Public Information Notice: IMF Concludes Article IV Consultation with Ireland
October 22, 1998
|Public Information Notices (PINs) form part of the IMF's efforts to promote transparency of the IMF's views and analysis of economic developments and policies. With the consent of the country (or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations with member countries, of its surveillance of developments at the regional level, of post-program monitoring, and of ex post assessments of member countries with longer-term program engagements. PINs are also issued after Executive Board discussions of general policy matters, unless otherwise decided by the Executive Board in a particular case.|
On October 14, 1998, the Executive Board concluded the Article IV consultation with Ireland1.
Ireland’s economic performance since 1994 has been exceptionally strong, with output and employment growing faster than in most other developed countries, inflation falling to historically low levels, and both the external and the fiscal accounts displaying considerable strength.
Economic activity continued to expand rapidly over the past year, as export performance remained buoyant, while domestic demand picked up some momentum under the impetus of tax cuts and the anticipated relaxation of monetary conditions prior to Ireland’s entry into the Economic and Monetary Union (EMU). The increase in output was accompanied by large employment gains in most sectors of the economy and a significant decline in the unemployment rate.
With economic growth well above trend, for the fifth year in a row, infrastructural bottlenecks have emerged and labor shortages have intensified. In this environment, pay increases have accelerated, notably in the construction sector and the public services, and asset prices have soared. Moreover, consumer price inflation, which was low in 1997, has recently picked up and is now one of the highest among prospective EMU member states. On the other hand, the external position remained strong, with the current account surplus close to 3 percent of GDP in 1997.
During 1997 and the early part of 1998, the Irish pound depreciated markedly in nominal effective terms. This depreciation reflected the general strength of sterling and the US dollar, and a downward movement of the Irish pound within the ERM as expectations of a large revaluation prior to EMU entry subsided. The weakening of the currency stopped in the wake of the authorities’ decision last March to revalue the Irish pound’s central ERM parity by 3 percent, but the nominal and real effective exchange rates remain below their levels in early 1997. Short-term interest rates have been significantly higher than in the core ERM countries, as the authorities have resisted downward pressures in money markets in their effort to maintain the anti-inflation orientation of monetary policy. However, rates for longer maturities have fallen noticeably, contributing to rapid growth in domestic credit which, in mid-1998, was almost a quarter higher than a year earlier.
Although discretionary fiscal policy measures have tended to impart stimulus to economic activity, the fiscal position has continued to improve, reflecting the large fiscal dividends of rapid economic growth and falling unemployment. In 1998, the general government financial surplus is expected to reach 1.9 percent of GDP, well in excess of last year’s outturn and this year’s budget projection.
Short-term macroeconomic prospects are generally favorable. Real GNP is projected to increase by 7½ percent in 1998, with employment continuing to rise rapidly and the current account showing a significant surplus. However, CPI inflation is expected to be significantly higher than in 1997, risking to add to the pressures for high wage increases. Economic growth is projected to slow in 1999, as foreign demand weakens and supply constraints become more binding, although it will probably remain high by international standards.
Executive Board Assessment
Executive Directors commended the authorities for Ireland’s impressive economic performance, as evidenced by five consecutive years of vigorous growth in activity and employment, a strong fiscal and external position, and—until recently—a low rate of inflation. Directors emphasized the important role that good economic management had played in sustaining this favorable performance and ensuring Ireland’s participation in EMU from its inception. While most Directors shared the view that short-term macroeconomic prospects remained generally favorable, some expressed concern that the worsening in the global environment would—if sustained—have a significant adverse effect on Ireland, given the openness of its economy.
Directors noted that the authorities were now confronted with some new, and difficult, policy challenges. These stemmed in part from the comparatively advanced stage of the business cycle in Ireland, which was reflected in the emergence of signs of overheating, as well as a sharp rise in asset prices and increased wage pressure in the public sector. But the challenges were being compounded by the competitive exchange rate that Ireland appears likely to enjoy at the onset of EMU, and the prospective downward convergence of Irish short-term interest rates to the much lower rates prevailing in the core EMU countries. In this regard, Directorsunderscored the need for adequate and timely responses to these challenges in order to keep the economy on a path of sustainable growth in output and employment, with price stability over the medium term. Directors considered the main policy requirements to be, first, a tightening of fiscal policy to offset the stimulus to demand from the easing of monetary conditions; and, second, continued emphasis on structural reforms in order to alleviate labor and other supply constraints.
Directors welcomed the authorities’ commitment to allow the unanticipated buoyancy of revenue in 1998 to be reflected in a higher than budgeted surplus, but stressed the need for tight expenditure restraint to ensure that the fiscal stance in 1999 would contribute to the containment of inflationary pressures. Directors agreed that the recent progress in streamlining the tax system and reducing tax relief needed to continue. Most Directors thought that, in the short run, room for lowering the income tax burden might be limited unless there was firm evidence that excess demand had been eliminated. In any case, Directors noted that, were income tax cuts to be enacted in 1999, these should be directed to strengthening work incentives for the low paid in order to help ease labor shortages and improve prospects for wage restraint.
Directors welcomed the authorities’ intention to seek to extend the social partnership arrangements which had worked well in the past, but they stressed the critical importance to a satisfactory new social contract of resisting ongoing claims from various groups of public employees for large pay increases. Such increases could undermine continued cost moderation in the economy, and are inconsistent with the continuation of the impressive employment and economic gains of recent years.
Directors agreed that keeping public spending in check was the key to ensuring a sizeable fiscal surplus over the medium term. Such a surplus, they stressed, would facilitate compliance with the Stability and Growth Pact and provide room for fiscal flexibility, as warranted in view of the loss of monetary autonomy. Moreover, it would allow Ireland to make early progress toward addressing longer-term pressures on the public finances associated with the aging of the population and the unfunded contingent liabilities of the current pay-as-you-go public pension system. Directors urged the authorities to take the opportunity afforded by buoyant economic conditions to incorporate at least the full accruing costs of public service pension liabilities in future budgets.
Directors expressed concern about the rapid growth of credit to the private sector, which had contributed to the recent strength of consumer spending and the escalation in housing prices. In view of this concern, they understood the authorities’ reluctance to lower short-term interest rates rapidly, and welcomed the measures recently taken to cool off the housing market and strengthen the supervision of financial intermediaries. A few Directors stressed, however, that additional efforts were called for in both areas.
While praising Ireland’s recent outstanding record in creating jobs, Directors stressed the need for further progress in increasing labor market flexibility, in order to sustain the downward trend in unemployment and facilitate macroeconomic adjustment in the event of adverse shocks inthe future. Most Directors emphasized, also, the importance of enforcing strict conditionality requirements for unemployment benefits, particularly for young workers. They also pointed out that the continuing high levels of long-term and youth unemployment make it critical that a minimum wage, if introduced, be appropriately differentiated to minimize possible adverse employment effects on those categories.
Directors commended the authorities for their ongoing efforts to increase competition in the economy, including through an accelerated privatization program. They also welcomed the recent decision to move gradually toward a unified corporation tax rate.
Directors noted the recent increase in Ireland’s official development assistance and encouraged the authorities to increase further their development assistance. Directors stressed the need for improvement in the area of statistics, particularly the coverage of wage trends and capital account transactions.
|Ireland: Selected Economic Indicators|
|Real Economy (change in percent)|
|Unemployment rate (in percent)||14.1||12.2||11.5||10.2||8.9|
|Gross national saving3||19.0||20.9||22.2||23.5||24.1|
|Gross national investment3||16.1||18.2||19.5||20.7||20.9|
|Public Finance (percent of GNP)|
|Exchequer borrowing requirement||1.9||1.6||1.0||0.5||-1.3|
|General government balance3||-1.7||-2.3||-0.4||1.0||1.9|
|General government debt3||91||84||75||67||59|
|Money and Credit (end-year, percent change)|
|Private sector credit||11.8||11.2||15.4||23.6||23.1|
|Interest Rates (year average)|
|10-year government bond yield||8.0||8.2||7.2||5.5||4.95|
|Balance of Payments (in percent of GNP)|
|Reserves (gold valued at SDR 35 per ounce end of period, in billions of SDRs)||4.2||5.8||5.7||4.7||6.84|
|Exchange rate regime||ERM|
|Present rate (October 14, 1998)||US$1 = IR£0.66|
|Nominal effective rate (1990=100)||96.8||97.3||99.3||99.6||94.85|
|Real effective rate (1990=100)6||79.8||76.1||73.5||70.2||63.75|
Sources: Central Statistics Office; Department of Finance; and IMF, International Financial Statistics.
1 Staff projections, except where
2 Average of expenditure and output basis.
3 In percent of GDP.
4 July 1998.
5 August 1998.
6 Based on relative normalized unit labor costs.
1Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board. At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of directors, and this summary is transmitted to the country's authorities. In this PIN, the main features of the Board's discussion are described.