Have Irish Budgets really added €1,000 a year to Household bills?

It’s curious how comments made based on the projections of an economic model take on a life of their own and often invested with a level of certainty far removed from the caveats surrounding any model based simulation. Brexit was a good case in point, with dire warnings about the hit to the Irish economy that would unfold , and we now have a recent example, relating to the 2025 Budget and the claim that ‘by breaching its (spending ) rule,the Government is estimated to add €1,000 to the cost of a typical household’s yearly outgoings’.

That statement comes from the Irish Fiscal Advisory Council’s flash release on the 2025 Budget and is in turn based on research published by the Central Bank in their June 2024 Quarterly Bulletin . The article (‘Fiscal priorities for the short and medium term’) attempted to quantify the impact on the economy of Government spending in excess of the target 5% annual rise, using one of the Bank’s economic models, based on the assumption that the higher spending is current as opposed to capital and financed by borrowing, assumptions not mentioned again by anyone, and of course at variance with the fact the Govt is actually running a very large current budget surplus , not fully offset by a capital deficit.In other words Government spending is more than offset by Government tax and other receipts.

The simulation showed that domestic demand would be boosted and inflation 0.5% per annum higher than would have been the case over the period 2022-23. Assuming a 7.1% average rise in Government spending from 2024 to 2027 the model predicted inflation to be 0.5% higher in 2024, 0.3% in 2025, 0.2% in 2026 and less than 0.1% in 2027. So over the full period , 2022 to 2027, the model puts the cumulative impact on the price level at around 2%, which multiplied by IFAC’s assumed Household average outlay of €50,000 per annum gives the €1,000 figure.

So a model based simulation, based on higher current spending, financed by borrowing, translates into the €1,000 a year cost which is then repeated as if a fact.

Irish net debt ratio projected at 28% of GDP in 2025 Budget

The Irish 2025 Budget was delivered against an unusual fiscal backdrop. Unlike virtually all its euro peers the Government is running a fiscal surplus and the debt ratio is low and falling, helping to make Irish 10yr bond yields the third lowest in the Euro Area.The economy is also around full employment, prompting some concerns that an expansionary budget would be inflationary, although the current inflation rate is only 0.2%, the lowest in the EA. In addition, as a result of the recent ECJ ruling on the Apple tax case, €14.1bn is to be transferred from an escrow account to the Irish Exchequer, €8bn this year and the balance in 2025.

A feature of the Irish budgetary process is the publication of a White Paper a few days head of the Minister’s presentation, setting out pre-Budget estimates of the Exchequer position at end-2024 and a forecast for 2025. The former showed tax receipts some €13bn ahead of the original Budget 2024 projection, largely due to the €8bn from Apple and another large overshoot (€5bn ) from current Corporation tax receipts. Government current voted spending is also expected to come in some €3bn ahead of that projected, but still leaving a very large current budget surplus of €30.8bn in the White Paper, partially offset by a capital deficit of €17.5bn( which included a €4bn transfer to the Future Ireland Fund) and therefore an overall Exchequer surplus of €13.3bn.

The Government decided to spend over €2bn of this in 2024 in the form of a ‘cost of living package’, comprising a raft of social welfare supports. Consequently the Budget package on the day amounted to €10.3bn instead of the €8.3bn figure announced a few months ago.

For 2025 that package included €1.6bn in income tax and USC reductions, which generally went beyond indexing credits and bands and will reduce tax paid by 2.2% for a single worker on average earnings. Underlying tax revenue is forecast to rise by just 3% in 2025 (and fall marginally in total given the Apple tax impact)but the forecast current budget surplus is still large, at €28.6bn. The capital deficit is projected at €20.7bn (including €6bn as announced in transfers to the Future Ireland Fund and the Infrastructure fund), so leaving an Exchequer surplus of €7.9bn. The General Government balance is forecast at €9.7bn or 1.7% of GDP, down from €23.7bn (4.5% of GDP) in 2024.

The Government’s choice of how to allocate the Apple funds was interesting, in that it chose not to transfer all or part to the two Future Funds,which have restrictions on use in terms of timing, and instead plans next year to announce additional spending on various capital projects , including Water, Electricity and Transport. As a consequence the NTMA which had already overfunded this year, will have much larger cash balances and so will not need to fund to the same extent as previously thought in 2025. Ireland’s gross debt falls only modestly therefore this year, from €221bn to €217bn (41.4% of GDP) but net debt falls sharply to €166bn (32% of GDP). Next year the gross debt ratio is projected at 38% of GDP and the net figure at 28%.

Finally, the macro forecasts underlying the Budget arithmetic paint a benign picture, with the economy projected to remain around full employment against a backdrop of sub-2% inflation and real wage growth around 2.5%.

Full employment and spending pressures impact medium term fiscal outlook

The Irish Government has just published its annual Stability Programme update(SPU), as mandated by the EU, setting out fiscal projections out to 2027, although this will be the last update in this form as revised fiscal rules will require the publication of a five-year fiscal Structural Plan (more on that below)

For context, Ireland has been running very large current Budget surpluses , supported by substantial inflows in Corporation tax. In 2023 , for example, current revenue amounted to €90bn, against current spending of €73bn and if both are assumed to rise at broadly the same pace the absolute surplus grows over time , and was projected to exceed €24bn in 2026 . Of course the Government has used this excess revenue to fund capital spending, but this still left the Exchequer as planning to run overall cash surpluses into the future, raising the question of whether it would be better for Ireland to run down debt at a rapid clip or to use the surpluses to fund future spending.

The Government chose the latter option and set up two funds; the Future Ireland Fund(FIF) will be managed as an investment fund out to 2035, receiving an Exchequer transfer of 0.8% of GDP each year in order to help cope with fiscal pressures arising from an ageing population, while the Infrastructure , Climate and Nature Fund (ICNF)will be a shorter term counter cyclical vehicle for infrastructure spending out to 2030, receiving €2bn annually from current receipts. This still leaves the Exchequer running projected surpluses, and hence nominal debt falling,and the State running much larger General Government surpluses as these transfers are included in the latter, along with surpluses in the Social Insurance Fund.

What has changed in the SPU? .For the 2024 outlook very little, which is surprising as forecast GDP growth this year has been revised down and tax receipts to date are running behind profile. However, the Department of Finance expects this to largely correct, so tax receipts are projected to emerge only modestly behind target, with higher voted current spending offset by reduced spending elsewhere, including lower than forecast EU contributions and a lower contribution to the FIF (because GDP fell last year). The net result is that the projected Exchequer surplus is now seen some €0.7bn higher at €2.5bn, with the General Budget Surplus marginally higher at €8.6bn.

A comfortable fiscal position therefore is expected ahead of the 2025 Budget and the General Election but in contrast there are significant changes to the outlook further out. The economy is deemed to be at fill employment and so employment growth and therefore GDP growth is constrained by labour supply, although net migration is assumed to rise by 35,000 a year. Inflation has also been revised down so GDP in 2026 is now forecast at €600bn or €50bn below the previous projection. As a result tax receipts at that point are lower than was envisaged but the big change is on the spending side, with gross voted current spending in 2026 €5bn higher than forecast last October.’Core expenditure’ is still projected to rise by 5% per annum , albeit against a higher 2023 base , but the contingency reserve has been rolled on to these years, including ‘ Covid-related spending primarily in Health, costs relating to accommodating and supporting beneficiaries of temporary protection from Ukraine and expenditure related to EU funds’.

The upshot is that the Exchequer is now forecast to be running a deficit in 2026 and 2o27 , some €3bn in total, and the General Budget Surplus (which is nstill assumed to include the transfers to the two funds) is smaller , at €8.7bn instead of €14.6bn. The Exchequer deficit therefore means Ireland will actually be borrowing, albeit small sums, at least in part to fund the FIF and ICNF. Nominal debt will therefore rise modestly but given the low interest rate on the debt and GDP growth the debt ratio continues to fall, to 36.7% of GDP by 2026,although the October forecast was 33%.

As noted above this will also be the final SPU. The EU’s latest revisions to its fiscal rules put greater emphasis on each State setting out a five-year plan including spending commitments consistent with a falling debt ratio. Ireland’s debt ratio is already well below the 60% reference value set out in the Growth and Stability pact but will still be required to publish a five-year strategy, set to commence in the Autumn.

2024 Budget: Spending and tax relief deemed more appropriate than faster debt reduction.

in April this year the Irish Government published medium term fiscal projections incorporating a cumulative General Government surplus of €65bn over the four years 2023-2026, prompting much comment as to how best to utilise those funds, although of course forecast rather than actual. Following the 2024 Budget that cumulative total is now €40bn, the reduction due to a combination of weaker forecast revenue growth, one-off expenditure and tax measures, cuts to income tax, transfers to a newly created medium term fund and stronger growth in core expenditure.

The economic backdrop forecast for 2024 in the Budget is fairly benign, in that real GDP growth rebounds to 4.5% from a projected 2.2% this year with the labour market remaining around full employment , albeit with weaker employment growth, while CPI inflation is projected to fall sharply to average 2.9% from 6.3%, so supporting real incomes. Modified domestic demand is forecast to match this year’s 2.2% estimate.

The pre-Budget White paper had projected an Exchequer surplus €3.5bn this year but that is now reduced to €2.2bn, as a result of additional one-off current expenditure on household energy credits and other cost of living supports. For 2024 the pre-Budget figures had projected an Exchequer surplus of €9.4bn and that is now €1.8bn. Tax receipts are €0.7bn lower as a result of Budget decisions with current expenditure up by €2.6bn and capital rising by €5bn including a €4bn transfer to a newly created Future Ireland Fund.

Is the Budget inflationary? Probably, although the inflation forecast does not imply a big impact.The economy is around full employment and ‘core’ expenditure rises by €5.3bn or 6.1%, with an additional €5.3bn in ‘non-core’, largely related to humanitarian assistance to refugees , as against a projected €4.3bn rise in tax receipts. Non-tax revenue also falls sharply from €2bn to €1bn, in part because the Central Bank surplus will disappear, although there is no provision for further sales of bank equity.The Central Bank is also unlikely to be thrilled by the Budget decision to give a one-off tax relief for mortgage holders whose interest payments rose in 2023 relative to the previous year.

What about Government debt? There the picture remains bright because the average interest rate on the debt remains remarkably low, at a projected 1.6% in 2024, while GDP is forecast to rise in nominal terms by over 7%, so even though gross debt is forecast to remain stable around €223bn the ratio to GDP falls to 38.6% from 41.4% in 2023.

Irish 10-yr bonds trade around 40bp over Germany and 20bp through France so the market does not believe Ireland has a debt issue, and on that basis the Government decided that the benefit to society of higher spending, tax cuts and a Future Fund is higher than a faster debt reduction.

Irish bond yields supported by low and falling debt ratio and Budget surplus.

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.

Irish Budget change does not make sense

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.

Tax surge transforms Irish fiscal outlook

The 2022 Budget, delivered last October, projected a €7.7bn Exchequer deficit , largely due to high capital spending by the State, with a capital deficit of €11bn offsetting a €3.3bn current budget surplus. The projections were predicated on real GDP growth of 5.0% and price inflation of 2.2%, with tax receipts forecast at €70.2bn, which implied a very modest rise of 2.6% on the 2021 out turn.

Tax receipts grew by by an annual 32% in the first quarter of 2022, so it was clear that the Budget forecast was redundant, in part because inflation was much higher than envisaged, so boosting expenditure based taxes and income tax. The Department of Finance normally publishes in February a monthly profile of expected tax receipts but that has not appeared, also indicating that a significant revision to the initial fiscal outlook was likely. That has now duly emerged in the form of the Stability Programme Update (SPU) which is mandated each April for EU member states.

Tax receipts for 2022 are now projected at €75.8bn, which is €5.6bn above the Budget forecast and 11% higher than the 2021 out turn,reflecting much higher than expected receipts from Income tax, VAT and notably Corporation tax, which yet again has surprised to the upside. The only heading seeing a fall is Excise , due to the cut in duty on fuel. Non-tax receipts are also now above the initial target while current spending is broadly as planned, so giving a current budget surplus of just under €10bn. Capital spending is expected to be larger due to higher prices but offset by stronger capital receipts (reflecting the sale of bank shares by the State) leaving the capital deficit marginally lower than planned at €10.8bn.The net result is a projected Exchequer deficit of just €1bn, and a broader General Government deficit of €2bn or 0.4% of GDP (the initial target was €8.3bn , 1.8% of GDP).

The outlook for Ireland’s debt also looks even more positive in these new projections even though the debt dynamics were already favourable given that the interest rate on the debt is substantially below the growth rate of GDP. In 2022, for example, the economy is now forecast(in the SPU) to grow by 11% in nominal terms against a 1.5% interest rate on the debt, which leads to a large fall in the debt ratio, to 50.1% from 55% ,as the primary fiscal budget (the actual balance excluding debt interest) is actually in surplus. The latter is forecast to increase out to 2025, which helps to generate a debt ratio of under 41% by that year.

In fact some of the commentary on the debt interest bill is misleading, as it is projected to fall, not rise, declining to €3bn in 2025 from €3.6bn this year. This may seem counterintuitive given the recent rise in Irish bond yields (the 10 yr yield is currently at 1.45%) but the interest bill is largely determined by the cost of new bond funding (largely at a fixed rate) relative to the interest rate on the maturing debt. From 2023-25 the coupons on the maturing bonds range from 3.4% to 5.4% so it would require much higher current rates (and much higher borrowing) to prevent an ongoing fall in the interest bill, although that does start to reverse from 2026 as bonds issued in the very low rate environment start to mature.

These forecasts may not emerge as planned of course but as it stands Ireland is set to run a very large current budget surplus and an overall budget excluding debt payments also in surplus, which alongside a falling debt ratio does not support the view that the debt is a big issue.