from -11.4 percent of GDP in 2017 to 21 percent in 2018. - Other investments (net) turned sharply negative as liabilities spiked. - Capital and financial accounts are heavily influenced by MNE operations and have been subject to significant data revisions. - Inward FDI and foreign demand for Irish sovereign bonds have been supported by Ireland’s strong economic performance and investor-friendly business climate, including a favorable tax environment. ### Reserves and FX intervention - Background: The euro has the status of a global reserve currency. - Assessment: Reserves held by the euro area are typically low relative to standard metrics. The currency is free floating. ### Policy recommendations (Potential policy responses) - Repair banks’ balance sheets. - Restore fiscal buffers. - Broaden access to finance for indigenous SMEs. - Increase public support for innovation. - Continue targeted active labor market policies (ALMPs). - Expand technical and vocational training. - Improve infrastructure (transportation and housing). ### Annex III — How would a no-deal Brexit affect Ireland? - Exposure measures: - The U.K. is Ireland’s second largest export destination and largest import partner, accounting for nearly a fifth of all Irish trade in goods. - For trade in services, the U.K. is Ireland’s largest export market and third-largest importer. - Ireland’s exports of value-added to the U.K. as a percent of GDP surpass all other EU countries. - Two-way FDI stock with the U.K. (inward and outward) is the second largest in the EU relative to GDP. - Two-way portfolio investments between Ireland and the U.K. are equal to over 200 percent of Ireland’s GDP. - The U.K. is the second largest market for Irish banks, accounting for a quarter of their credit exposure. - A quarter of the total assets of Irish investment funds and special purpose entities is invested in the U.K.; U.K. ultimate investors hold 12 percent of the total claims on Irish funds. - Ireland hosts a British diaspora equal to around 6 percent of Ireland’s total population; nearly half of these migrants are high-skilled. - Exposure index: Chen et al. (2018) synthetic index places Ireland as by far the most integrated EU country with the U.K., with integration increasing over time. - Channels and impacts of a disorderly/no-deal Brexit: - Trade: reduced demand for Irish exports from slower U.K. growth, high tariff and non-tariff barriers, and exchange rate effects; reliance on U.K. imports of intermediate goods and the U.K. land bridge for continental trade could lead to supply-chain disruptions and higher costs; border delays would especially affect agricultural products and pharmaceuticals. - Consumer spending and investment: heightened uncertainty would dampen business and consumer confidence, causing delays or cancellations of investment and cuts in spending, reducing economic output. - Financial sector: likely financial market volatility and spillovers; a weaker sterling would negatively affect Irish competitiveness; tighter financial conditions would raise borrowing costs for firms and households; Irish banks could face pressure from U.K. exposures and weakened domestic SMEs; some real estate investment funds could face funding pressures. - Bank of England worst-case estimates cited: U.K. growth could fall by 8 percent in the first year and sterling would depreciate by 25 percent. - Mitigations: most risks to continuity of financial services have been mitigated by proactive policy actions, including an agreement between U.K. and European regulators to allow continued delegation of asset management services and selling of fund shares in the event of a no-deal Brexit. *Source: IMF staff.* ### 4. The impact of a no-deal Brexit on Ireland’s economy would likely be severe. Various ### 1irlea2019001 - 4. The impact of a no-deal Brexit on Ireland’s economy would likely be severe. Various ### Impact of a no-deal Brexit on Ireland - Short- and long-run output effects: - Chen et al. (2018) estimated that higher tariffs and non-tariff barriers alone would cause Ireland’s output to fall by nearly 4 percent in the long run. - The Central Bank of Ireland estimated that a no-deal Brexit would reduce Irish growth by up to 4 percentage points in the first full year and lower output by 6 percent in the long run. - Other studies put long-term output losses at between 2 and 7 percent. - Key determinants of short-term severity: - The extent to which the U.K. and EU authorities enforce third-country rules. - Whether an extension of Article 50 allows time to prepare. - Whether there is policy cooperation between the EU and U.K. to minimize disruptions. - Sectoral transmission: - For Irish-owned firms, more than half of total imports from the UK are intermediate inputs, increasing vulnerability to disruptions in supply chains. ### Government preparedness and immediate measures - Institutional and legal steps: - The Central Bank of Ireland established a Brexit Task Force in 2016 to assess risks from different Brexit scenarios. - The government published a set of emergency laws to be enacted if the U.K. leaves the EU without a deal, including a measure to allow the government to assist stricken businesses. - The European Commission has indicated that certain state aid regulations may be relaxed, paving the way for such government support without prior Commission approval. - Operational continuity measures: - Measures aimed at maintaining financial markets settlements, insurance contracts, and electricity supplies. - The government created online tools to help businesses and households prepare. - Key risk in preparedness: - Many firms may choose not to incur the cost of preparing for a scenario that may never materialize. ### Risk Assessment Matrix (RAM) — Major risks affecting Ireland and policy recommendations - Overview: - The RAM shows events that could materially alter the baseline path. “Short term” indicates within 1 year; “medium term” within 3 years. Relative likelihoods: “low” below 10 percent, “medium” between 10 and 30 percent, and “high” between 30 and 50 percent. - Rising protectionism and retreat from multilateralism (Likelihood: High; Horizon: Short- to medium-term) - Impact if realized: - Additional barriers and threat of new actions reduce growth directly and through adverse confidence effects (increasing financial market volatility). - In the medium term, economic fragmentation undermines the global rules-based order, with adverse effects on growth and stability. - Ireland is highly integrated into global value chains and its production base is concentrated in a small number of sectors, leaving the economy and public finances vulnerable. - Policy recommendations: - Participate in coordinated policy response at the European and global level. - Let automatic stabilizers work in the short run. - Smooth out debt issuance through use of cash buffers. - Strengthen growth potential through reforms, improving SME access to financing, and easing impediments to productivity growth. - Accelerate NPL reduction and strengthen banks’ resiliency to negative shocks. - Sharp tightening of global financial conditions (Likelihood: Medium; Horizon: Short-term) - Triggers: - Market expectation of tighter U.S. monetary policy; sustained rise in risk premium from concerns about debt levels; a disorderly Brexit; idiosyncratic policy missteps in large emerging markets. - Impact if realized: - Higher debt service and refinancing risks; stress on leveraged firms and households; capital account pressures; broad-based downturn. - Households and SMEs remain overleveraged; a sharp increase in interest rates might worsen debt service burdens. - Policy recommendations: - Smooth out debt issuance through use of cash buffers. - Strengthen supervision to ensure banks can withstand negative shocks and accelerate banks’ balance-sheet repair. - Continue to improve NPLs resolution framework. - Large swings in energy prices (Likelihood: Medium/Low; Horizon: Short- to medium-term) - Impact if realized: - Elevated price volatility complicates economic management and adversely affects investment in the energy sector. - Negative terms of trade shocks would translate into weaker export growth, employment, and fiscal revenues for Ireland. - Policy recommendations: - Reduce vulnerabilities in public finances and the financial sector. - Strengthen potential growth through reforms. - Weaker-than-expected global growth (Likelihood: High/Medium; Horizon: Short- to medium-term) - Channels and regional contingencies: - U.S.: Abrupt closure of the output gap could trigger negative global spillovers. - Europe: Weak foreign demand and a disorderly Brexit could cause market disruption and negative spillovers. - China: Intensification of trade tensions and/or a housing market downturn could slow growth and cause negative global spillovers. - Impact if realized: - Weaker growth in U.S. and Europe would significantly affect Ireland through trade, undermining domestic confidence, investment, and FDI inflows. - The recent U.S. CIT reform might lead to a reduction of U.S. MNE FDI flows to Ireland, with potentially adverse effects on employment, fiscal revenues, and the external position. - Ireland’s links with the U.K. make it vulnerable to a slowdown in the British economy, a sustained fall in the £/€ rate, or an increase in trade barriers. - Policy recommendations: - Allow automatic stabilizers to work in the short run. - In the medium term, fiscal policy within the current envelope should support growth by accenting growth-friendly taxes and spending. - Redirect expenditure savings to pro-growth initiatives. - Strengthen growth potential through structural reforms. - Continue close monitoring of Brexit-related risks and update contingency plans. - Facilitate SMEs’ trade diversification. - On the banking side, continue close supervision and accelerate balance-sheet repair; central bank should stand ready to provide liquidity support to banks if needed. - ECB policy actions under its euro area-wide mandate would contribute to reviving growth and could also aid competitiveness. - Intensification of security risks (Likelihood: High; Horizon: Short- to medium-term) - Impact if realized: - Regional socio-economic and political disruptions with potential global spillovers that may affect Ireland through trade and financial channels. - Policy recommendations: - Smooth out debt issuance through use of cash buffers. - Make use of growth-friendly spending and tax policies and potential-growth-enhancing reforms. - Cyber-attacks on critical infrastructure (Likelihood: Medium; Horizon: Short- to medium-term) - Impact if realized: - Could produce temporary negative effects on growth and financial conditions. - Policy recommendations: - Smooth out debt issuance through use of cash buffers. - Central bank should stand ready to provide liquidity support to banks if needed. - Changes in corporate taxation in the U.S. and the EU (Likelihood: Medium; Horizon: Short- to medium-term) - Impact if realized: - Could make Ireland a less attractive location for future FDIs and adversely affect government revenues. - Budget repercussions might be substantial as 40 percent of corporate tax (equivalent to about 7 percent of total revenues) is paid by 10 MNEs. - Policy recommendations: - Facilitate diversification through structural reforms to strengthen productivity and competitiveness. - Invest in education and training to create necessary skills. - Maintain a flexible and competitive labor market. - Ensure sound public finances and durable debt reduction to rebuild fiscal buffers. - Broaden the tax base in a growth-friendly manner. - Budgetary pressures amid challenging political context (Likelihood: Medium; Horizon: Short- to medium-term) - Impact if realized: - Public pressure to slow fiscal consolidation while increasing dependency on uncertain corporate tax revenues increases vulnerabilities to adverse shocks. - Policy recommendations: - Ensure sound public finances and a durable debt reduction to rebuild fiscal buffers and avoid procyclicality. - Prioritize growth-friendly fiscal measures, including tax-base broadening. - Enhance communication strategy regarding policy and reform plans. - Sharp correction in housing prices (Likelihood: Low; Horizon: Medium-term) - Impact if realized: - A sharp drop in house prices could weaken bank and household balance sheets, with adverse effects on financial stability and growth. - Policy recommendations: - Monitor risks and review macro-prudential limits periodically. - Continue to expand housing supply in a sustainable manner and ensure measures to improve housing affordability are well-targeted. *Source: IMF staff summary from 1irlea2019001 — excerpts on the impact of a no-deal Brexit, government preparedness, and the Risk Assessment Matrix.* ### Annex V. Progress Against IMF Recommendations ### Annex V. Progress Against IMF Recommendations ### Key recommendations and implementation - Several policy recommendations in the 2018 Article IV consultation have been taken on board. - Recommendation: Take advantage of the strong cyclical momentum to accelerate fiscal consolidation and build buffers against risks. Broaden the tax base, maintain moderate spending growth, and avoid the use of temporary revenue gains to fund permanent measures. - Implementation: Public debt ratio has declined further, thanks to continued strong nominal GDP growth, while the headline deficit has been improving on the back of stronger-than-expected CIT revenues. However, abundant but uncertain CIT revenues have been used to some extent to fund current spending and further reductions in personal income taxes. - Recommendation: Continue active engagement in implementing the international tax reform agenda. Strengthen the financial soundness of the Social Insurance Fund. - Implementation: The government issued a Roadmap for implementation of all commitments from international tax agenda. - Recommendation: Further rationalize building regulations to encourage housing supply, while ensuring that measures to improve housing affordability are well targeted. - Implementation: The parliament established an agency, Home Building Finance Ireland (HBFI), that will lend for residential developments across Ireland to contribute to economic and social development and enhance competitiveness of the economy. - Recommendation: Macroprudential policy should continue to be deployed proactively and retain prudent lending policies. - Implementation: According to the central bank’s review in November 2018, macroprudential measures are having an effect as LTVs and LTIs have become more binding. This assures prudent lending standards in the mortgage segment. - Recommendation: Strengthen private sector balance sheets through a sustained reduction in nonperforming loans, including through enhancing supervisory efforts and accelerating legal proceedings. - Implementation: The NPL ratio of the three largest Irish banks has declined somewhat further, thanks to portfolio sales but further efforts are needed to reach the goalpost of 5 percent by 2020. - Recommendation: Improve infrastructure quality, based on prioritization to achieve value-for-money, and encourage domestic firms’ innovation, including through greater direct public support. - Implementation: Budget 2019 allocated a significant increase in capital expenditures, as envisaged in the National Development Plan. - Recommendation: Continue to align educational paths and training programs to labor market needs. Address gender employment and pay gaps. - Implementation: The Affordable Childcare Scheme to be launched in 2019 should help reduce high costs of childcare and lead to an increase in female labor force participation. ### Brexit: impact and preparedness - GDP impacts estimated: c.2.6 percent lower after ten years in a “Deal” scenario, and 5 percent lower in a “Disorderly No-Deal” scenario. - Whole-of-Government preparations include a Contingency Action Plan primarily for a “no-deal” scenario, with a planned fiscal response and Brexit-related legislation. - SME support measures include a €300m Future Growth loan scheme to support long-term capital investment. ### Fiscal policy, public debt, and fiscal buffers - Authorities committed to rebuilding buffers and prudent budgetary policy. - The 2019 Stability Program Update projects a small surplus in 2019, followed by a larger surplus in 2020 in the baseline case. - Transfers of €500m each year from 2019-2023 are committed to the “Rainy Day Fund,” subject to enactment of necessary legislation. - Debt metrics and projections: - Debt-to-GDP ratio projected at 61.1 percent in 2019. - NAMA expected to generate a €4 billion surplus to the State in 2020-21. - Authorities note staff advice on need to tackle spending overruns in the health sector. ### Tax policy and international tax reform - Authorities support an international, multilateral, cohesive and agreed approach to the international corporate tax environment. - Ireland has taken steps including amending tax residency rules, enhancing tax transparency and mandatory disclosure of tax planning arrangements by advisors, and achieved the highest standard for transparency under the BEPS framework. - Authorities welcome the Selected Issues Paper on Personal Income Tax Reform but are less aligned with staff on the link between the increase in CIT revenues and the funding of reductions in personal income taxes. ### Financial sector, macroprudential policy, and AML/CFT - Financial sector developments: - The Central Bank of Ireland has implemented a vigorous authorization process for Brexit-related applications and plans. - The expectation is that Ireland will become the fourth largest financial services centre in Europe. - Two main banks recorded profits for the fifth consecutive year; net loan books expanded for the first time since the financial crisis. - Nonperforming loans and bank asset quality: - The average NPL ratio of domestic banks fell from 13.8 percent to 8.5 percent in the year to December 2018, 88 percent below their 2013 peak. - Mortgage NPLs (70 percent of all NPLs) fell 39 percent year on year, aided by loan sales and work-through measures. - Oldest NPL segments dominated by restructured loans not currently in arrears and with a larger share of collateralization than EU norms. - Policy objective: reach NPL ratio goalpost of 5 percent by 2020. - Macroprudential measures: - The mortgage lending limits introduced in 2014 are reviewed annually; the 2018 review concluded the rules remain unchanged while becoming more binding as property values rise. - The Central Bank of Ireland has set the countercyclical capital buffer (CCyB) at 1 percent effective from 1 July 2019 and has requested powers to introduce a systemic risk buffer. - AML/CFT: - The FATF mutual evaluation report (September 2017) acknowledged strengths and made recommendations for further improvement. - Authorities have submitted evidence for upgrades to compliance ratings on 13 of 40 FATF recommendations; these will be considered by FATF in October 2019. - The 4th Directive has been transposed into law; the 5th A MLD is largely transposed and beneficial ownership of trusts provisions are on schedule to be transposed before their deadline. - A central register of beneficial ownership for corporates (required under 5AMLD) is expected to go live shortly, ahead of the January 2020 deadline. ### Housing and supply-side measures - Supply response and measures: - A comprehensive 5-pillar government housing supply strategy has facilitated an annual average supply increase of over 30 percent in 2014–2018. - Private sector reforms include fast-track planning, new building guidelines and the creation of Home Building Finance Ireland (HBFI) to facilitate further investment. ### Macroeconomic backdrop and labor market - Macro outcomes cited by authorities: - GDP increased by 6.7 percent in the previous year. - Modified (final) domestic demand (MDD) increased by 4.5 percent. - Personal consumer spending growth of 3 percent in 2018. - Headline export performance recorded growth of almost 9 percent in the same period. - Employment reached the highest level in history. *Source: Annex V. Progress Against IMF Recommendations (IMF staff report materials).* ### Box 2 of the Report. ### Box 2 of the Report ### Housing supply and spatial planning - The increase in supply is integrated into improved spatial planning under the National Planning Framework (NPF), which guides strategic planning and development in Ireland over the next 20 years. - The authorities are cognizant that further work is required in this area and are committed to ensuring that housing supply continues to meet the demands of the Irish population. ### Labor Force Participation & Female Representation - With the unemployment rate now at historical lows, employment demand is met by sustained immigration. - Ireland is described as one of the most positively disposed countries in Europe towards immigration, with authorities viewing it as enhancing the productive capacity of the economy and fostering multiculturalism. - To foster enhanced female labor force participation, the recently introduced National Childcare Scheme is designed to address the impediment of high childcare costs to female workers. - The Scheme establishes an equitable and progressive system of universal and income-related subsidies for children up to the age of 15, alongside supports for lifelong learning. ### Climate Change - Ireland is noted as the only EU country with generally rising greenhouse gas emissions. - To step up action and ensure delivery of Ireland’s 2030 targets, the government agreed in November 2018 to prepare a new all-of-Government Climate Plan. - The Plan will build upon the existing National Mitigation Plan and aims to develop new initiatives across all sectors that contribute to reducing greenhouse gas emissions. - The Irish government is committed to carbon pricing as a core element of its policy measures to reduce greenhouse gas emissions and signaled its intention, in the 2019 Budget Statement, to put in place a long-term plan (to 2030) for carbon tax increases, in line with recommendations of Ireland’s independent Climate Change Advisory Council and the special Oireachtas (Parliamentary) Committee on Climate Action. - In May 2019, the government declared climate as a national emergency to highlight its commitment to fiscal and other policies to address climate risks. ### Conclusion - The Irish economy continues to grow, but the authorities recognize the need to address vulnerability to significant external risks of Brexit and global trade, and to protect fiscal and structural reforms. - Difficult trade-offs lie ahead. - The authorities appreciate the useful policy advice contained in the Report as they navigate these choices. *Box 2 of the Report.* --- _Source: https://www.imf.org/-/media/files/publications/cr/2019/1irlea2019001.pdf_