Category: Irish Fiscal Policy

Government bond yields in Europe and the US have risen substantially in response to higher inflation, rising short term interest rates and the prospect of more supply as States boost sending to cushion the economic impact of soaring energy prices. The German 10yr benchmark bond , the nearest we have in the euro area to a risk free or ‘safe’ asset, is currently trading at 2.15% from 0.7% just two months ago, with the rise in yields in other member states generally more pronounced.

Investors appear to like Irish bonds in this environment, as the 10yr benchmark here is currently trading at 2.68%, and as such below France and Finland, despite both having a higher credit rating than Ireland (AA- on S&P) .

One factor is Ireland’s low and falling debt ratio. The recent Budget projected Irish Government debt to fall by €10bn this year to €225bn, which alongside a projected GDP figure of €500bn gives a debt ratio of 45% from 55% in 2021.The net debt estimate for 2022 is lower still, at €190bn (largely reflecting cash balances at the NTMA from previous over-funding) which gives a ratio of only 38%. Gross and net debt debt is projected to be broadly unchanged in 2023 but given the forecast growth in the denominator the respective ratios fall to 41% and 35%.

Ireland is also probably alone in the euro area in projecting a budget surplus this year and next. In 2023 the Exchequer surplus is forecast at €1.7bn, which alongside scheduled debt repayment of €9bn implies the need for very limited bond issuance. The euro system owned €73bn of the €156bn bonds at issue at end- September, so the ‘free float’ that can be sold is low.

This relatively low yield on Irish debt also comes after the 2023 Budget with its headlines of an €11bn tax and spending ‘package’, although the presentation can cloud what the Budget actually delivered. Fortunately the Government produces a ‘White Paper’ ahead of Budget day, setting out fiscal estimates for the current and coming year pre-Budget, so allowing a simple comparison with the post-Budget projections.

For 2022 the pre-Budget estimate was for an end-year Exchequer surplus of €5.9bn, against a post-Budget figure of just €345m, a big difference, reflecting the ‘cost of living’ supports of €4.1bn and a €2bn injection into the National Reserve Fund ( the latter is a cash flow out of the Exchequer and so reduces the potential Exchequer surplus but has no effect on the General Government balance). The package also included €0.6bn from money ‘saved’ from the original 2022 budget estimates. So over 40% of the announced measures in Budget 2023 were actually one-off measures for this year.

Turning to next year, the White Paper had forecast a pre-Budget Exchequer surplus of just under €10bn, which post-Budget had fallen to €1.7bn, again a big change due to decisions taken on the day by the Minister for Finance. One was to allocate €4bn to the Reserve Fund, then to increase spending and to cut taxes, with tax revenue €1bn lower largely due to income tax changes. Note though that net current spending is unchanged relative to 2022, as the latter included a €10bn contingency, largely for Covid support, and this falls to €4.4bn in 2023, including a €2bn Ukrainian contingency , so broadly offsetting the increase in ‘core’ spending. Tax revenue is forecast to rise by €5.4bn or 6.6% so the current budget surplus rises to a projected €18bn from €13bn in 2022.

Its also worth noting that the Government seems to share the market’s belief that Ireland’s fiscal position is not a big issue, given the decision to inject €6bn into the Reserve Fund , as debt would have been €6bn lower absent that decision, What constitutes a ‘rainy day’, which would trigger the use of the Fund, remains to be seen.

The Irish Government has announced that the 2023 Budget will now be delivered on 27th September, two weeks earlier than planned. This makes little sense and far from bringing it forward there is a strong argument for pushing it out to later in the year, given the degree of uncertainty about energy prices and the risks of a global recession.

In fact ,delivering the following year’s budget in early October , let alone September, risks major forecasting errors, as illustrated in the 2022 Budget. The Government projected tax receipts in 2022 of €70.2bn, or 6.2% above the expected end-2021 outturn of €66.1bn. In the event the latter emerged at €68.4bn, so implying tax growth of only 2.7% in 2022. As the year unfolded a combination of higher real growth than predicted, much stronger employment gains and the spike in inflation rendered redundant the original Budget projections. In April the Government revised the tax target up by €5.5bn, to €75.8bn, and slashed the projected Exchequer deficit from €7.7bn to €1.1bn.

That forecast now looks wrong given the Exchequer figures to end-June and the Summer Economic Statement notes that the budget will probably be in surplus this year and next, albeit without providing any detail (if so Ireland will probably be alone in the euro area in not running a fiscal deficit). Tax receipts are 25% ahead of the same period last year while non-tax revenue is also much stronger than budgeted, including a transfer from the Central Bank of over €1bn and €650m from the sale of bank shares in AIB and BOI. As a result the Exchequer is running a surplus year to date of €4.2bn, and the NTMA’s cash balances (from overfunding) have risen to €35bn.

The Government has already taken some measures to partially offset the impact on households of the surge in energy prices, including a temporary cut in excise duty on fuel, and now intends to spend €400m more than originally budgeted in 2022. The Minister for Finance cannot put tax receipts from this year in a drawer and produce them in January so any tax or spending measures in the 2023 Budget are dependent on forecasts for tax growth next year.

The exact sums the Government plans to spend are clouded somewhat by the distinction made between ‘core’ gross voted spending, both current and capital, and total voted spending, as the latter has of late included one-off’ items largely related to Covid supports. These one-off sums are projected at €7.5bn this year , which alongside a ‘core’ total of €80.5bn gives a total gross voted spend of €88bn At end-June spending was €38.5bn, implying a spend of some €50bn in the next six months if the plans are met.

The Government had announced that it intended to limit the annual growth in ‘core’ spending in the medium term to 5%, implying a rise in 2023 of €4bn. That was predicated on inflation of around 2% which is clearly no longer plausible and the rise now planned for next year is €5.3bn, or 6.5%, taking the total to €85.8bn. Some €3bn of that has already been allocated leaving the balance to be decided on Budget day, with a tax package of €1.1bn also flagged.

What matters for the overall Budget arithmetic is total spending and there the planned rise is much lower, at €2.3bn, taking the total to €90.3bn, which explains why a Budget surplus is expected. The ‘one-off’ spending component is projected to fall to €4.4bn from €7.5bn as Covid supports dwindle, with the bulk of the total now a ‘Ukraine Humanitarian Contingency’.

The 2023 Budget is billed as a ‘cost of living’ budget, with extra sending and tax reductions to help cushion some of the impact of higher inflation, but those will come into effect next year. Moreover, as they have already been signalled there is no longer an ‘announcement effect’ in the Budget, whenever it is held. The Budget will include detailed economic forecasts and of course a prolonged period of high inflation and/or a marked global slowdown could again derail the Budget assumptions.