Professor John McHale:

Good afternoon Chairman and members of the committee. On behalf of the council, I thank the committee for providing us with the opportunity to appear here to publicly explain our assessments. The council has found earlier feedback from the committee extremely useful in developing the content of our reports. The other council members in attendance today are Mr. Sebastian Barnes, Professor Alan Barrett and Dr. Donal Donovan. Unfortunately, Dr. Róisín O’Sullivan, who is based in the United States of America, cannot attend today. The council's secretariat is also present, namely, Ms Rachel Joyce, Ms Eimear Leahy and Mr. Diarmaid Smyth.

Today we will deal with our third fiscal assessment report, which was published on 13 September. The report is written in line with the mandate of the council, set out in the fiscal responsibility Bill. The main purpose of this report is to assess the macro-economic and budgetary projections set out by the Government in the stability programme update, SPU, published in April 2012, including the appropriateness of the overall fiscal stance for the period to 2015, in advance of budget 2013. The report also sets out some background for our planned future assessments of compliance with fiscal rules. A number of themes are developed in this report. These include the uncertainty that surrounds economic and budgetary forecasts, the large size of remaining adjustments required for debt sustainability and the importance of transparency in the recording of revisions in the Government's fiscal accounts and plans.

In assessing the Government's macro-economic forecasts, a multi-step approach is followed. First, we assess the performance of past forecasts, using the most recently available national accounts data. Second, we compare the Government's forecast with contemporaneous forecasts from other agencies. Third, we examine the pattern of revisions to the forecasts and, fourth, we explore the uncertainties surrounding the forecasts using past forecast errors to develop confidence intervals around the forecasts of different horizons.

The national income and expenditure accounts for 2011, released in July, estimate that annual real GDP growth in 2011 was 1.4%. This was higher than official forecasts, while real GNP growth in 2011 was almost three percentage points lower than forecast by the Department of Finance in 2011. An analysis of the forecast errors over the period 1995 to 2011 indicates that the pattern of past forecast errors is similar across the main forecasting agencies and does not show evidence of bias. Current Department of Finance forecasts for 2012 to 2015 are also similar to the forecast of other agencies. In general, forecasters remain of the view that growth rates of about 3% will return over a two to three year horizon, although earlier forecasts of such a rebound have not materialised.

The uncertainties surrounding the growth outlook for the Irish economy, highlighted in the council's previous report, remain and are illustrated in this report through the use of fan charts. A fan chart shows the uncertainty that surrounds the forecasts at different horizons. The council sees the risks to growth as being weighted to the downside. More generally, we recommend that this uncertainty should be more explicitly factored into the presentation of official forecasts through a more detailed sensitivity analysis.

In assessing the budgetary projections, the council again follows a multi-step approach. First, we review the accuracy of past Department of Finance forecasts, including a detailed examination of data and forecast revisions. Second, we examine the SPU projections, using the most recent Exchequer data. Third, we compare the SPU forecasts with contemporaneous forecasts of other agencies and, fourth, we explore the uncertainty surrounding the projections using a combination of fiscal fan charts and sensitivity analysis.

The general Government deficit, adjusted for the impact of banking related transfers, is estimated to have improved to 9% of GDP last year. This is approximately €1.2 billion better than had been anticipated in last December's budget. For 2012, the forecast for the general Government deficit was revised to 8.3% of GDP in the SPU, from 8.6% in the budget. This reflected, in part, revisions to interest payments and the impact of banking related revenues. The council is of the view that a general Government deficit of 8.3% of GDP for 2012 looks achievable at this stage, based on the cumulative trends in the Exchequer data and the economic outlook. That said, there have been significant spending overruns in health and social protection over the first eight months of the year. There has also been a notable increase in non-tax revenues, partly related to the State's involvement in the banking sector. These sources of income should be closely monitored.

There were a number of significant changes to the official budgetary data and forecasts over the past year. To facilitate adequate assessment of budgetary projections, the council urges that comprehensive and timely explanations be provided on methodological changes in data revisions that impact on the fiscal outturn or official forecasts, on sources of major modifications to the forecasts and on the components of non-tax revenues.

For the period 2013 to 2015, the SPU budgetary projections are in line with projections from other agencies. This outlook is heavily dependent on achieving significant reductions in Government expenditures and a sustained upturn in growth. Given the extent of the required total adjustment, the council again urges that all adjustment margins be kept under close review, including tax rates, public sector pay and pensions and welfare rates. In light of the uncertainty surrounding the growth outlook and a suggestion from this committee previously, the report also considered the sensitivity of the budgetary projections to changes in the macro-economic outlook, including the use of fan charts. This analysis serves, once again, to highlight the fragility of debt sustainability.

The council's view on the appropriate fiscal stance was again widely reported, following the publication of the report. As in earlier reports, the appropriateness of the fiscal stance is analysed in terms of a trade-off between supporting domestic demand and ensuring debt sustainability. The council assesses the Government's current fiscal stance to be conducive to prudent economic and budgetary management. However, debt sustainability and creditworthiness remain fragile.

Weighing up the risks relating to debt sustainability and ongoing weakness in the real economy, the council supports an alternative fiscal stance involving a total of €1.9 billion of additional adjustments in the period to 2015 compared to the Government's baseline. This alternative stance does not involve additional adjustments beyond the €3.5 billion planned for 2013. Due to a continued weakness in demand and some further improvement in market assessments of Ireland's creditworthiness, the amount of additional adjustment for the period to 2015 has been scaled back by €900 million since our previous report. Model-based projections indicate that this alternative scenario would help with the debt-to-GDP ratio and a faster downward trajectory and would provide additional insurance, albeit limited, in the effort to ensure debt sustainability. While we recognise possible rationales for a separate stimulus programme, balancing various considerations, the council is of the view that any relaxation sought by the Government in the overall fiscal stance should be examined within the context of the main fiscal adjustment programme. The council does not see a case for a relaxation of the fiscal stance at present.

Debt sustainability remains fragile and judgments on this issue are coloured by whether it is believed GDP or GNP provides the most appropriate measure of Ireland's fiscal capacity. Both GDP and GNP have limitations as measures of fiscal capacity. In the report the council introduces a hybrid measure, which places a differential weight on GNP and the excess of GDP over GNP, as an intermediate measure of fiscal capacity. The required fiscal adjustment appears challenging under all three measures, but above all under the GNP measure. While relief on the banking-related part of Ireland's debt is unlikely to be a panacea, any relief will increase the chances of a successful outcome. This will be measured by a robust return to market creditworthiness.

In terms of fiscal rules, Ireland has an obligation to comply with the EU Stability and Growth Pact, revised in 2011, and the fiscal compact, which is being implemented in national law through the fiscal responsibility Bill. While the details are complicated, in essence the rules relate to the structural budget balance. This is consistent with the EU's medium-term objective or budgetary rule and a debt reduction requirement, known as the debt rule. To explore the implications of the fiscal rules, the report also presents an illustrative scenario that extends to 2020. The assumptions mirror those in the stability programme update, SPU, for the period to 2015. For the period 2016 to 2020, the scenario assumes average nominal growth of approximately 3.4% per year and a gradual closing of the output gap by 2018. It also assumes expenditure growth will be approximately flat in real terms. The scenarios assessed are consistent with meeting the budgetary rule throughout the period and meeting the debt rule after 2018, when it will become binding.

I thank the committee for the opportunity to appear before it today. The Irish Fiscal Advisory Council has been up and running for more than one year now, during which time it has produced four reports. Although the council will not be on a statutory basis until later in the year, we hope it has already had a positive impact on the public understanding of budgetary management. Anyway, the council's main value will be for the long term. At all times the council will strive to be independent and objective and to provide a voice in the best interests of sound fiscal policy. We look forward to taking the committee's questions and hearing the views of members.