Professor John McHale:

I thank the Chairman. I note that for once, we outnumber the committee.

On behalf of the council, I thank the committee for the opportunity to discuss our recent assessment published on Thursday, 26 November. We view the opportunity to publicly explain our assessments as integral to the fulfilment of the council's mandate and important in fostering greater public awareness and debate around macroeconomic and budgetary issues. In our eight previous appearances before this committee, the engagement with Members of the Oireachtas has been of great value in the development of our work and we welcome further feedback from the committee today. With me are council members Mr. Sebastian Barnes, Dr. Íde Kearney, Dr. Róisín O'Sullivan and Mr. Michael Tutty. As the Chairman noted, this is Michael's first appearance before the committee following his recent appointment to the council in September 2015. I am sorry to say it is Róisín's last appearance with us, as she comes to the end of her four and a half year term. I thank her for the significant contribution she has made to the council. The council's secretariat is also present. The council would like to thank the staff of the Oireachtas for their ongoing, useful co-operation.

Today, I will cover our ninth assessment. The report is written in line with the mandate of the council, as set out in the Fiscal Responsibility Act 2012. Since our last appearance before the committee in June, there has been further welcome evidence that the recovery in the Irish economy continues to strengthen. Behind the impressive growth in headline aggregates, such as GDP and GNP, are signs of a broad-based economic recovery. Domestic demand is now making a positive contribution to economic growth through higher consumer spending and domestic investment. Meanwhile, a favourable exchange rate and external demand environment is benefiting Irish exports. The combination of strong output growth in the internationally traded sectors of the economy along with the positive impetus from domestic spending is driving rapid growth in the Irish economy, faster than that of its EU neighbours.

Importantly, the fruits of the economic recovery are to be seen in both the labour market and the public finances. The unemployment rate has dipped below 9% for the first time since 2009 and employment growth has averaged 2.7% on an annual basis over the first three quarters of 2015. It is important to note that even with this impressive employment growth, the employment rate – the ratio of the number at work to the working age population – is still back at early 2000 levels. This indicates that although output, as measured by GDP and GNP, has regained its 2007 peak, the recovery is incomplete and more progress is needed to repair the economy and labour market and to restore living standards following the deep recession.

The public finances have continued to improve despite budgetary overruns in some areas through a combination of strong tax receipts and savings from lower debt servicing costs and falling unemployment. The general government deficit fell to 3.9% of GDP in 2014 and is likely to be lower than the budget day forecast of 2.1% this year. The general government gross debt-to-GDP ratio has continued to fall and is expected to measure around 97% of GDP by the end of 2015 compared to a peak of 120% of GDP in 2013.

Although the near-term prospects for the economy are positive, substantial risks surround the central projections. These risks, which are detailed in our report, stem from both internal and external sources. Among the domestic risks is the highly concentrated nature of production in the Irish economy, whereby a small number of sectors and firms account for the bulk of manufacturing output and exports. External risks include the impact on the Irish economy of a slowdown in the US, UK or euro area economies. Were one or more of these risks to materialise, growth would be slower and unemployment higher than envisaged in current forecasts. This would make it more challenging to reduce the debt-to-GDP ratio in line with current projections and there is a risk that the debt ratio could start rising again.

Weighing up these considerations, the rapid growth now being observed and the pace at which the economy's spare capacity is being reduced argue against the need for an expansionary fiscal stance at present. With domestic demand recovering strongly and unemployment falling, the need to eliminate the remaining budget deficit and to put the debt on a firm downward path takes precedence over using a more expansionary fiscal stance to stimulate an already rapidly growing economy.

The April 2015 spring economic statement formed the basis of the discussions at the national economic dialogue held in July. In a departure from the plan announced in the spring statement, budget 2016 showed an increase in Government expenditure for 2015 of €1.5 billion compared to the projection in April. Since the majority of the current spending in 2015 is carried into the base level of spending for 2016, the overall package of budgetary measures, combining the announcements in budget 2016 and additional White Paper spending, implies a significantly looser fiscal stance for both 2015 and 2016 than projected in the April 2015 spring economic statement.

The council assesses that the decision to increase expenditure in 2015 beyond what was originally budgeted was a deviation from prudent economic and budgetary management. There are a number of reasons for this assessment that we detailed in last week's report. The additional spending absorbs the majority of the better than expected tax revenues in 2015. This keeps the deficit and debt higher than could have been achieved and provides an unnecessary stimulus at a time of strong economic growth. Had total spending not been increased in 2015, the general Government deficit would likely be around a half a percentage point of GDP lower than currently anticipated for this year.

Using unexpected incoming revenues to fund permanent increases in expenditure at a time of strong economic growth has echoes of the last boom, when property-related revenues funded large increases in spending. In addition, an unusually large surge in corporation tax receipts accounts for a large proportion of the better than expected tax revenue in 2015. While the Revenue Commissioners have noted that the majority of the corporation tax overperformance in 2015 is not due to one-off factors, further analysis is needed to ascertain the drivers of this exceptional growth in 2015 and to determine the likely growth in this tax heading over the medium term. The Revenue Commissioners have confirmed that they have agreed to review the forecasting method for corporation tax and have established an internal working group. The council looks forward to the publication of the review's findings. In the meantime, until there is more certainty as to the sustainability of the corporation tax increase in 2015, the council is concerned about the decision to use unexpected revenues to increase expenditure.

More positively, for 2016 the Government has signalled its intention to follow the requirements of the Stability and Growth Pact and the national budgetary rule from 2016.

Government revenues in 2016 are forecast to grow faster than non-interest Government spending by some margin, which is appropriate given the ongoing recovery and consistent with prudent policy.

I will address the second major theme of the fiscal assessment report concerning the projections for the public finances beyond 2016. Following exit from the excessive deficit procedure in 2016, Ireland’s national budgetary framework comprising the domestic budgetary rule, which mirrors the requirements of the preventative arm of the Stability and Growth Pact, SGP, along with the expenditure ceilings will come into operation. Despite its complexity and imperfections in some areas, the budgetary framework provides a valuable structure to guide Irish fiscal policy and is consistent with moving Ireland’s debt to safer levels. A core requirement of Ireland’s budgetary framework is the need to provide credible medium-term plans for the public finances. As well as being a requirement of the Government's budgetary framework, proper medium-term fiscal plans are vital for a number of reasons. Such plans provide a comprehensive and realistic framework for the planning and management of public expenditure over the medium term by linking annual budgets to longer-term fiscal targets. Well-specified medium-term plans increase the predictability of the budgetary planning process by providing realistic estimates of revenue, expenditure, deficit and debt over a three-year period. Medium-term planning is important in providing a link between resource allocation and Government policy and priorities and can guard against a return to short-term, incremental budgeting.

Providing detailed medium-term projections for the public finances is a much more demanding task relative to current practice, and the Government has made some progress in the recent budget and April stability programme update, SPU. Nevertheless, the absence of a realistic medium-term plan for the public finances has not been fully addressed in budget 2016. Expenditure projections after 2016 explicitly provide for an additional €400 million each year to cover demographics but do not fully incorporate the cost of providing current levels of public services in future years, with the ratio of Government spending to GDP projected to fall by more than five percentage points by 2021. The tax forecasts do not reflect commitments announced in budget 2016, including the plan to abolish the universal social charge, USC. As a result, the projections for the budget balance in budget 2016 do not provide a useful picture of the fiscal position over the medium term.

Based on the projections in budget 2016, the council’s analysis compares the estimated expenditure growth necessary to accommodate spending pressures with the allowable expenditure growth when there are no new tax changes and all the space under the rules is used for additional spending. The analysis shows that meeting likely future expenditure needs would absorb the majority of the estimated fiscal space available after 2016. Further tax cuts would make it very difficult to fund these expenditure pressures, if fully accommodated, while complying with the rules.

Another challenge that has emerged regarding the implementation of Ireland’s budgetary framework concerns the operation of the system of expenditure ceilings. Multi-annual ceilings were introduced in 2012 to address serious expenditure management problems evident in Ireland prior to the recent fiscal crisis. These problems were manifested by a pattern of ad hocyear-to-year budgeting that inevitably contributed to pro-cyclicality in fiscal policy during the boom. Even before 2015, there have been regular upward revisions to the expenditure ceilings. Such persistent revisions undermine multi-annual public expenditure management by creating uncertainty around the scale of future resources, both in aggregate and for individual Departments. Without improvements to the existing system of expenditure planning, it is likely the recent upward revisions to expenditure ceilings will continue to revert to the pre-crisis pattern of pro-cyclical adjustments. The failure to respect expenditure ceilings raises the risk of funding increases in expenditure from windfall revenue sources. The domestic medium-term expenditure framework should be strengthened to ensure multi-annual planning becomes a central element of the budget process.

As economic conditions improve, it is timely to remember Ireland’s tendency to make budgetary mistakes during good times that have helped set the stage for the crises that followed. Avoiding a repeat of the pattern of mistakes that undermined the public finances in the past should remain foremost in the minds of policy-makers. Prudent policy is a necessary ingredient of sustainable growth in incomes and employment in a fragile global economy, and all the more so given the crisis legacy of high debt. Ireland’s post-crisis budget framework should help avoid boom-bust cycles and guide Government debt to safer levels. It is important, therefore, that the framework, in both letter and spirit, is respected in fiscal plans. Adherence to the budgetary framework during good times will help ensure a sustainable growth path and limit the need for austerity measures in any future downturn. I thank the committee for providing us with the opportunity to attend today and we look forward to taking questions and hearing the views of members.