Is Ireland in recession?

With all the hullabaloo surrounding Ireland’s 2015 national accounts the data for the first quarter of the year received less attention than normal. To recap, Irish GDP fell by 2.1% in q1,with large falls in exports, investment, imports and inventories, offsetting increases in personal consumption and government spending. A recession is generally defined in terms of two successive quarterly contractions in GDP, and the available data raises the possibility that Irish GDP may  indeed have fallen again in q2, although as we know the national accounts can throw up the strangest results  so it is impossible to be definitive.

What is clear is that absent revisions the volume of retail sales fell in the second quarter and by a chunky 2.7%. Core sales rose, by 1%, so the decline was  strongly affected by a fall-off in car sales ahead of the new registrations in July, but  it is the total that impacts overall consumption, which in general has been weaker  than indicated by  the trend in retail sales.

It is also noteworthy that VAT receipts have been weaker than expected in recent months; the latest exchequer figures, to end-July, showed annual growth in VAT at 4.2%, against an end-year target of 7.7%. Relative to profile, VAT receipts are €292mn behind, or 3.5%. Income tax is exactly on target and although total receipts are still ahead of profile, the €650mn excess largely reflects a €483mn overshoot in corporation tax , which is not reflective of anything going on in the Irish economy. If one excludes corporation tax, receipts are €164mn ahead of profile, or 0.7%.

There also appears to be something unusual happening in the labour market. The Irish unemployment rate has been on a steady downward trend for the past four years, declining from over 15% to below 8%, but in the three months to July the rate was unchanged at 7.8%, with July alone seeing the actual numbers unemployed unchanged. Again, data revisions can change that picture and the labour force may be growing more rapidly than thought but on the face of it the steady fall in unemployment has stalled.

The GDP figure in the national accounts is dominated by external trade and we do not know what will emerge when the estimates are released in September. The available merchandise data shows exports weakening, with annual growth turning negative in the three months to May. The decline in imports is even more pronounced, implying that investment spending has also continued to fall. The industrial production figures available to May also point to a fall in output in q2 while the CSO’s index of services output was flat in the second quarter.

The Brexit vote is generally seen to be negative for Ireland in the short term but the above raises the possibility that the economy may have contracted in q2 anyway and is therefore  already in recession.

Irish Consumer spending accelerating despite deleveraging

Following the  recent revisions to the Irish National Accounts it appears that  the recovery has been stronger and less volatile than previously reported, leaving real GDP in the first quarter of 2015 3.9% above the pre-crash high. Forecasts for economic growth this year are also moving up, including  revisions to estimates for consumer spending, but the latter may still be too low in our view as we expect real personal consumption to rise by 4.2%. This compares with the Department of Finance’s 2.4%, the Central Bank’s 2.3% and 2.0% from the ESRI, although all  these were made before the release of the  official Q1 data.

Forecasters have generally become cautious about consumer spending in the wake of previous projections which had proved optimistic, in part because of the uncertainty about the pace of debt repayment by Irish households.  Debt peaked in late 2008 and has fallen  by almost €50bn  to stand at €154.6bn in the first quarter of 2015. This is still high by international standards , at an estimated 166% of disposable income, but is a far cry from 211%, the debt burden at the peak of the cycle.

So debt reduction rather than debt accumulation has been a key feature of Irish household behaviour over the past seven years, which has acted to dampen consumer spending. A corollary is that the gross savings ratio has risen sharply. from 7%  of disposable income in 2007 to a peak of 16.7% in 2009  and  a 12%-13.5% range  in recent years.

The published data on consumer spending has also appeared at variance with that on retail sales, with the latter implying stronger spending than actually recorded in the national accounts. One factor here is the impact of tourism, which affects retail sales but is excluded from Irish consumption. Another issue is the price deflator used to adjust nominal spending to derive real personal consumption. That deflator has been much higher than either the deflator for retail sales or from the CPI, and probably reflects the inclusion of imputed rent in the personal consumption measure, as private sector rents have been rising at an annual 8%-10% for the past few years.

Yet recent developments still point to a strong pick up in consumer outlays. First, spending over the past few years has been revised up, and has risen consistently  for the past eight quarters, with an acceleration evident in the second half of last year. Second, spending grew by 1.2% in the first quarter of 2015 and at a 3.8% annual rate. Third, retail sales have been much stronger this year, boosted by a surge in car sales ( up some 31% in the first half of 2015) . Fourth, sales excluding cars, a better proxy for overall consumption, have also grown at a robust pace, with the annual increase accelerating to 6.6% in the second quarter from 5% in q1. This implies a stronger annual increase for personal consumption in q2, even allowing for the rental price effect.

A number of other factors also support the case for stronger consumption. Household income is now growing, expanding by 3.2% in 2014 following a 1.1% advance the previous year, and is likely to continue to grow at a faster pace this year , given the ongoing rise in employment and signs that wages are starting to pick up. Consumer prices are still falling, which also will help and household wealth is recovering, having risen by €154bn or 35% over the past two years. It is impossible to gauge when household deleveraging will end, but on the recent evidence the impact of debt reduction on personal consumption is being more than offset by a number of other developments, all  supporting stronger personal consumption .

Irish Consumer Spending continues to Disappoint

According to the CSO’s first estimate, the Irish economy, as measured by real GDP, contracted by 0.3% in 2013. This was well below the consensus , which envisaged modest growth, largely reflecting an unexpected plunge in activity in the final quarter, which left real GDP in q4 0.7% below the figure a year earlier. This in turn now makes it less likely that average growth in 2014 will be above 2% as the current consensus expects.

Much has been made of the impact from the Patent Cliff on Irish merchandise exports and hence GDP ( the corollary, a fall in multinational profits, helped to boost GNP, the income of Irish residents, by 3.4%) but a key concern for the Government must be the continued weakness of consumer spending. Personal consumption in volume terms fell by 1.1% last year against a Department of Finance expectation of -0.2%. Moreover, consumption fell in the final quarter and the annual change in q4 was also -1.1% which makes the Department’s forecast of 1.8% average growth in consumption this year look a little optimistic.

A number of indicators would point to stronger consumption than has emerged. Consumer confidence, for example, has risen sharply and is currently back at levels last seen in early 2007. Employment is also rising strongly, by  2.4% on average last year, which offset a 0.7% decline in average wage earnings implying a net increase in total wage income. The retail sales data has also been positive, with a volume  rise of 0.7% in 2013 or 0.8% if one excludes cars.

The value of retail sales fell last year, however, implying that retailers have to cut prices to boost sales, and spending by tourists is excluded from the personal consumption figure as it is meant to capture expenditure by Irish residents. In addition spending on services accounts for over half of personal consumption and that remains weak. One factor may relate to the nature of the employment gains, with some half due to a growth in self employment, and there is no guarantee that the self employed will make money. Indeed, income tax receipts are flat on the year, and weak self employed earnings may be responsible, at least in part. The CSO also believes that the disposable income of Irish households fell over the first nine months of last year (that measure includes transfers and other sources of income alongside wages and adjusts for taxes on income). Households are also continuing with the deleveraging trend evident since 2008, with the repayment of another €5bn  of  debt in the first three quarters of 2013 bringing the total over the five years to €35bn. We do not have figures for recent months but net lending by banks and outstanding credit card debt is still falling, with  a decline of €416bn in net mortgage lending in January the highest monthly fall on record.

The trend in employment. if maintained, does provide the main argument supporting the expected pick up in consumer spending and buoyant car sales have given retail sales a strong start to the year but the trend in wages and deleveraging may also continue as drags on spending and hence GDP, with household’s attitude to debt a particular area of uncertainty.