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Ireland—Concluding Statement of the Second Post-Program Monitoring Discussion
November 21, 2014
A Concluding Statement describes the preliminary findings of IMF staff at the end of an official staff visit (or ‘mission’), in most cases to a member country. Missions are undertaken as part of regular (usually annual) consultations under Article IV of the IMF's Articles of Agreement, in the context of a request to use IMF resources (borrow from the IMF), as part of discussions of staff monitored programs, or as part of other staff monitoring of economic developments.
The authorities have consented to the publication of this statement. The views expressed in this statement are those of the IMF staff and do not necessarily represent the views of the IMF’s Executive Board. This mission will not result in a Board discussion.
An International Monetary Fund (IMF) mission visited Dublin from November 17—21 for the second Post-Program Monitoring discussion—part of the IMF’s regular surveillance of countries with IMF credit outstanding above 200 percent of quota. The visit was coordinated with the European Commission's second Post-Programme Surveillance discussion. At the end of the visit, IMF Mission Chief Craig Beaumont thanked the Irish authorities for candid and constructive discussions, and issued the following statement:
Ireland has enjoyed a year beyond all reasonable expectations following the completion of its EU-IMF supported program. Growth has accelerated to be highest in the euro area, job creation has continued, bond yields are at historic lows, and the fiscal deficit will again be below target. Ireland’s resolute implementation of steady and measured fiscal adjustment has been critical to this success. Ireland should stick with this proven approach. Why? Growth prospects in coming years are still very uncertain, as while the US and UK economies are doing well, Euro Area growth remains weak and subject to downside risks, potentially slowing Irish exports. Current highly favorable international financial conditions may not last as major central banks begin to shift their stance and geopolitical risks can evolve rapidly. A sound fiscal position is a critical buffer in these circumstances. With solid growth underway and expected to continue, this is a good time to strengthen that position to help underpin a sustained recovery for Ireland.
1. Ireland’s economic recovery is currently strong, yet major uncertainties remain. The sharp rebound in 2014 is led by exports and investment and is increasingly supported by consumer spending. Further job gains have reduced unemployment to a still high 11 percent and the fiscal deficit is expected to be well within the 5.1 percent of GDP ceiling under the EDP. The mission estimates growth at just over 4 percent in 2014, yet there are significant uncertainties owing to the large contribution of offshore manufacturing to exports. Growth is projected to ease to about 3 percent in 2015 but the range of forecasts is wide, in part reflecting risks to growth in Euro Area trading partners and to international financial conditions.
2. Financial conditions are highly favorable and lending may be picking up from subdued levels. Ireland’s bond yields have reached historic lows aiding the reduction in bank funding costs. Early repayments to the IMF therefore generate significant interest savings in coming years, as reflected in Budget 2015. The health of the two largest banks continues to improve as operating profits rise, yet nonperforming loans (NPLs) remain very high. Lending has been weak, in part reflecting firms’ reliance on retained earnings, but mortgage loans have recently picked up in the context of sharply rising housing prices driven by job gains, declining household uncertainties, and a weak construction supply response.
Fiscal Policy
3. Balancing the budget over the cycle is a sound fiscal anchor for Ireland. Substantial progress with fiscal consolidation has been made in the past seven years, even as these efforts have become increasingly challenging. Nonetheless, a budget deficit that may be over 4 percent of GDP in 2014 remains too large to put Ireland’s high debt firmly on a downward path. Moving to a balanced budget over time would also buttress Ireland’s highly open economy against the broad range of shocks to which it is exposed.
4. Budget 2015 shows fiscal restraint but makes less progress than desirable. The mission estimates that Budget 2015 generates an adjustment of about ½ percent of GDP in structural terms. A somewhat faster pace of improvement would have been preferable in view of relatively strong near-term growth prospects. Hence, any revenue over-performance or additional interest savings should be used to lower the deficit in 2015.
5. In the medium term, steady fiscal adjustment is needed to reach balance while protecting growth. The authorities’ strategy to reach balance centers on fiscal restraint as set out in the expenditure ceilings and in the Comprehensive Expenditure report 2015-2017. The mission estimates that this entails annual structural adjustment of ¾ percent of GDP over 2016–18, which avoids undue drag on growth. Such a steady approach to consolidation will help cushion shocks and result in faster progress to balance if medium-term growth is stronger than expected, and vice versa. Fully utilizing asset disposals, notably of the banks, to hasten debt reduction will reduce interest expenses, thereby containing the cumulative consolidation required.
6. Substantial policy effort will be essential to achieve the envisaged spending path. Age-related demands for public services are rising and other expenditure pressures may emerge after prolonged restraint. Further reforms will be needed to generate savings while protecting public services and investment, and progress in containing the wage bill must be preserved. Flexibility in expenditure allocation will be critical, such as to allow savings in social protection spending from falling unemployment to bolster other public services. Experience with overruns, notably in healthcare, underscores the importance of strengthening spending management in those areas.
7. Readiness to implement revenue measures should be maintained to safeguard medium-term consolidation. Such measures could be needed if the limits of expenditure control are reached or if convergence to international tax standards impacts revenues.
Financial Sector Policies
8. Comprehensive Assessment findings were broadly in line with expectations, and the focus is now on effective integration with the Single Supervisory Mechanism (SSM). The ECB’s Asset Quality Review found modest additional provisioning needs on the large stock of NPLs, confirming the findings of the CBI’s 2013 Balance Sheet Assessment. In the stress scenario, a capital shortfall arose in PTSB, reflecting its weak profits and their sensitivity to shocks. Banking supervision should challenge the appropriateness of provisions in the banks’ end-2014 financial statements. More broadly, continued strong collaborative efforts are needed to facilitate a smooth transition to the SSM, where the more intensive approach envisaged for banking supervision—such as additional on-site inspections—is welcome.
9. This opportunity should be used to ensure PTSB is on a path to viability. The bank has shown some positive signs, expanding its deposit base and increasing new lending, which has improved margins. The mission welcomes the bank’s intention to access private markets to address the capital shortfall identified in the Comprehensive Assessment. However, regaining profitability will take some years. It is therefore essential that a sound restructuring plan be developed and implemented, with European Commission approval.
10. Efforts to durably cure residential mortgage arrears must press forward. Banks report good progress on workouts in relation to the CBI’s targets. The low rate of redefaults to date is welcome, yet some cures with smaller debt service reductions may not prove to be lasting, requiring banks to better target solutions. With about half of arrears cases under legal proceedings, it is important that these proceedings, together with active follow-up by the banks, are effective in motivating borrowers to reengage in a timely manner to reach restructuring solutions where feasible. Substantial unfinished mortgage resolution work requires continued supervisory targets for coming years, with due attention to reversing the continued rise of buy-to-let loans in arrears.
11. Implementation of lasting solutions for distressed commercial loans is also essential. Corporate, SME, and commercial real estate loans comprise the largest share of NPLs. Supervision should ensure that banks are either encouraging appropriate progress by distressed borrowers in the execution of workout plans or are making timely loan disposals.
12. Banking supervision should ensure a prudent approach to provisioning, including with respect to write backs. Banks are in the early stages of resolving the large volume of NPLs, many of which have been in distress for an extended period. Historical experience with resolution is limited, leaving significant uncertainty around the durability of loan restructurings and also the ultimate value of collateral realizations. Reflecting these uncertainties, banking supervision should uphold a cautious and prudent level of provisioning at this early phase in a resolution process that will take some years.
13. New residential mortgage lending rules proposed by the CBI are a welcome step to reduce Ireland’s macro-financial vulnerabilities. The introduction of loan-to-value and loan-to-income ceilings will increase the resilience of both the banking and household sectors to financial shocks and dampen pro-cyclical interactions between mortgage lending and housing prices. Any exemptions to such ceilings should not undermine the resilience of banks or the Irish financial system. Establishing the central credit register is important, including to enable these regulations to cover households’ entire debt.
Structural Policies
14. A stronger construction supply response is needed to help contain pressures on housing prices and rents. Housing completions remain low despite a 42 percent rise in Dublin house prices from their trough, which is also contributing to rising rents. A range of factors are impeding an adequate supply response by the construction sector, potentially hindering a renewal of migration inflows. Timely implementation of the government’s Construction 2020 initiatives is therefore important. In particular, the introduction of use-it-or-lose-it planning permissions together with vacant site levies could usefully help counter reluctance to develop properties owing to expectations of further price appreciation.
15. Efforts to strengthen employment and training services should continue. High levels of youth and long-term unemployment pose downside risks to employment and hence to growth in the medium term. Steady progress on engaging with long-term unemployed persons is being made and the private sector provision of employment services is expected to start in the second half of 2015. The establishment of regional Education and Training Boards that will collaborate with Intreo offices to facilitate referrals of jobseekers to training is welcome. Ensuring that these new frameworks are most effective in helping the unemployed return to work will require ongoing evaluation and adaptation.
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